CSX - Q4 2013

Transcript

Operator (participant)

Good morning, ladies and gentlemen, and welcome to the CSX Corporation 4th Quarter 2013 Earnings Call. As a reminder, today's call is being recorded. During this call, all participants will be in a listen-only mode. For opening remarks and introduction, I would like to turn the call over to Mr. David Baggs, Vice President of Capital Markets and Investor Relations for CSX Corporation. Sir, you may begin.

David Baggs (VP of Investor Relations)

Thank you, Shirley. And again, good morning, everyone, and welcome again to CSX Corporation's 4th quarter 2013 earnings presentation. The presentation material that we'll review this morning, along with our quarterly financial report and our safety and service measurements, are available on our website at csx.com under the Investor section. In addition, following the presentation, a webcast and podcast replay will be available on that same website. Here representing CSX this morning are Michael Ward, the company's Chairman, President, and Chief Executive Officer. Clarence Gooden, Chief Sales and Marketing Officer. Fredrik Eliasson, Chief Financial Officer. And calling in from another location is Oscar Munoz, Chief Operating Officer. Now, before we begin the formal part of our program, let me remind everyone that the presentation and other statements made by the company contain forward-looking statements. You are encouraged to review the company's disclosure on the accompanying presentation on slide 2.

This disclosure identifies forward-looking statements as well as risks and uncertainties that could cause the actual performance to differ materially from the results anticipated by these statements. In addition, let me also remind everyone that at the end of the presentation, we will conduct a question-and-answer session with the research analyst. That said, with approximately 30 analysts covering CSX, I would ask, as a courtesy for everyone, to please limit your inquiries to one primary and one follow-up question. With that, let me turn the presentation over to CSX Corporation's Chairman, President, and Chief Executive Officer, Michael Ward. Michael?

Michael Ward (Chairman, President and CEO)

Well, thank you, David, and good morning, everyone. Last evening, CSX reported 4th quarter earnings per share of $0.42, down $0.44 in the same period last year, which included $0.06 of favorable real estate gains. Revenue grew 5% in the quarter, where the ongoing headwinds in coal were more than offset by broad-based growth in our merchandise and intermodal markets, reflecting an economy that is expanding. In addition, operations were resilient even with the volume increase and the challenging winter weather at the end of the quarter as we activated additional resources to keep the network fluid and service levels high. Finally, operating income was $813 million, essentially unchanged from last year, and the operating ratio was 73.2%, up 140 basis points.

While we delivered a solid quarter from a top-line and operational perspective, you can see that the revenue growth did not flow through to the bottom line as much as we would have liked. That is because there were a number of moving parts on the expense side between 2013 and 2012 that reduced the normal flow-through we would have expected from the $137 million revenue gain. Fredrik will review this in more detail later in the presentation. Turning to our full-year results on the next page, earnings per share were $1.83, up slightly from $1.79 in 2012. Revenue increased $263 million, or 2%, to a record $12 billion. This reflects the underlying strength of our merchandise and intermodal businesses, which more than offset the decline in coal of nearly $300 million. Service levels remained strong, and the team exceeded its efficiency target, delivering $158 million of savings.

For the year, we produced operating income of $3.5 billion, which was slightly up from last year and an operating ratio of 71.1%. As we go through today's presentation, you'll continue to see the results of a team that is managing through challenges and is well-positioned to create sustainable, long-term value for customers and shareholders. Now, I'll turn the presentation over to Clarence, who will take us through the top-line results in more detail. Clarence?

Clarence Gooden (Chief Sales and Marketing Officer)

Thank you, Michael, and good morning. As you can see on the left side of the chart, total volume grew 6% and approached 1.7 million loads in the quarter with mixed performance among the diverse markets we serve. Growth in the merchandise and intermodal markets was partially offset by a decline in coal volume. As a result, merchandise and intermodal now combine for 83% of CSX's volume. Moving to the right, total revenue increased $137 million to over $3 billion in the quarter, reflecting overall volume growth and price increases across most markets. Looking at the bottom of this panel, merchandise and intermodal now combine for over three-quarters of CSX's overall revenue. Next, revenue per unit remained relatively flat. The impact of core pricing gains and liquidated damages was partially offset by the unfavorable mix impact related to the growth in intermodal versus the decline in coal.

Finally, core pricing on a same-store sales basis remained solid across nearly all markets. Recall that same-store sales are defined as shipments with the same customer, commodity, and car type, and the same origin and destination. These shipments represented nearly 80% of CSX's traffic base for the quarter. On this basis, all-in core pricing was 1.6% in the quarter, consistent with what we saw in the 4th quarter of 2012, reflecting continued rate pressure in the export coal market and more modest increases in domestic coal pricing. Since we continue to have greater variability in both our export and domestic coal business, reflecting global conditions and our fixed variable contract structure. And since our merchandise and intermodal markets are becoming a larger portion of our business, we have again provided you with the same-store sales pricing for these two markets on a combined basis.

At the bottom of this panel, you can see core pricing for these markets to average 2.9% for the quarter. This is roughly flat with what we reported in the 3rd quarter, despite lower rail inflation, which is embedded in many of our contract escalators. We remain confident that the value created by our service product for our customers provides a solid foundation for growth and pricing above rail inflation over the long term. Now, let's look at the individual markets in more detail, starting with coal. Coal revenue declined 9% in the quarter to $679 million. Domestic coal tonnage declined 9%, impacted by continued high stockpiles in our service territory. Export coal tonnage increased 6% as shipments of metallurgical coal increased compared to a weak prior-year quarter. Finally, total revenue per unit was down 4%, with lower export pricing more than offsetting domestic pricing gains.

Next, let's look at the merchandise business. Overall, merchandise revenue increased 10% to over $1.8 billion in the quarter. Volume in the agricultural sector was up 5%. Feed grain shipments, both domestic and export, increased sharply due to a strong 2013 harvest. In addition, ethanol shipments grew as lower corn prices resulted in higher ethanol productions. The construction sector grew 4% overall as the continued recovery of the residential housing market drove increased shipments of building products. In addition, industrial waste volumes were strong due to an increase in shipments associated with large-scale remediation projects. Finally, the industrial sector was up 10% on the strength of energy-related commodities, including crude oil, liquefied petroleum gas, and frac sand. Moving to the next page, let's review our intermodal business. Intermodal revenue increased 10% to $437 million.

Domestic volume was up nearly 13%, setting a new quarterly CSX record driven by growth with our existing customers and continued highway-to-rail conversions. International volume was up 9% year-over-year on growth with existing customers, new service offerings, and a favorable comparison to the 4th quarter of 2012 when shipments were disrupted by Hurricane Sandy. Total intermodal revenue per unit declined 1% as continued solid core pricing gains were more than offset by the lower fuel recovery mix. Finally, 90% of our intermodal traffic is now moving in lanes that are double-stack cleared. That number will continue to grow through strategic network investments, most significantly the Virginia Avenue Tunnel Clearance Project in Washington, D.C. Now, let's turn to the outlook for the 1st quarter. Looking forward, we expect stable to favorable conditions for over 90% of our markets, and the overall volume outlook for the 1st quarter is positive.

Looking at some of the key markets, agriculture is favorable, with higher year-over-year crop yields supporting continued growth in grain shipments. The outlook for the automotive market is also favorable, as North American light vehicle production continues to grow. We expect growth in chemicals as we continue to capture opportunities created by the expanding domestic oil and gas industry. We expect our domestic coal volume will grow in the 1st quarter as we cycle a relatively weak 1st quarter in 2013. At the same time, our outlook for full-year domestic coal volume is neutral, but the average length of haul will be shorter this year and will contribute to a lower overall revenue per unit. The continued expansion in the U.S. housing and construction markets will drive growth in forest products and in our mineral markets.

Strong intermodal growth will continue as our strategic network investments and service reliability support highway-to-rail conversions. The outlook for our phosphate and fertilizer volumes is neutral due to high inventory levels and volatile commodity pricing, which produces uncertainty in the market. Finally, export coal. Volume is expected to decline in the 1st quarter, and our best estimate of 2014 volume is in the mid-30 million-ton range, reflecting soft global market conditions, particularly in the thermal market. At the same time, rail pricing will remain low in order to help keep U.S. coals competitive globally and optimize our bottom line. Now, I'll wrap up on the next slide. The expansion of the U.S. economy is expected to continue with projected GDP and IDP growth of 2.7% and 3%, respectively. In addition, both the ISM purchasing managers and the customer inventory indices point to continued expansion in 2014.

Looking at the full year, our merchandise and intermodal volumes are expected to grow faster than the overall economy, with gains offsetting the continued headwinds in coal, particularly the export market. Our intermodal business is expected to be the major growth engine for CSX going forward, as we look to further tap into an estimated nine million truckload opportunity, which aligns very well with our network by leveraging a strong service product, our highway-to-rail, or H2R, initiative, and strategic investments in both terminal and network capacity. For example, in 2014, we will complete our new terminal in Montreal and expand the capacity of the Northwest Ohio Intermodal Hub. Finally, the value of the service we provide continues to support both growth and pricing above rail inflation over the long term. Thank you. And now, I'll turn the presentation over to Oscar to review our operating results.

Oscar Munoz (COO)

Thank you, Clarence, and good morning, everyone. I am pleased to report that 2013 was a year highlighted by an industry-leading safety record, consistent high levels of service for our customers, and continued efficiency gains. As you know, safety is our first and foremost priority. In 2013, CSX continued to evolve its public and employee safety programs, leading the industry in both personal injury and train accident frequency rates. While we are pleased with those accomplishments, we are saddened by the loss of 4 employees last year and are committed to avoid such tragedies and to keep all our employees and the communities in which we work safe. Let me now turn to the company's operating performance. While overall performance remained strong, some of the measures were down slightly in the 4th quarter, both for CSX and the rest of the industry.

This is in part due to more challenging weather conditions at the end of 2013, combined with strong volume levels driven by the record grain harvest, crude oil shipments, and peak intermodal levels. Looking at our network measures, velocity held fairly constant and well improved once again in the 4th quarter. This is evidence of our strong asset utilization and ability to keep the network fluid in the face of difficult operating conditions. Now, before I turn to my resource management discussion on the next slide, let me just quickly express my gratitude to all the field personnel at CSX for their professionalism, drive, and extra efforts to serve our customers safely and efficiently during these last few challenging weeks. Thank you all.

Now, turning to slide 15, car loads were up 6% and gross ton miles were up 6.5% in the quarter as we saw strong growth in customer shipments. Moving down the chart, you can see that resource counts were up significantly less than volume, driving continued efficiency gains. Road crew starts were only up about 3.5%, primarily as a result of growth in unit train commodities such as grain and crude oil. The active locomotive count was up 3%, largely due to higher volume as overall efficiency improved once again. Looking sequentially, the active locomotive count rose by approximately 150 units from the 3rd quarter to the 4th quarter to handle the increased volume. In fact, we had anticipated even more savings from locomotive productivity as we had seen earlier in the year, but made the conscious decision to keep these locomotives active to support more fluid operations.

Furthermore, we have retained these units in service in the early part of 2014 to provide extra recoverability during this especially harsh early winter. As the year progresses, we will continue to flex our resources as quickly as possible based on volume, service demands, and, of course, operating conditions. Finally, total operations employment was essentially flat in the quarter, reflecting significant improvements in employee efficiency against the volume gains in the quarter. Let's now look at full-year efficiency savings on slide 16. As a result of the operating team's tremendous focus to deliver productivity while maintaining high service levels, CSX generated $158 million of efficiency savings in 2013, in line with our guidance. The most significant cost savings in the year came from fuel efficiency initiatives, crew productivity, and improved locomotive utilization.

Further, I am pleased to tell you today that we once again have a good line of sight to specific initiatives for further savings and expect to generate over $130 million of efficiency savings in 2014. Now, let me wrap up on the next slide. CSX's primary focus remains ensuring that all our employees and the communities we work in stay safe. Service remains at high levels, and customer satisfaction is at an all-time high. CSX recently received a record score in a third-party survey of our customers, eclipsing 2012's previous high. We will build on this success to continue providing flexible solutions for our customers to enable growth while improving our asset utilization.

Lastly, as I mentioned, I'm very pleased with the operating team's delivery of over $150 million in savings in 2013 and feel very confident about our ability to generate another year of at least $130 million of savings in 2014. So with that, let me turn the presentation over to Fredrik to review the financials.

Fredrik Eliasson (CFO)

Thank you, Oscar, and good morning, everyone. Looking at the top line, revenue increased 5% in the 4th quarter as gains in merchandise and intermodal continued to offset the decline in coal. Expenses increased 7% versus last year as increased labor, MS&O, and depreciation costs more than offset favorability in fuel and rents. Operating income was $813 million, down $2 million versus the prior year. Looking below the line, interest expense was down $6 million versus last year, driven by modestly lower debt levels and favorable interest rates on debt that was refinanced in 2013. Other income declined $59 million, primarily driven by the cycling of a $57 million pre-tax gain on the sale of a non-operating property in the 4th quarter of 2012. Income taxes were $248 million in the quarter for an effective tax rate of approximately 37%.

Overall, net earnings were $426 million, and EPS was $0.42 per share, down from $449 million and $0.44, respectively, from the prior year period. The prior year period has been revised and includes a revenue adjustment which increased EPS of $0.01 per share, the details of which are disclosed in the quarterly financial report. As we turn to the next slide, let's briefly discuss how fuel lag impacted the quarter. On a year-over-year basis, the effect of the lag in our fuel surcharge program was $2 million favorable. This reflects $7 million of positive in-quarter lag during the 4th quarter of 2013 versus $5 million of positive in-quarter lag for the same period in the prior year. Based on the current forward curve, we would expect the year-over-year fuel lag impact to be roughly flat in the 1st quarter.

Turning to the next slide, let's review our expenses. Overall expenses increased 7% in the quarter. I will talk about the top three expense items in more detail on the next slide, but let me first briefly speak to the bottom two on this chart. Depreciation was up 4% to $281 million due to the increase in the net asset base. Looking at 2014, we anticipate depreciation to be up around $10 million on a year-over-year basis in each quarter. Equipment rent was down 2% to $95 million as efficiency more than offset higher volume-related costs. Now, let's discuss our other expenses, starting with labor and fringe on the left. Labor and fringe expense increased 7%, or $51 million versus last year, on higher incentive compensation, volume-related costs associated with a 6.5% increase in gross ton miles, and inflation. Looking at 2014, we currently expect employment levels to remain roughly flat.

In addition, we expect labor inflation to increase around $15 million-$20 million on a year-over-year basis in each quarter. We also expect full-year incentive compensation to no longer be a headwind. Moving to the right on the slide, MS&O expense increased 17%, or $93 million versus last year, driven by the cycling of $35 million of real estate gains recognized in 2012, as well as a $31 million increase in expenses related to higher volume and resource levels. Moving down the table, inflation was up $11 million, and lastly, lower derailment-related expenses were more than offset by unfavorable year-over-year casualty adjustments, netting to a cost increase of $16 million.

Looking at the 1st half of 2014, MS&O expense will continue to be impacted by the cycling of real estate gains, which, as a reminder, totaled $49 million in the 1st quarter and $36 million in the 2nd quarter of 2013. In addition, we expect higher year-over-year expenses related to inflation and volume growth. Lastly, fuel expense decreased 3%, or $13 million versus last year, as favorable price driven by a 7% decline in our fuel price per gallon and an improvement in efficiency more than offset higher volume-related costs. Looking back on the quarter as a whole, CSX delivered strong top-line performance. However, the $137 million revenue increase did not flow through the bottom line as we would normally expected, reflecting difficult expense comparisons. Most notably, headwinds in real estate gains, incentive compensation, and net cash revenue costs combined to lower operating income by $75 million year-over-year.

As I look at 2014 and we finish cycling our real estate gains in the 1st half, we expect to once again be able to deliver earnings growth in the 2nd half. With that, let's turn to CSX's full-year results on the next slide. On a full-year basis, revenue was up 2% to just over $12 billion as volume growth in merchandise and intermodal, pricing gains, and higher liquidated damages more than offset coal revenue declines. Total expense for the year was up 3% as higher inflation, volume-related costs, incentive compensation, and depreciation were partially offset by productivity savings. As a result, full-year operating income was up slightly year-over-year, while the operating ratio was 71.1% versus 70.6% in the prior year. Finally, earnings per share increased 2%, reflecting the impact of our share repurchase program. Here again, prior quarters had been revised for a revenue adjustment.

As a result of the adjustment, there was no net impact for the full year 2012, while full-year 2013 decreases by $0.02 per share, the details of which are disclosed in the quarterly financial report. Now, let's discuss some of the key drivers of CSX's full-year performance. Challenges in our coal business resulted in 2013 being another transition year for CSX. The company lost $295 million of coal revenue in 2013 after losing over $500 million in 2012. We are pleased that we've been able to deliver modest earnings per share growth in each of the last two years despite facing such a steep headwind in our coal business. 2013 was made even more challenging by several other headwinds outside of coal, including higher incentive compensation and lower real estate gains, which totaled nearly $130 million relative to 2012.

These higher costs were partially offset by higher liquidated damages due to customer contractual shortfalls. As a result, the net year-over-year impact of these other items was about $40 million unfavorable. However, CSX continued to execute well on the things that are more within our control. We generated efficiency savings in excess of inflation, delivered industry-leading safety results, and achieved notable improvements in customer satisfaction. Strong service allowed CSX to capitalize on key secular growth trends such as increasing demand for oil and gas-related shipments and the continued highway-to-rail conversion east of the Mississippi. These trends combined with broader economic growth to drive nearly $485 million in incremental merchandise and intermodal revenue in 2013. Looking forward, we believe that maintaining superior service levels for our customers will enable merchandise and intermodal to collectively grow at a pace exceeding broader economic activity long term.

As a result of this growth opportunity, we remain committed to reinvesting in our business, which we will discuss further on the next slide. In 2014, CSX plans to invest $2.3 billion in our business, flat to 2013. In the chart on the left, you can see that over half the capital spending in 2014 will again be used to maintain core infrastructure to help ensure a safe and fluid network. In addition, our equipment investment in locomotive and freight cars ensures CSX has the appropriate level of rolling stock to support commercial demand projections. We will also continue to focus on strategic investments that support long-term profitable growth and productivity initiatives that improve the returns of the business.

Finally, positive train control, which in total is still expected to cost $1.7 billion, represents $300 million of spending in 2014, leaving approximately $500 million to be spent in the coming years to complete the project. Profitable reinvestment in our business is just one part of a balanced approach to cash deployment. Let's turn to slide 26 to discuss the other two, dividends and share buybacks. CSX paid dividends of $0.59 per share in 2013, up 9% versus the prior year, and builds on 11 increases we have made over the last eight years. Going forward, CSX remains committed to a dividend payout range of 30%-35% of trailing 12 months' earnings, and this will be reviewed annually after the 1st quarter.

Moving to the right, CSX repurchased $353 million over the course of the year and is on track to complete its current $1 billion authorization by the beginning of the 2nd quarter of 2015. Collectively, CSX had now repurchased $4.1 billion of shares since the start of 2010 and $8.3 billion of shares since the beginning of 2006, the latter representing over 1/3 of total shares outstanding. Now, let me wrap up on the next slide. Despite a modest step back in the operating ratio in 2013, CSX remains on track to achieve a high 60s operating ratio by 2015. Moreover, our focus on efficiency improvements, profitable volume growth, and pricing above rail inflation will keep us on the right path to sustain a mid-60s operating ratio longer term.

However, achieving a 10%-15% EPS CAGR over the next two years will clearly be more challenging than we envisioned in early 2013 for two key reasons. First, 2013 benefited from favorable items, most notably liquidated damages and real estate gains, which we do not expect to occur at the same rate over the next two years. As a result, we are starting with a higher 2013 base than was originally anticipated. In addition, as we have discussed on prior calls, our EPS guidance was based on expectation that total coal revenue would be flat over the 2013-2015 time period. Unfortunately, coming into 2014, both domestic and export coal markets have not stabilized to the extent we had originally anticipated. As such, we currently expect additional year-over-year coal revenue declines in 2014.

As a result, coal revenues will now need to improve in 2015 for us to achieve the low end of our EPS guidance. Despite this challenge, we continue to believe that coal will stabilize as it settles into its new role within our nation's energy portfolio. When this happens, we are confident that CSX's ability to price above rail inflation, drive efficiency improvements, and grow profitably will combine to once again drive sustainable double-digit earnings per share growth. With that, let me turn the presentation back to Michael for his closing remarks.

Michael Ward (Chairman, President and CEO)

Thank you, Fredrik. In 2013, our team once again demonstrated the ability to manage the volatility of the marketplace by focusing on the things we control the most and delivering value for customers and shareholders. As we look to the year ahead, we see broad-based growth across most of our markets.

While the headwinds in coal will persist in 2014, CSX's merchandise and intermodal markets, which now collectively represent 83% of our volume, are expected to grow at a rate higher than the overall economy. Over the past four years alone, these markets have collectively added $2.7 billion of revenue to our top line and allowed CSX to still produce earnings growth while going through the evolution in the energy markets. Continued growth in these markets, along with greater efficiency and inflation-plus pricing that reflects the value of our service, will help us grow profitably long term. Fredrik mentioned earlier this is another transition year for CSX as we adjust to the new energy environment. But when I look to the future, I see a vibrant business with a diverse portfolio capable of sustaining double-digit earnings growth long term.

I'm confident we can capitalize on the momentum before us as the economy continues to grow and as the nation increasingly recognizes the economic and environmental benefits of rail transportation. Now, we'll be glad to take your questions.

Operator (participant)

Thank you. We will now be conducting a question-and-answer session. If you would like to ask a question, please press star one. To withdraw yourself from the queue, you may press star two. And our first question comes from Mr. William Greene of Morgan Stanley. You may ask your question.

William Greene (Managing Director)

Hi. Good morning.

Clarence Gooden (Chief Sales and Marketing Officer)

Good morning.

William Greene (Managing Director)

Clarence, maybe I can start with you just on some of the volume commentary. Very good volume trends in the 4th quarter. But how do we think about that sustaining? You went through a lot of positives in terms of the buckets that you discussed here. The strength so far, though, this year hasn't been there. So can you sort of scrape apart the weather from the underlying and talk a little bit about how you feel the underlying freight environment looks for you? Does it feel like it's accelerating or just kind of stable because we saw an acceleration in the 4th quarter?

Clarence Gooden (Chief Sales and Marketing Officer)

Well, good morning, Bill. I would describe it as this. The first two weeks were essentially, from a freight standpoint, a non-event due to the weather impact that occurred, as you're aware. We had severe weather across the north end of our railroad, and a lot of freight was backed up. But my view is that by the end of the quarter, we will have recovered any of that revenue and freight that we would have lost. In fact, just this week, when we report our numbers for the week, you'll find that our volumes have picked up significantly.

So on the first part of your question, I feel very positive as we move into the first part of this year. And looking forward into this year, the economic indicators that I see show a moderately expanding U.S. economy. And so I feel good that we can continue both in our intermodal area and our agricultural area and in our chemical areas, both traditional chemicals and those that are related to the oil and gas exploration industry. I feel very positive in those regards. So I think, Bill, we're going to have a very good 2014.

William Greene (Managing Director)

Okay. So given that outlook, how soon is it before you can start to push a little bit harder on the pricing where things are strong? We obviously understand the export coal challenges. But when you look at the areas of strength, how long does it take before the market will start to allow you to price higher, so accelerating pricing in those segments?

Clarence Gooden (Chief Sales and Marketing Officer)

Well, our pricing last quarter, as you know, at 2.9 on all commodities, our merchandise and intermodal commodities excluding coal, could have been slightly higher, somewhere in the 3.2 area, had the impact of RCAF in the 4th quarter not have been negative. So we feel like we're pricing, except for that coal, near what we would view as what long-term inflation is, which is 3%-4%. Current inflation last year, as you know, came in very low. The current projection for inflation by IHS Global Insight that came out on January the 14th is at 1.5%. So with the pricing that we already have in place, you'll see our pricing start to firm up here in 2014. Now, where we have longer-term contracts, that may take six months, nine months until they come up for renewal before you'll see the impact on those.

William Greene (Managing Director)

Okay. Thanks for the time.

Clarence Gooden (Chief Sales and Marketing Officer)

Thank you.

Thank you. Our next question comes from Mr. Anthony Gallo with Wells Fargo. He may ask your question.

Michael Ward (Chairman, President and CEO)

Good morning.

Anthony Gallo (Managing Director)

Good morning. I actually have a crude-by-rail question. It looks like there might be some regulatory changes coming, largely focused on the tank car itself. And I'm curious if there's a grace period, so to speak, to retrofit some of these general-purpose cars. Do you need to think differently about your pricing or, more specifically, your liability exposure on some of those older cars that may or may not meet the new regulations?

Michael Ward (Chairman, President and CEO)

Oscar, would you like to take that one, please?

Oscar Munoz (COO)

Thank you. Yes. Clearly, from a tank car standard perspective, there are many discussions and conversations going about that. As we move forward, clearly, we will take all of that into account and, in working with our regulators and our customers, try to ensure that we have the best sort of footstep going forward.

Anthony Gallo (Managing Director)

It might be a guess at this point that the changes will not be material, so there will be some higher costs but not material enough to really change the trajectory of that business. Is that a fair way to think about it at this point?

Oscar Munoz (COO)

It's hard to say at this point in time. I think those standards are under review under the PHMSA organization. And I think as we get information from them, we'll get a better sense of that.

Anthony Gallo (Managing Director)

That's fair. Thank you,

Michael Ward (Chairman, President and CEO)

Oscar. This is Michael. You do know these cars are largely owned by the customers or leasing companies. And at least there's some speculation out there. There may be some requirements for retrofits. There's been various discussions as to how much those retrofits should be. So again, it'll probably be a number of months as that evolves. But our guess is that the required expense, while large, won't impact our ability to move this crude-by-rail.

Anthony Gallo (Managing Director)

That makes sense. Thank you, gentlemen.

Operator (participant)

Thank you. Our next question comes from Mr. Ken Hoexter with Merrill Lynch. You may ask your question.

Ken Hoexter (Managing Director)

Great. Good morning. Oscar, the on-time arrivals and delayed departures slipped a bit, it looks like, year-over-year. And just wondering how, when you think about the $130 million of productivity costs, how that impacts, I guess, the goal of ultimately what Michael was talking about in terms of double-digit earnings growth. So how do you think about the productivity or the operation and performance part of that goal, or is that outside of that goal?

Oscar Munoz (COO)

No. Productivity has always been part of our overall goal. And as we discussed the 4th quarter, again, you just have to keep in mind that we experienced one of the first true fall peaks in recent memory with the strong growth across all the markets that Clarence discussed. And while we did have some modest impact to, as you mentioned, departures and arrivals when the harsh weather arrived and then we had a couple of derailments in critical spots, so all the things that an outdoor sport of railroading eventually faces, I'm very confident, incredibly confident, we can continue to improve our service and operate safely while we get the productivity.

Those initiatives that we have for next year are very much aligned, and the objectives are being worked by the team. So really, it's part of the overall goal, and we have great line of sight to them.

Ken Hoexter (Managing Director)

Great. That's very helpful. If I can just get a follow-up on Clarence mentioned targeting flat domestic coal after a 10% dip this quarter. I just wonder, is there something changing or comps or a lost contract or anything else that's in there that gives the confidence that we're going to see it on the domestic utility side move back to flat?

Clarence Gooden (Chief Sales and Marketing Officer)

Again, on the 1st quarter, we think it'll actually be up on a year-over-year basis because we're on weak comparables. Last year's 1st quarter was weak. On a full-year basis, we think we've seen coal start to bottom out. This is point number one. Point number two is, if this weather continues the way it is, the utility stockpiles will continue to draw down. Those in the south are not yet at normal levels, but they are continuing to drop. Those that are in the north are at normal levels. And with some business additions and all that we were able to pick up here in the first of the year, that was the whole point that I tried to make with you, that you could expect, particularly because of some moves we have in our northern region, shorter lengths of hauls, which in turn would produce a lower RPU.

Ken Hoexter (Managing Director)

Thank you very much.

Operator (participant)

Thank you. And our next question comes from Mr. Brandon Oglenski from Barclays. You may ask your question.

Brandon Oglenski (Director and Senior Equity Analyst)

Yeah. Good morning, everyone. Clarence, if I could follow up from Ken's question there. So you did mention the shorter length of haul impacting RPU. But can you also discuss? In the past, you've highlighted that you've renegotiated a significant portion of your domestic contracts this year. And that, along with I think your commentary around export pricing was you're going to try to keep rates a little bit lower. So how should we think about how those new contracts, along with the lower export environment, is going to impact overall coal RPU heading forward?

Clarence Gooden (Chief Sales and Marketing Officer)

Well, without getting into the details of our contract discussions and our customers because each one is different, what we've done is tried to focus on optimizing our bottom line. And I feel pretty good about where we've ended up. I did mention to you that we will have, as a result of some of those negotiations, a shorter length to haul in our traffic this year.

You can expect the export rates will remain low until the market itself changes, particularly the thermal market in Europe. We feel like we've come out of here pretty good. About a year ago, we told you that about 25% of our utility contracts were under the fixed variable structure. Some of our customers have not chosen to go to the fixed variable. But now, about 35% of our utility business is under the fixed variable.

Brandon Oglenski (Director and Senior Equity Analyst)

All right. Thank you. Fredrik, on the MS&O line, I realize you're lacking the real estate sales gains. It did seem a little bit higher on a sequential basis. Can you talk about some of the drivers of that increase and how we should be thinking about MS&O in 2014?

Fredrik Eliasson (CFO)

Sure. So sequentially, from the 3rd quarter, we did see a little bit of impact of higher train accidents in the 4th quarter versus the 3rd quarter. We also clearly saw the impact of volume. And it was also one of those quarters where we saw a fair amount of SG&A expenses all moving in the wrong direction from bad debt and some other things. So a lot of things went the wrong way. And some impact from weather there as well, I would say. So sequentially, it was a tough quarter. So I think about 2014, I would say in the 1st quarter, you know that overall, MS&O is the hardest one to forecast.

But if you start with last year's performance, which I think was around 5-10 or so, you add $50 million of real estate gains that we don't have here in the 1st quarter of 2014, add inflation, and look at headcount, which is roughly flat, maybe up 1% or so based on what we're seeing, and some weather impact, probably a good starting point. I don't think it's going to be, at least not at this point. I don't expect it to be as high as it was here in the 4th quarter. But it's clearly going to be higher than what you saw last year.

Brandon Oglenski (Director and Senior Equity Analyst)

Okay. Thank you.

Operator (participant)

Thank you. Our next question comes from Mr. Chris Wetherbee with Citi. You may ask your question.

Chris Wetherbee (Senior Research Analyst)

Thanks. Good morning. Oscar, just on the resource levels, as you turn the page into the 1st quarter, we still have some weather kind of persist for a while. Should we expect the same types of resource levels to address the volume growth that Clarence is expecting in the 1st quarter? Just want to get a rough sense of kind of how we're thinking about it as we transition from 4Q into the 1st quarter.

Oscar Munoz (COO)

Yeah, Chris. I think the way to think about it and the way we have thought about it is we've forecast most of this volume increase and have been preparing for it. Our pipeline of engineers and conductors is well in line. We've got roughly 1,000 people coming out over here over the our peak period of GTMs is weeks 9 through 23. So we've been planning for this for some time. So the resources that we've raised, primarily locomotives and the engineers and conductor work, I think will just stay relatively static. I mean, we've got all the people in place, and we're waiting for and continuing to deliver on this great business that's coming our way. So no real change.

Chris Wetherbee (Senior Research Analyst)

Okay. That's helpful. And then just taking a step back, thinking bigger picture for the 1st half of 2014 when you have some real estate issues and some liquidated damages to overcome, do you have the ability, you think, to grow earnings power or grow earnings in the 1st half of the year? Is that something we should be thinking about more sort of back at once you eclipse some of these headwinds that you have? I guess I just want to think about that from a bigger picture when you think about the growth potential in context of double digits, longer-term, once coal stabilizes.

Fredrik Eliasson (CFO)

Yeah. So let me just answer your question in terms of earnings for 2014 first. We laid out our longer-term guidance in terms of the fact that we still have visibility into the low end of the guidance. We're going to need some help from coal. But in 2014 specifically, I would say that we do expect earnings growth in 2014. But it is going to be predominantly in the 2nd half of the year. I would say the 1st half of the year because of the headwinds with real estate gains and also cycling the full effect of the lower prices we have in our export coal business. I would say the best place to think about the 1st half is probably earnings to be flat to slightly down. But for the full year, we do expect earnings to grow.

Chris Wetherbee (Senior Research Analyst)

Okay. That's very helpful. Thank you very much for the time.

Operator (participant)

Thank you. Our next question comes from Ms. Allison Landry with Credit Suisse. You may ask your question.

Allison Landry (Senior Equity Research Analyst)

Thanks. Good morning. Following up on that last question, I wanted to ask about your confidence level for full-year domestic coal to be flat and specifically if the key embedded assumption is that stockpiles normalize at some point in the year, end of summer or by the close of the year. And really, what I'm getting at is, is the stockpile situation a potential swing factor that could compromise your ability to grow earnings for the full year?

Clarence Gooden (Chief Sales and Marketing Officer)

Allison, this is Clarence. I don't think so at all. I think that those stockpiles will be normalized here, and coal will have bottomed out somewhere by the middle of the year. And I expect, if anything, there's more positive to it than downside.

Michael Ward (Chairman, President and CEO)

The risk, if you saw any risk, would be in the export market, right?

Clarence Gooden (Chief Sales and Marketing Officer)

That's right.

Allison Landry (Senior Equity Research Analyst)

Okay. So below normal summer, that shouldn't have any impact if that was to occur?

Clarence Gooden (Chief Sales and Marketing Officer)

Below normal summer? Meaning a cooler summer?

Allison Landry (Senior Equity Research Analyst)

Yes.

Clarence Gooden (Chief Sales and Marketing Officer)

Yeah. Okay. It could, but I don't expect it to. It could, but I don't expect it to.

Allison Landry (Senior Equity Research Analyst)

Okay. And then just as a follow-up question, on I believe it was slide 12, there's a comment that says, "Pricing to remain above rail inflation for the long term." Is there any inference here that this may not be the case for 2014?

Clarence Gooden (Chief Sales and Marketing Officer)

No. There's no inference that that is the case for 2014.

Allison Landry (Senior Equity Research Analyst)

Okay. Great. Thank you very much.

Operator (participant)

Thank you. Our next question comes from Mr. Justin Yagerman with Deutsche Bank. You may ask your question.

Justin Yagerman (Director and Senior Equity Research Analyst)

Hey. Good morning, guys.

Michael Ward (Chairman, President and CEO)

Good morning.

William Greene (Managing Director)

So it feels like, to some extent I mean, if I go back several years, we were talking about pricing above inflation when you guys had legacy, and you had the ability to kind of command that kind of pricing in the coal industry. And now we're talking about pricing above inflation ex coal. And I realize that coal has been lower as a percent of revenue. But I mean, in terms of just the absolute statement of, "We need to price above inflation," do you feel like you've lost control of that because of the change in the coal market? And is there a way to get that back in your other markets whereby you can make that statement independent of coal?

Clarence Gooden (Chief Sales and Marketing Officer)

Well, I don't think that coal's going to depend on a multiple series of events here. The export side of the coal is going to appear going to be dealing with what is the demand both on the thermal side and the metallurgical side. And it's a global-traded commodity. So as it goes up, we're going to go up with it in terms of pricing. Excuse me. As it goes down, we're going to go down to what we feel like is a floor level that we'll go down to in our pricing on that. In the other markets, I think our record has been that we have consistently priced in the +3% area over the last few quarters here. And I see no reason for that not to continue.

In fact, if the economy does what some economists have been predicting just as recently as yesterday with the release of the Beige Book saying that in most sectors of the United States, the economy was growing modestly, then our pricing power comes back even stronger.

Michael Ward (Chairman, President and CEO)

Justin, this is Michael. I'd like to add a little bit to that. So if I think about the value creation we did over the, let's call it, the 2004 to 2012 period. As you know, same-store sales was running at about 6.5% per year. Obviously, in the last couple of years, it's been more in that 3%-4% range. We knew that the trees don't grow to the sky. We were not going to get 6.5% forever. We think that 3%-4% is very sustainable over time. As I think about our business, we've created a lot of value through pricing and through productivity. Going forward, we still got to have the above-inflation pricing, which we're very confident of. We have to have the productivity, which we're very confident of. We need to add that third element, which is growth.

If you look, over the last four years, we've grown the merchandise and intermodal $2.7 billion. It's been somewhat masked that we've been able to grow this because of that dramatic decline in coal. But as that coal stabilizes, I think those will be the three value creators: growth and intermodal and merchandise, continued productivity, and pricing above inflation.

Justin Yagerman (Director and Senior Equity Research Analyst)

Yeah. And I appreciate that. And I'm not looking to minimize what you guys have done in the past or with the other pieces of the business. I guess what I'm trying to get at is that 3%-4% in the last couple of years, that's a 3%-4% net of coal. If you look at it with coal in, it's significantly lower than that. So is there a way to talk about 3%-4% if that's kind of the inflation hurdle all in, even without coal changing?

Michael Ward (Chairman, President and CEO)

I understand what you're asking. And so if I look at the coal business, obviously, it's been in a pretty dramatic transformation here. And we've been adapting to that. And obviously, the pricing has been a little weaker, especially in the export side. But as the coal stabilizes, the coal-based utility plants that are there are going to be required to keep the lights on. And I think our normal pricing within coal will resume as we go forward. The export market is always going to be more volatile. We think it's volatile at a higher tonnage level. But clearly, that's the part that's going to be the most variable. So we're going to be up some in uptimes and down some in downtimes in the export. But the domestic, once we get this reset, we'll have what I'll call normal pricing power.

Justin Yagerman (Director and Senior Equity Research Analyst)

Okay. And just a quick housekeeping question, Clarence. How much of the domestic utility book is up for negotiation this year? And how much do you think you'll be on fixed variable by the end of 2014?

Clarence Gooden (Chief Sales and Marketing Officer)

There's around 25% of our utility contracts are up for renewal this year. It's a little difficult for me to speculate right now. We've got a couple of utilities that are looking at going to the fixed variable but are not yet quite sold on the concept.

Justin Yagerman (Director and Senior Equity Research Analyst)

And those renewals are at the end of the year, right?

Clarence Gooden (Chief Sales and Marketing Officer)

That's right.

Justin Yagerman (Director and Senior Equity Research Analyst)

Okay. Great. Thank you so much for the time.

Operator (participant)

Thank you. Our next question comes from Mr. Thomas Kim with Goldman Sachs. You may ask your question.

Thomas Kim (Senior Equity Research Analyst)

Thanks very much. Just with regard to expectations for crew starts and active locomotives, can you give us a range or some guidance around those?

Oscar Munoz (COO)

Again, this is Oscar. I think in the general same sort of trend that we've had, our crew starts will be less than our volume in GTMs. That consistent pattern will, I think, continue. So no real change.

Thomas Kim (Senior Equity Research Analyst)

Okay. All right. Great. And then just going back to some of the questions with regard to the crude by rail, are you currently having discussions with shippers about tank car replacements? And what's their response been so far? Thanks.

Clarence Gooden (Chief Sales and Marketing Officer)

Well, we have been having discussions with shippers about some of the proposed regulations that the various agencies under the Department of Transportation has. But sort of along the lines that Michael and Oscar addressed earlier, it's much too early to speculate on what those regulations are going to be. So the shippers are in about the same mode that the rest of us is. And that's to take a, you know, set and be cautious and let's see what the final outcome is.

Michael Ward (Chairman, President and CEO)

There are active dialogues going on with the customers, with the various agencies within the DOT. And it'll take some time to work these things through. But there is active dialogue to make sure we continue to build on the great safety record we have in moving these products. Thomas?

Thomas Kim (Senior Equity Research Analyst)

Thanks very much.

Clarence Gooden (Chief Sales and Marketing Officer)

Okay. Thank you.

Operator (participant)

Thank you. Our next question comes from Mr. Tom Wadewitz with J.P. Morgan. You may ask your question.

Tom Wadewitz (Senior Equity Research Analyst)

Hey. Yes. Good morning. I wanted to, I guess, first Fredrik, what's the base you're looking at for the 2020? I guess there are a bunch of moving parts. But what's the 2013 base you're looking at for the earnings growth the next couple of years?

Fredrik Eliasson (CFO)

It's $1.83.

Tom Wadewitz (Senior Equity Research Analyst)

Okay. So you've got $1.83. If I understand your comments right, you seem to imply that it would be difficult to get to the low end, so the 10% CAGR over two years, given, I guess, a little higher base than the coal headwind. I mean, is that correct?

Fredrik Eliasson (CFO)

Yeah. It's consistent with what we've said now for, I guess, over a quarter, which is that we're going to make some progress here in 2014 towards the long-term guidance that we have in place. It's clearly going to be more backend-loaded than we had originally estimated. And we're going to need some help from coal in 2015 in order to be able to get there. That's our best view at this point.

Tom Wadewitz (Senior Equity Research Analyst)

Okay. And I think you're saying, "Well, one of the big things that's different is we're a little more negative on coal, and coal's more of a headwind in 2014." When I look at that compared to Clarence's comments on utility, he sounds actually reasonably, I don't know if constructive is an overstatement. But it doesn't sound like utility's a big headwind this year. So can you give me a little more color on how large the export headwind is that you're assuming that kind of prevents you from getting to that 10% growth CAGR? And I don't know if you want to say, "Well, thermal tons are down a lot, and net tons are stable," or any kind of further perspective on how big that export headwind and what's within that would be helpful.

Fredrik Eliasson (CFO)

Well, I mean, with the guidance that Clarence provided in his prepared remark that we think in a mid-30s range is what export coal's going to be for 2014, and we ended up 2013 with about 44 million tons, you have a pretty significant impact just on the volume alone. Then on top of that, you're going to be cycling the price adjustments that we did throughout 2013 and especially in the 3rd quarter. So between the volume impact and the price increase or price decrease that we did last year, you have a pretty significant headwind. And then as Clarence said, "While we think volume for the year on the domestic side will be flat, we do expect our revenue per unit on the domestic side to be down in that low single-digit number." So there will be significant headwind in our coal business for 2014.

Now, the good news is that if you ask me about our coal business today versus two months ago, because of what we're seeing on the weather side here over the last few weeks, we feel a little bit better about where things can end up. But right now, the best visibility into is that we're going to need some help in 2015 to get to that low end of that guidance. We're going to need some help on the coal side.

Tom Wadewitz (Senior Equity Research Analyst)

But just one further piece within that, Clarence. Is that move from 44 down to mid-30s, is that a sharp decline in the thermal tons? Or is that a decline in tonnage in both thermal and met?

Clarence Gooden (Chief Sales and Marketing Officer)

Most of the decline is in the thermal.

Tom Wadewitz (Senior Equity Research Analyst)

Most of the thermal.

Some met, right? Some met. But most of it's in the thermal.

Most of it's thermal. Okay. Thank you for the time.

Operator (participant)

Thank you. Our next question comes from Mr. Matt Troy with Susquehanna. You may ask your question.

Matt Troy (Director)

Thanks. We got two questions for Clarence. You have indicated earlier that you would and this is consistent with your message previously, that you would adjust pricing on export coal to keep U.S. coal competitive in international markets to a point. I'm just curious, are we at that point, i.e., sequentially, should rates per ton stabilize at this level and potentially go up with recovery in international coal? Or can we expect further downside if things remain weak in terms of per-ton rates?

Clarence Gooden (Chief Sales and Marketing Officer)

From our standpoint, we're at the bottom for our rate structure on export coal. And as the market adjusts upward, you can expect to see us move upward with it.

Matt Troy (Director)

Okay. And then the second question would be simply, on the domestic piece, you talk about a more positive outlook. We can all certainly see the end-market fundamentals that set the stage for that. But just want to hear from you guys a reaffirmation or confirmation that you're not using price or your competition, you're not seeing a change in behavior there to move coal in the international markets. You've said in the past, "Yes. You'll facilitate international moves with price." Just want to make sure domestically that you're not using price as a way to stoke volumes.

Clarence Gooden (Chief Sales and Marketing Officer)

We are not.

Matt Troy (Director)

That's all I needed to hear. Thank you.

Operator (participant)

Thank you. Our next question comes from Mr. Jeff Kauffman with Buckingham Research. You may ask your question.

Jeff Kauffman (Director)

Thank you very much. A question more for Fredrik. Fredrik, have you had a chance to take a look at how the pension assumptions changed with the interest rates and the market returns and give us an idea of what the pension expense looks like 2014 versus 2013?

Fredrik Eliasson (CFO)

Yeah. I think we're going to see some help in our pension expense in 2014 versus 2013. It's been a headwind for the last couple of years as we amortize the loss of what we saw in 2008 and 2009. But I think as we get into 2014, it will be a modest help to us. So that's good news.

Jeff Kauffman (Director)

Okay. Could you quantify that at all or give us an idea how much?

Fredrik Eliasson (CFO)

It will be somewhere around $20+ million, but nothing significant.

Jeff Kauffman (Director)

Okay. That's all I have. Thanks, guys.

Operator (participant)

Thank you. Our next question comes from Mr. Scott Group with Wolfe Research. You may ask your question.

Scott Group (Managing Director and Senior Analyst)

Hey. Thanks. Morning, guys. So I've got one for Clarence on coal and one on intermodal. So on the export thermal side, I think there's been some concern about some contracts that you signed a year or two years ago at a higher API 2. And as that rolled over, the volumes would see some pressure. At this point, based on your guidance for the 35 million tons, are we fully now cycled through that kind of old API 2 price structure where, at least going forward in 2015, we shouldn't have additional headwinds for that, and we can think about potential growth in export coal?

Clarence Gooden (Chief Sales and Marketing Officer)

Yes. We are fully cycled through that.

Scott Group (Managing Director and Senior Analyst)

Okay. Great. And then on the intermodal side, so it's been a couple quarters now of some really nice growth. And I want to get your perspective, Clarence, on what do you think is finally clicking in the network that's allowing it? And then maybe just what's your pricing strategy there? Because the volumes are really good, but the yields were a little bit under pressure. And how should we think about intermodal pricing?

Clarence Gooden (Chief Sales and Marketing Officer)

Well, first, on our intermodal pricing, as you're aware, we're having to price strictly to what the truck market is and the big competition there. And as I mentioned in the prepared remarks, we did get price. But it was offset by the decline in the fuel surcharge during that period of time. In fact, our pricing was very solid in our intermodal this year. I guess the second part of your question was, "What do we expect in terms of growth? And can we continue and sustain it?" My answer is yes.

That's evident by the fact that, number 1, we're expanding our Northwest Ohio intermodal hub just a few years after it was open. Number 2, we're opening up and completing this year a new terminal in Montreal, which is a 7 million-person market that we haven't effectively penetrated. In April of this year, we'll open up our new Winter Haven intermodal facility in South Florida. We've made an announcement for an expansion, a new intermodal terminal in Pittsburgh. We just doubled the size of our Louisville intermodal terminal after only having been open two years. So we have positive views about our intermodal business. And finally, last year, we started up a program that we called our Beneficial Owners Program. We had a commercial name for it called Highway to Rail Conversions, H2R. And it has been highly successful this year in growing our business.

And I just met with that group last week. And I think they're going to be very successful in being able to address that 9 million truckload opportunity that Michael has referred to in the near future.

Scott Group (Managing Director and Senior Analyst)

That's great, Color. Thanks, Clarence.

Operator (participant)

Thank you. Our next question comes from Mr. Jason Seidl with Cowen and Company. You may ask your question.

Jason Seidl (Managing Director)

Yeah. Good morning, guys. Clarence, sticking on the intermodal side, we've been hearing that the truckload market's tightening up a bit. As it tightens, how should we think about the progression for your ability to start taking up some of the rates in the intermodal sector?

Clarence Gooden (Chief Sales and Marketing Officer)

Ask me that last part again. Make sure I understood it.

Jason Seidl (Managing Director)

Sure. As the truckload market tightens, how should we think about sort of the progression for your intermodal rates? In other words, what's sort of the lag effect in your ability to take pricing up in the intermodal sector?

Clarence Gooden (Chief Sales and Marketing Officer)

As you see those truckload rates firm up more and more, you'll see our rates start to follow them. Lag time will be not as long as you think, actually, because a lot of the business is going to be on a transactional basis.

Jason Seidl (Managing Director)

And what percent is on transactional?

Clarence Gooden (Chief Sales and Marketing Officer)

I don't have a number off the top of my head because we have three different ways that we address those domestic markets.

Jason Seidl (Managing Director)

All right. Well, you guys can get back to me offline on that. And I guess the next question, on the crude to rail side, obviously, there's some changes coming on the car side, which does impact you guys a little bit. And there might be some increased safety regulations for you. I was just curious, on the insurance side, have you guys seen any increased cost on the insurance side for you, or have insurance companies sort of changed the way they deal with you on not only crude but any of the hazmats that you might haul?

Fredrik Eliasson (CFO)

So far, no. We're going to go into a normal renewal cycle. And we try to, as we always do, educate our partners on the insurance side about the excellent safety record that we have and all the initiatives we have to make it even safer. So nothing at this point.

Jason Seidl (Managing Director)

No. Thank you, Fredrik. And gentlemen, thank you for the time as always.

Operator (participant)

Thank you. Our next question comes from Mr. Ben Hartford with Baird. You may ask your question.

Speaker 25

Hi, guys. This is Kent on for Ben. I had a question on the crude by rail and some more along the lines of the business growth side. Looking to next year, I believe you were looking to add potentially daily train starts. Is there any sort of quantifiable amount of new business in terms of new facilities at refineries that are open up?

Clarence Gooden (Chief Sales and Marketing Officer)

Well, can we move, as you probably know, about 46,000 loads of crude in 2013 primarily to the eastern U.S. refineries? And we had told you on some of the previous calls, we were averaging between 1 and 2 trains a day. And that number 2, the second train a day, tended to be more in the 4th quarter than throughout the year. So in 2014, we expect to increase that crude about so you can use a number around 50%.

And we'll move to two trains a day on a continuous basis over time. And then we'll start positioning ourselves as more and more of the unloading points along the East Coast are developed.

Speaker 25

Okay. And then maybe as a follow-up, but you had mentioned that inflation was projected at 1.5%. What would that number look like in terms of dollars relative to the $120 million you guys had in 2013?

Fredrik Eliasson (CFO)

Well, it's not a direct correlation. It is an estimate of what the industry is incurring as to what that RCAF is supposed to be. I would say that so we had about $120 million of inflation at CSX in 2013. And I would say we're probably going to see a similar amount in 2014. We continue to benefit from both lower than normal health and welfare costs because some of the cost-sharing arrangements we have and also the demographic changes. And we're also seeing some relatively muted materials inflation at this point. So I would say that inflation assumptions for 2014 should be pretty similar to what we saw in 2013.

Speaker 25

Okay. Makes sense.

Operator (participant)

Thank you. Our next question comes from Ms. Cherilyn Radbourne with TD Securities. You may ask your question.

Cherilyn Radbourne (Managing Director and Equity Research Analyst)

Thanks very much. And good morning. I wanted to ask a question on the domestic utility coal business. We've talked many times on these calls about how cheap natural gas prices have, in effect, pulled forward some of the demand destruction that you were expecting due to regulation by 2015. I wonder if it's possible for you to comment on how your coal shipments to those plants that you expect to close by 2015 compare to your coal shipments to all other plants in 2013?

Clarence Gooden (Chief Sales and Marketing Officer)

Well, the plants that we have and our customers have identified as closing in 2015, those shipments have been curtailed, in most cases, fairly dramatically. Although one of those plants in particular, and I, unfortunately, can't release the name of it, is actually taking some inbound coal during the last 30 days because of this weather-related activity that's been going on. But we haven't seen anything in regard to the other plants materially, as your question would imply.

Michael Ward (Chairman, President and CEO)

So you're saying most of the decline we're going to see from these plants shutting down because of the environmental breaks in gas prices has occurred?

Clarence Gooden (Chief Sales and Marketing Officer)

Has occurred.

Cherilyn Radbourne (Managing Director and Equity Research Analyst)

Yeah. So I guess another way of asking it would be to say, "Where do those volumes look like relative to 2008?" I mean, are they almost down by 100%?

Michael Ward (Chairman, President and CEO)

I think domestic coal to utility companies versus 2008 will be down 45% roughly.

Fredrik Eliasson (CFO)

Yeah. And I think just if we think about the plants that are about to close between now and kind of 2016, 2017, 2018, our best estimate that we've shared publicly before is that there's about 7,000,000 tons or so that is left to come out over the next five years. And it's not that it's going to come out all in 2015. It's going to be spread out between 2015, 2016, and 2017. And so that's about little less than 10% or about 10% of our overall utility portfolio where they still expect to see. So it is down significantly and there's a relatively small portion left to come out, that 10%, which can easily be overshadowed by some sort of just normal demand recovery and getting through this inventory overhang we have seen here over the last few years.

Clarence Gooden (Chief Sales and Marketing Officer)

And the last part is, and we just saw this in the weather-related part, those plants that are not scheduled to be closed, that have already been scrubbed, are actually run harder and for longer periods of time. So the total burn of coal is virtually neutral.

Cherilyn Radbourne (Managing Director and Equity Research Analyst)

Okay. That's very helpful. That's all my questions.

Operator (participant)

Thank you. Our next question comes from Mr. David Vernon with Bernstein. You may ask your question.

David Vernon (Senior Analyst)

All right. Thanks for taking the question. Fredrik, could you maybe in your closing comments about coal, you mentioned the revenue headwind. Is there a good percentage number rather than getting in the nitty-gritty on export thermal or whatever, a good percentage revenue decline that we should be expecting in the coal business in 2014?

Fredrik Eliasson (CFO)

I think I gave you the components similar to what we've done in the past, which is that and we always separate out domestic versus export because it's just hard to predict export business. Domestic side, we said flat volume. We have said on export side, coming from 44 million tons down to about 35 million tons, continue to cycling the impact of the price reductions we took in 2013. And so overall, we think that the RPU in 2014 for our coal business as a whole will be down in that low single-digit area.

David Vernon (Senior Analyst)

Thank you. That's very helpful. And then maybe just as a follow-up, I think, Clarence, as you guys look at growing the intermodal business, one of the things that you guys have been doing, at least from what I've heard in the industry, is offering a number of new services out of the Northwest Ohio terminal. Is there a way that you can frame that in terms of the number of new service offerings that you guys have brought to market and then how many more lanes or blank squares in the service grid there are for you to continue to expand the product?

Clarence Gooden (Chief Sales and Marketing Officer)

I don't know the exact number. But it's a double-digit number of OD pairs that we've created out of Northwest Ohio. We've also added services out of Atlanta into the Northeast. So it's a significant number.

David Vernon (Senior Analyst)

All right. Thanks very much. Appreciate it.

Operator (participant)

Thank you. Our next question comes from Mr. John Larkin with Stifel Nicolaus. You may ask your question.

John Larkin (Managing Director)

This morning I had a question, Clarence. I was wondering if you could clarify a little bit this push to convert the utility coal contracts over to the fixed and variable cost model. How does that benefit the utility? And how does that benefit CSX? It seems like that fixed component is really much like the guaranteed minimum that would trigger the liquidated damages.

Clarence Gooden (Chief Sales and Marketing Officer)

It is very it's exactly what it is. On the fixed component, it, in effect, eliminates liquidated damages. But one of the other advantages that it has to the utilities is that the price of the coal itself on the variable part goes into the equation for the dispatch cycle of which type of generation will be dispatched.

John Larkin (Managing Director)

Okay. So this is, in theory, a win-win proposition for both the utility and for CSX?

Clarence Gooden (Chief Sales and Marketing Officer)

I think so. Yes.

John Larkin (Managing Director)

Okay. And then just wanted to ask maybe a question of Oscar, if he's still on the line, related to the very impressive annual productivity target that seems to be down a little bit in 2014 relative to what was actually accomplished in 2013. But is this the type of target that is going to be available in 2015, 2016, and 2017? Or is the law of diminishing returns going to come into play here at some point?

Oscar Munoz (COO)

That's a constant question we've asked ourselves for a while. And I think one of the reasons we exhibited the chart that we did is that there is a good staying power and a history to it. We have a very great cross-functional team that's focused on those outer years. And every time they get together and they come up with ideas for the near term as well as the long term, it appears to be a very positive outlook. So without giving too much guidance, I think for the very near future or the next few years, I think we'll continue that rate.

John Larkin (Managing Director)

Very helpful. Thank you.

Operator (participant)

Thank you. Our next question comes from Mr. Walter Spracklin with RBC Capital Markets. You may ask your question.

Walter Spracklin (Director)

Thank you very much. Good morning, everyone. My question is going to come back to the guidance run rate. And, Fredrik, you mentioned that you needed some help from coal. But when I look at your base assumption when you provided the 10%-15% earnings growth guidance, you had indicated that your base assumption would be for flat coal. When I look at what's evolved in 2013 and now into 2014, we're seeing volumes down in 2013 on the thermal side, flat in 2014, yields down in both years, and export volume now trending down 20% for this year with yields down as well. When I plug in kind of just as a and you tell me if this is a little too simplistic.

But when I plug in what I need to get in 2015 just to make it go back to your revenue, your flat revenue assumption, it's not a little bit of help from coal. It's quite a bit of help from coal. And am I looking at it a little too simplistically? And if not, how realistic should we be looking at that 10%-15% guidance even as a realistically achievable number up to 2015?

Fredrik Eliasson (CFO)

Yeah. I think that what we said is we're going to need some help from coal. I think there's a lot of other things that is going on in our business, as Clarence outlined earlier, that is very positive right now. If you look at his outlook table, a significant portion, the vast majority of our business are doing very well. And we, frankly, probably have picked up a little bit more than we would have thought from that perspective. We continue to do very well on the productivity side. But clearly, we're going to need some help. But I don't think we necessarily need to get back to all the way where we were in the 1st quarter of last year when we issued the guidance because the rest of the business continues to be very vibrant and we continue to drive great productivity savings through Oscar's team. But we will need some help.

Walter Spracklin (Director)

Okay. So on that so what I understand is that your other business are helping out, which is fantastic, obviously. It gives me a little bit of concern, though, that there was a couple of comments made where you indicated that the revenue growth from the improvement in those businesses didn't go to the bottom line to the extent that you had expected. I think it was mentioned a couple of times to the extent that you had expected. And I'm just curious as to whether there were factors that did not allow it to go to the bottom line in Q4 that might have an impact on your longer-term guidance to the extent that those factors play out over the next year or two.

Using 2013 as your base, saying a little bit better than expected, I don't know if you would have had a good indication of your base at that point when you gave your guidance. Or maybe that was where it was. But is there anything that didn't lead you to get to your expected flow-through that might impact your guidance for the 10%-15% up to 2015?

Fredrik Eliasson (CFO)

Well, throughout the 4th quarter, including the 3rd quarter earnings call, we issued essentially pretty clear guidance, I thought, about the 4th quarter was going to be a pretty challenging quarter because we knew we were going to cycle both the incentive comp issue and the real estate. And then you couple that with a casualty, another $16 million, you had $75 million of things that we don't expect long-term to have to deal with.

If you adjust the $137 million of revenue growth and take out that $75 million, you'll see that our incremental margins for the quarter was right around 55% or something like that. We know that we will have this headwind on the real estate side throughout the 1st half of next year. But once we get through that, we are pretty confident that we're going to get back to a more normal place where we've been in the past than where we would have been this quarter if it wasn't for this headwind.

Walter Spracklin (Director)

Okay. Understood. That's clear. That's helpful. Thank you very much.

Operator (participant)

Thank you. Our next question comes from Mr. Justin Long with Stephens. You may ask your question.

Justin Long (Equity Research Analyst)

Thanks. Good morning. You gave your best guess for export coal volumes this year to be around 35 million tons. I was wondering if you could talk about how much of that business is under contract for this year versus what you expect to get in the spot market?

Clarence Gooden (Chief Sales and Marketing Officer)

Absolutely. Nearly three-quarters of the business is contracted for the year.

Justin Long (Equity Research Analyst)

Okay. That's helpful. The other one I had on the equipment purchase front, I was wondering if you could comment on what car types are factored into your 2014 capital budget and also specifically on coal, if you could comment on where you stand in terms of replacing that fleet.

Fredrik Eliasson (CFO)

So we are doing a lot of rebuilds in 2014, especially on a portion of our coal fleet. That is a big driver. We're also purchasing some jumbo hoppers and some auto racks as well. And in terms of our coal fleet, I think you might know this. But on the utility side, over 90% of our fleet is really owned by the utilities and not CSX. And that has obviously been a great impact and helped us significantly, the fact that as that market has declined, we haven't sat on a significant portion of excess capacity. So it's going to be between rebuild on the coal car. It's going to be automotive racks and then also jumbo covered hoppers that we're going to spend most of the capital in 2014.

Justin Long (Equity Research Analyst)

Okay. Great. That's helpful. I appreciate the time.

Operator (participant)

Thank you. Our final question comes from Mr. Keith Schoonmaker with Morningstar. You may ask your question.

Keith Schoonmaker (Director of Industrial Equity Research and Equity Analyst)

Thanks. Oscar, within your targeted efficiency gains, do you expect the main levers to be the same as in 2013, namely fuel, GTM per crew start, locomotive efficiency? And do these basically distill down to just building longer trains? Or is that too simplistic?

Oscar Munoz (COO)

As you can imagine, it is a very complicated business sometimes. But it boils down to those basic same factors. And there's a lot of technology involved and a lot of process changed and, of course, a lot of great and hard work by people. But yeah, pretty much in the same lines.

Keith Schoonmaker (Director of Industrial Equity Research and Equity Analyst)

Yeah. Those are the big levers. And one other quick one. I believe it was Clarence who mentioned that a mix richer in northern region coal would shorten the average length of haul. But could you share the domestic coal mix of Illinois Basin and PRB during the quarter and perhaps your expectations for how this will eventually influence length of haul maybe in the next couple of years?

Clarence Gooden (Chief Sales and Marketing Officer)

The combination of our Illinois Basin and PRB for this quarter was 49%. A positive impact is that the more of the Illinois Basin that replaces the Central Appalachia, particularly into the Florida regions and the longer haul regions, is actually, we view it positive because it's a much longer length of haul. And the revenue is higher on it.

Oscar Munoz (COO)

So Illinois Basin now is about 30%, which is similar to our Central Appalachia tonnage, right?

Clarence Gooden (Chief Sales and Marketing Officer)

Yes.

Oscar Munoz (COO)

So it's equal to Central Appalachia right now and growing.

Keith Schoonmaker (Director of Industrial Equity Research and Equity Analyst)

Great. Thank you. Is the length of haul in PRB shorter than that?

Clarence Gooden (Chief Sales and Marketing Officer)

It tends to be because it comes across the Chicago interchange and mostly penetrates into our system as far east as a...

Michael Ward (Chairman, President and CEO)

New York.

Clarence Gooden (Chief Sales and Marketing Officer)

... New York.

Keith Schoonmaker (Director of Industrial Equity Research and Equity Analyst)

Thank you.

Michael Ward (Chairman, President and CEO)

Well, thank you, everyone, for your interest and attendance. And we'll see you next quarter.

Operator (participant)

Thank you. And this does conclude today's teleconference. Thank you for your participation in today's call. You may disconnect.