Union Pacific - Q3 2013
October 17, 2013
Transcript
Operator (participant)
Greetings. Welcome to the Union Pacific Third Quarter 2013 Conference Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. If anyone should require Operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded, and the slides for today's presentation are available on Union Pacific's website. It is now my pleasure to introduce your host, Mr. Jack Koraleski, CEO for Union Pacific. Thank you, Mr. Koraleski. You may now begin.
Jack Koraleski (CEO)
Thanks, Rob, and good morning, everybody. Welcome to Union Pacific's third quarter earnings conference call. With me today here in Omaha are Rob Knight, our Chief Financial Officer, Eric Butler, our Executive Vice President of Marketing and Sales, and Lance Fritz, our Executive Vice President of Operations. This morning, we're pleased to announce that Union Pacific achieved an all-time record financial results this quarter. We generated best-ever quarterly earnings of $2.48 per share, an increase of 13% compared to the third quarter of 2012. The quarter was not without its challenges, including headwinds in coal and grain volumes and severe flooding in Colorado that caused network disruptions and shipment delays. But at the end of the day, that's all part of running a railroad.
We managed our network efficiently, overcoming these challenges, and continued to benefit from the strength of our diverse franchise. When combined with real core pricing and productivity gains, we more than offset the flat volumes to generate a new best-ever quarterly operating ratio of 64.8%. We feel very good about our accomplishment this quarter. We're leveraging our capital investments to strengthen the UP franchise and further enhance our value proposition in the marketplace. We remain focused on delivering safe, efficient, high-quality service that generates value for our customers and increased financial returns for our shareholders. So with that, let's get started this morning. I'll turn it over to Eric.
Eric Butler (EVP of Marketing and Sales)
Thanks, Jack, and good morning. In the third quarter, the value and diversity of our franchise allowed volume to finish flat compared to last year, despite volume declines in three of the business groups. Industrial products, automotive, and chemicals led the way with growth. Offsetting that good news were declines in intermodal, Ag, and Coal. Core pricing gains of 3.5%, which, combined with a modest benefit from positive mix, produced a 5% improvement in average revenue per car. The combination of flat volume and improved average revenue per car pushed freight revenue to a record $5.2 billion. Let's take a closer look at each of the six business groups. Ag products revenue declined 2%, with third quarter volume down 4% and a 2% improvement in average revenue per car.
Grain car loadings continued to reflect the impact of last year's drought, with third quarter volume down 9%. Domestic feed grain shipments declined as tight U.S. corn supply led to reductions in livestock feeding and increased reliance on local feed crops. Export feed grains also declined, with improved world supply and higher U.S. prices. Partially offsetting these declines was an increase in wheat Gulf exports, primarily destined to Brazil. Grain products volume was up 3%, driven by an 11% increase in ethanol shipments as the discount to gasoline led refineries to replenish low ethanol inventories. Declines in import beer and barley led to a 4% decrease in fruit and refrigerated volume. Automotive volume grew 8%, which, combined with a 9% improvement in average revenue per car, produced a 17% increase in revenue.
Growth rates in auto production and sales remained strong in the third quarter, driven by pickup demand to replace aging vehicles. Even so, the average age of vehicles on the road continued to increase, reaching 11.4 years, with customers replacing them with new models offering improved technology and fuel efficiency. UP finished vehicle shipments grew 5% as sales continued to grow, with seasonally adjusted annual sales rate reaching 15.7 million in the third quarter, the highest quarterly level in 5 years. Parts volume increased 12%, while pricing gains in the previously announced Pacer Network logistics management arrangement increased average revenue per car. Turning now to coal, you can see from the chart of weekly car loadings that volumes picked up from the second quarter as expected, but tracked 7% below last year.
Core pricing gains and favorable mix led to a 10% improvement in average revenue per car and produced a 2% increase in revenue. Tonnage from the Southern Powder River Basin decreased 8% as mild summer weather led to a 3% reduction in year-over-year electricity generation in UP-served territories. Also contributing to the decline was the continued impact of a contract loss from the beginning of the year. Colorado-Utah tonnage declined 17% as soft domestic demand and mine production issues offset growth in West Coast exports. Also hampering loadings in the third quarter was the September Colorado floods. Providing some good news, tonnage from other coal-producing regions increased 19% from a relatively small base, driven by gains from Southern Wyoming and Illinois loadings.
Before we move on, note this slide slope shows a steep decline early in the fourth quarter as volumes were impacted by nearly 3 feet of unseasonably early snow in the Powder River Basin during the first week in October. This has impacted volumes through the first half of the month, but we expect the majority of shipments to be made up throughout the remainder of the fourth quarter. In industrial products, a 9% increase in volume and 2% improvement in average revenue per car, despite unfavorable mix, produced revenue growth of 11%. Non-metallic minerals volume was up 21%, as continued growth in shale-related drilling increased frac sand shipments by 27%.
Our construction-related volumes grew 11%, driven by an 11% improvement in rock shipments, with increased construction activity mostly in the Texas and California markets, which also contributed to 12% growth in cement volume. Metals volume was up 8% as pipeline projects picked up following a slow start to the year. We also saw an increase in export iron ore shipments with the resolution of mine production issues that limited shipments last year. Growth in housing and home improvements continued to increase the demand for lumber, with shipments up 6%. Although the housing market continued to strengthen, lumber's growth eased early in the third quarter as falling lumber prices and excess inventory slowed lumber shipments. Offsetting some of the strength in other industrial products market was a 4% decline in government and waste volume.
As in previous quarters, reduced government funding, limited military shipments, and delays extending the federal production tax credit led to a decline in wind moves. Intermodal revenue was flat, as a 2% increase in average revenue per unit offset a 1% decline in volume. With the economic recovery continuing at a slow pace, retailers proceeded cautiously in the third quarter. Our international intermodal volumes declined 5% due to market share shifts within the ocean carrier industry and increased port transloading activity. Continued success converting highway business to rail drove 4% growth in domestic intermodal. Chemicals revenue grew 5%, reflecting a 3% increase in volume and a 2% increase in average revenue per car. Industrial chemicals volume was up 9%, driven by strength in end user markets such as housing and automotive.
Increased demand and new business led to a 10% increase in petroleum products volume. Dampening the good news was a 5% decline in crude oil volume compared to the third quarter of last year, although crude oil shipments to St. James, Louisiana, continued to grow compared to 2012. Before we move on to our outlook for the fourth quarter, I'd like to give a brief update on our crude by rail business, which accounts for about 40% of our shale-related volume and about 2% of our overall volume. As we've said, we've been expecting our 2013 crude oil volumes to increase at a moderate pace year-over-year, though not with the dramatic ramp-up seen in the year before, particularly given the lack of significant destination capacity expansion this year.
As you can see in the blue portion of the bar chart, so far this year, we've seen the benefit of very steady demand into St. James, Louisiana, which continues to be a premier rail destination. Additional opportunities have come from other areas, such as West Texas and Oklahoma, and these volumes in particular have been somewhat more volatile as the domestic crude oil market continues to evolve and reflect the dynamics inherent in the commodity marketplace. As you know, pricing spreads are one of the influences on traffic flows as producers look to maximize netbacks. With the narrowing of the WTI discount to Brent, we've seen a resulting volume decrease into areas with readily available pipeline access, primarily Texas and Oklahoma, which also have been impacted by increased pipeline capacity.
We've also seen a smaller decline in shipments from the Bakken to Texas, as tighter spreads have made it more attractive to ship Bakken crude oil to the east, where new facilities have increased crude by rail capacity. Going forward, we expect the economics of crude oil spreads to continue to be a driver of traffic flows, particularly in areas such as Texas. Other markets, such as Canadian crude, should provide new opportunities as crude by rail continues to evolve. Meanwhile, our franchise strength in the South will continue to provide a solid foundation to our business, giving customers attractive access to important Gulf destinations. While crude oil volumes will always be subject to the ups and downs of market spreads, we believe the long-term fundamentals of crude by rail remain attractive.
Increasing crude production, limited pipeline infrastructure, and the flexibility rail provides will enable us to leverage our value proposition and develop new opportunities ahead. Let me close with what we see for the fourth quarter. Our current outlook is for the economy to continue its slow improvement, although there is uncertainty in the marketplace. No matter what the economy does, we'll continue to focus on strengthening our value proposition, attracting new customers, and supporting our existing customers as they work to grow their business. Given that, here's what we see across our business for the next few months, both the challenges and the opportunities. With the effects of last year's drought behind us, an improved full harvest is expected to provide opportunity for Ag growth. Global Insight raised their full-year light vehicle sales estimate to 15.5 million vehicles, which is good news for our automotive business.
Crude oil spreads will continue to impact our crude by rail volumes, but strength in other chemicals markets is expected to drive the solid performance we've seen throughout the year. With the challenges previously mentioned in our coal business, we now expect full-year volumes to be down in the high single-digit range, which includes the lost contract of about 5% of our coal volumes. Industrial products should continue to benefit from shale-related growth, with increased drilling activity that supports frac sand and pipeline projects. An improving housing market is expected to drive demand for lumber shipments, and growth in construction is expected to support increases in rock, metals, and other related markets. International intermodal volume is expected to be down slightly compared to last year, while highway conversions will continue to drive domestic intermodal growth.
For the full year, our strong value proposition and diverse franchise will again support business development opportunities across a broad portfolio of business. Assuming the economy does not slow down, we're well on track to deliver profitable revenue growth again this year. With that, I'll turn it over to Lance.
Lance Fritz (EVP of Operations)
Thank you, Eric, and good morning. Starting with safety, year-to-date results nearly matched our 2012 record results on the strength of a record-low third quarter reportable personal injury rate. I expect our total safety culture, risk identification and mitigation process, and robust training programs to drive continued improvement as we go forward. Our ultimate focus is making sure every one of our 50,000 employees returns home safely at the end of each day.... Rail equipment incidents or derailments improved 3% year-to-date versus 2012. This is a direct reflection of the investments we've made to harden our infrastructure and to leverage advanced defect detection technology, which combined, have reduced track and equipment-induced derailments. We are also making progress on human factor incidents through enhanced skills training and root cause resolutions.
Moving to public safety, our year-to-date grade crossing incident rate improved 7% versus 2012, reflecting our continued focus on improving or closing high-risk crossings and reinforcing public awareness. We achieved year-over-year improvement in five of the last six months, including a record third quarter rate. Our focus on grade crossing risk in the South has generated an 18% year-to-date improvement in that region. Our safety strategy helps keep our network strong and resilient, and as a result, our network remains fluid and is operating at very efficient levels. Velocity in the third quarter improved 1% compared to 2012, and improved 2% sequentially from the second quarter, despite flooding that severed numerous corridors in Colorado. We rerouted traffic and developed contingency plans during the event to support our affected customers and rapidly restored service on the lines that were washed out.
Our agility in the face of these outages prevented any year-over-year deterioration in our Service Delivery Index. The measure, which gauges how well we are meeting overall customer commitments, improved sequentially from the second quarter and would have improved year-over-year if not for tighter service commitments to our customers. We continued to provide outstanding local service to our customers with a best-ever 96% Industry Spot & Pull, which measures the delivery or pulling of a car to or from a customer. Infrastructure investments and process efficiencies have improved our ability to recover after incidents, reducing their impact on the network. We continue to invest in capacity across our network, most notably in the South, where volumes are growing across our diverse portfolio. Overall, our network remains well-positioned to handle volume growth. Moving on to network productivity, slow order miles declined 38% to a best-ever third quarter level.
As a result, our network is in excellent shape, reflecting the investment in replacement capital that has hardened our infrastructure and reduced service failures. We continue to identify and realize efficiencies that contributed to our record 64.8% operating ratio this quarter. Locomotive productivity, as defined by gross ton miles per horsepower day, improved 1%. Network planning and improved locomotive reliability drove this improvement, in spite of a 2.5-3 percentage point headwind associated with the mix shift from lower coal shipments and higher manifest shipments. During the quarter, we continued to reposition resources to align with the traffic mix trend of growing southern region and manifest volumes, which require additional manpower versus the average of the network. The chart in the lower right demonstrates our ability to leverage growing manifest volumes through UP's extensive terminal infrastructure.
We switched 1.5% more cars while keeping yard and local employee days flat. This resulted in an all-time quarterly record in terminal productivity. The improvement was particularly evident in our southern region, where cars switched per employee day was up 3%. These results reflect employee engagement, which is an important part of our operating strategy. Our employees are bringing their expertise to bear on improving safety, service and efficiency by standardizing work and reducing variability. To recap, our operating performance in the third quarter was solid, improving nicely from second quarter levels. We remain vigilant in our commitment to operate a safer and more efficient railroad for the benefit of our employees, customers, the public, and shareholders. We've demonstrated the ability to successfully flex network resources in response to dynamic market shifts and unexpected events, including weather.
As I touched on last quarter, we've successfully completed a number of significant capital track programs, both on the replacement and capacity side. Overall, these projects were completed with minimal network disruptions and resulted in measurable enhancements to our franchise. We will continue to make smart capital investments that generate attractive returns and that keep the network fluid and safe. With strong network fundamentals, we are well positioned for future growth while enhancing UP's value proposition. With that, I'll turn it over to Rob.
Rob Knight (CFO)
Thanks, Lance, and good morning. Let's start with a recap of our third quarter results. Operating revenue grew 4% to an all-time quarterly record of nearly $5.6 billion, driven mainly by solid core pricing gains. Operating expense totaled $3.6 billion, increasing 1.5%. Operating income grew 10% to $1.96 billion, also hitting a best-ever quarterly mark. Below the line, other income totaled $28 million, basically flat with 2012. For the full year, we would expect other income to be in the $110 million-$120 million range, barring any unusual adjustments. Interest expense of $138 million was up 1% from last year. However, it includes about $7 million of net one-time costs associated with our recent debt exchange.
Income tax expense increased to $701 million, driven by higher pretax earnings. Net income grew 10% versus 2012, while the outstanding share balance declined 2% as a result of our continued share repurchase activity. These results combined to produce a best-ever quarterly earnings of $2.48 per share, up 13% versus 2012.... Turning to our top line, freight revenue grew 4.6% to more than $5.2 billion, driven by solid core pricing gains of 3.5% and favorable mix of a little more than a point. A decline in lower average revenue per car intermodal shipments, combined with freight revenue impact from the Pacer arrangement, drove the positive mix.
But these items were partially offset by double-digit growth in rock shipments, which typically move less than 200 miles, and a decline in longer-haul grain moves. Moving on to the expense side, slide 21 provides a summary of our compensation and benefits expense, which was up 1% compared to 2012. Inflationary pressures and higher training costs drove the increase, largely offset by productivity gains. Workforce levels increased 1% in the quarter. About half of the increase was driven by more individuals in the training pipeline, and the other half was due to capital projects, including Positive Train Control activity. When you think ahead to the fourth quarter, remember that we saw the benefit of a one-time $20 million payroll tax refund that is reflected in last year's fourth quarter comp and benefits expense.
Turning to the next slide, fuel expense totaled $866 million, decreasing 2% versus 2012, primarily driven by lower average diesel fuel price. In addition, gross ton miles declined 2% due to lower coal and grain shipments. This mix impact also contributed to the 1% increase in our fuel consumption rate compared to 2012. Moving on to our other expense categories, Purchased services and materials expense increased 8% to $588 million due to higher locomotive and freight car contract repair expenses and joint facility maintenance expense. We're incurring logistics management fees associated with the 2012 Pacer agreement, which are recouped in our automotive freight revenue line. Depreciation expense was $447 million, basically flat compared to last year.
The impact of increased capital spending in recent years was offset by a new equipment rate study that went into effect at the beginning of this year. Looking at the full year, we expect depreciation to be up about 1% versus 2012, slightly lower than our previous projections. However, for 2014, full-year depreciation expense should increase at a more normalized rate, more likely in the 5%-7% range. Slide 24 summarizes the remaining two expense categories. Equipment and other rents expense totaled $309 million, up 3% compared to 2012. Increased container expenses associated with the Pacer contract and growth in automotive shipments drove higher freight car rental expense. Other expenses came in at $205 million, up $5 million versus last year.
Higher property taxes and freight damage costs drove expenses up compared to 2012. A moderate reduction in personal injury expense and effective cost control measures partially offset these increases. For the fourth quarter, we would expect the other expense line to be more in the neighborhood of $215 million, excluding any unusual items. Turning to our operating ratio performance, we achieved an all-time best operating ratio of 64.8% this quarter, improving 1.8 points compared to last year. Our performance highlights the positive impact of solid core pricing gains and network efficiencies despite flat volumes. Through the first nine months of this year, we generated an operating ratio of 66.5%, improving 1.5 points from 2012, clearly illustrating the strength and value proposition of the Union Pacific franchise.
Union Pacific's record year-to-date earnings drove strong cash from operations of nearly $4.9 billion, up 12% compared to 2012. Free cash flow of $1.3 billion reflects the growing profitability of the franchise and includes a 13% increase in cash dividend payments versus 2012. Our balance sheet remains strong, supporting our investment-grade credit rating. At quarter end, our adjusted debt-to-cap ratio was roughly 39%, which includes the impact of adding over $450 million to our balance sheet debt since year-end 2012. Opportunistic share repurchases continue to play an important role in our balanced approach to cash allocation. In the third quarter, we bought back nearly 3.7 million shares, totaling $575 million.
Year-to-date, we've purchased more than 9.6 million shares, totaling over $1.4 billion, already matching our full-year spend from last year. Looking ahead, we have around 5.4 million shares remaining under our current authorization program, which expires March 31st, 2014. So that's a recap of our third quarter results. As we move through the rest of the year, we're mindful of the economic uncertainty in the marketplace. For the fourth quarter, we expect to see modest volume growth, mainly driven by improved grain shipments. Assuming the economy doesn't slow down for the rest of the year, we would also expect to see continued growth in other market sectors. Given flat volumes in the third quarter, it's unlikely that our full-year volumes will be positive, even with our modest growth assumptions in the fourth quarter.
However, we will have to see how the rest of the year plays out. In addition, we should see solid core pricing gains, roughly similar to the third quarter results. All in, the fourth quarter should round out another record financial year for Union Pacific. Now let's take a preliminary look at next year, realizing that it's still very early. From where we sit today, we're expecting modest volume growth if the economy continues along a slow growth trajectory. We think there will be some markets that will be stronger than others. We should see strength in grain shipments, and if the economy holds, there should be positive growth in other business sectors. Mexico-related traffic should also generate volume gains for us next year.
Our coal business is a little more difficult to predict, but we can tell you that we retained and renewed roughly 50% of next year's $100 million legacy business. The lost legacy business, which is currently not moving at reinvestable levels, will create about a 2% headwind on our coal volumes in 2014. That is, but as always, weather and the economy will be the driving factors for our coal business next year. Although 2014 is a legacy-light year, we'll continue to generate real core pricing gains. However, we don't expect to match 2013's levels, which, as you know, include about 1.5 points of legacy repricing that won't repeat next year. In addition, inflation-related escalators are expected to be lower next year, including those used to calculate the AILF cost escalator.
At the end of the day, our fundamental strategy and focus on pricing for returns has not changed. While we won't see a legacy benefit next year and inflation escalators are expected to be modestly lower, pricing on the rest of our business in 2014 remains strong. When you add it all up, we expect to achieve core pricing above inflation next year. Overall, we're forecasting another record financial year in 2014, if the economy cooperates. In addition to our pricing initiatives, ongoing productivity gains and volume leverage opportunities should help drive continued margin improvement. We feel very good about our outlook going forward. The fundamentals are strong, supported by a diverse franchise that allows us to pursue new, attractive market opportunities.
We'll continue to move the ball forward, focusing on improved returns to support capital investments that will strengthen and enhance our network, create value for our customers, and drive increased returns for our shareholders. With that, I'll turn it back to Jack.
Jack Koraleski (CEO)
Okay, thanks, Rob. Well, as Eric mentioned, we've had a bit of a tough start here to the fourth quarter with the early blizzard slowing coal volumes out of the Powder River Basin. But the good news is, there's still a lot of quarter ahead of us, and as we did in the third quarter, we'll manage through the obstacles to ensure our customer commitments are met and our network is protected. More broadly, we continue to monitor the economic landscape and the ongoing saga in Washington. But supported by our diverse franchise, we remain agile and well-positioned for economic recovery. The 50,000 men and women of Union Pacific stand ready to leverage the opportunities while navigating through the challenges.
We'll continue focusing on reinvestable pricing, attracting new, profitable growth opportunities, and running a safe, efficient, and reliable network that generates greater value for both our customers and shareholders going forward. With that, let's open up the line for questions.
Operator (participant)
Thank you. We'll now be conducting a question-and-answer session. If you'd like to ask a question, please press star one on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press star two if you would like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up the handset before pressing the star keys. Due to the number of analysts joining us on the call today, we'll be limiting everyone to one primary question and one follow-up question to accommodate as many participants as possible. Thank you. Our first question is from Tom Wadewitz of JPMorgan. Please proceed with your question.
Tom Wadewitz (Analyst)
Yeah, good morning.
Jack Koraleski (CEO)
Good morning, Tom.
Tom Wadewitz (Analyst)
Hi, Jack. So I wanted to kind of, I guess, a broad framework that seems to be shaping up for 2014 is that there are, you know, pretty good reasons to think that your volume growth may be a bit stronger. Obviously, grain, maybe coal is less of a headwind, you know, hopefully the economy, but you're going to get a slower pace of pricing gains, you know, less legacy contract. So how would you frame the results of that in terms of margin improvement? Do you end up with a kind of a similar framework for margin expansion opportunity? Is it more challenging if it's kind of, you know, more volume and less price? Or how'd you think about margin opportunity in 2014?
Jack Koraleski (CEO)
You know, Tom, I think overall, we're in a good position. We've not varied at all from our guidance that says we're going to get to an operating ratio of sub 65. So, you know, it'll be a little more difficult. I'd... I'll let Rob give you some technicolor here.
Rob Knight (CFO)
Yeah, Tom, I would just add to Jack's point, I mean, it's moving the ball forward. As you know, volume is always our friend because we're able to leverage that from a productivity standpoint. But you're right, without the benefit of the legacy repricing, you know, we expect to continue to move the ball forward, and that's going to be continued focus on providing good service, leveraging volume where we can to squeeze out additional productivity initiatives and continue to fairly price the business. You add all that up, we expect to continue to make progress on our overall margins.
Tom Wadewitz (Analyst)
Okay, great. And then, follow up on coal. I know it's probably, you know, really challenging to have much visibility on coal, but are there any, I guess, parameters that we should consider or that you would consider, you know, stockpile levels, any activity you're seeing in the east, you know, plant shutdowns? How would you put things together in terms of, you know, is it more likely your coal tonnage is up in 2014 or more realistic to expect it, down? Just, you know, a little more detail on framing coal, if you can.
Jack Koraleski (CEO)
... Sure. You know, I think overall, Tom, if you look at energy and the coal business, the two biggest factors are always going to be energy consumption, how much electricity is generated, and what the weather's going to be like. We've seen the stockpile levels on a national basis come down a bit, but you always have to be careful because even within that mix of business, you have some that are a little higher, some that are a little lower. Eric, you want to put some technicolor around that?
Rob Knight (CFO)
I think that's exactly right. Stockpiles have come down. They're about 20 days below where they were last year, and actually, a couple of days below what would be considered historical norms. So what Jack said is exactly correct. Factors are, what's the electrical consumption generation, what's weather? Those are always going to be the key factors.
Tom Wadewitz (Analyst)
Okay, thanks for the time.
Operator (participant)
Our next question is from the line of Allison Landry of Credit Suisse. Please proceed with your question.
Allison Landry (Analyst)
Good morning. Just wanted to follow up on Tom's question a little bit, but more with regards to rail inflation in 2014. So if, you know, if we're assuming this year, inflation was around 2.5%-3%, is it fair to think about next year being, you know, closer to 2%-2.5%?
Jack Koraleski (CEO)
Rob?
Rob Knight (CFO)
Yeah, Alison, we would—at this point in time, and of course, things can change, we would expect that inflation looks like it's going to be more around all in 2%-ish.
Allison Landry (Analyst)
2%-ish. Okay, great. And then just as a follow-up question on the crude by rail and looking towards next year. You know, without getting too granular, I was wondering if you could maybe comment on some volume growth that you see that is less spread dependent, and also, within the context of new origination terminals that you have coming online in the Niobrara and some new destination terminals in Louisiana and Texas that are UP served.
Jack Koraleski (CEO)
Sure. Eric, you want to do the rundown on what we're looking at for 2014?
Eric Butler (EVP of Marketing and Sales)
Yeah. So we still believe we'll see moderate growth in 2014. As we indicated in our comments, it's dependent upon a lot of market dynamics, including the spreads, the timing of additional capacity, production levels, overall demand. We're still very optimistic as we look at destination opportunities in California. Those destinations are still coming online. Some of them have long lead times, just getting through the normal construction process that you typically go through in that region of the country. But again, kind of the normal vagaries of market dynamics will drive kind of what happens next year.
Allison Landry (Analyst)
Okay. Thank you very much.
Operator (participant)
Thank you. Our next question is from the line of Scott Group of Wolfe Research. Please proceed with your question.
Scott Group (Analyst)
Hey, thanks. Morning, guys.
Jack Koraleski (CEO)
Morning, Scott.
Scott Group (Analyst)
Morning. I want to just follow up on the Rob, your comment around pricing for next year, and understanding that it's legacy light, but when we think about 3.5% pricing that you got in third quarter, would, how much legacy do you think in third quarter you actually got? Because I'm guessing with coal, that was down. You didn't get a full 1.5 from that. I just want to get maybe kind of what the base is tracking right now, ex legacy. And then maybe if you can give any color on how you think mix could help or hurt next year with grain coming back, and maybe some of the other moving parts when we think about overall yields next year.
Rob Knight (CFO)
Yes, Scott. In the third quarter, our reported third, 3.5% price included, call it roughly 1.5 points of legacy. But to your point, the 3.5% did not include, probably less than 0.5 points of coal repriced business because the coal didn't move. So kind of do the math on that. As you look forward into 2014, yes, it's a legacy light year, and yes, mix will play a part. I mean, if the volume of business that we've repriced, whether it be in coal or grain, if it happens to move before we've lapped the renewal of a contract, then we should see the benefit of the price on our price calculation.
But as I always point out, if the business moves after we've lapped the repricing, while it may not show up in our core pricing number that we report, it will show up in our margins. So it's a, it's a net benefit to us, clearly. So, I guess I would just summarize by saying that, you know, we head into 2014 as optimistic as ever on our ability to price, but we just won't have that benefit of that, call it 1.5% legacy charge.
Scott Group (Analyst)
Okay, that's helpful. And then just other question for you, Rob, on the balance sheet. So you mentioned that we're going to need to reauthorize share repurchase next year. If I looked, you guys are about a full turn less of leverage than the other, most of the other rails, and your returns are better than average, for sure. Do you think that there's an opportunity now that we're through legacy and we need some other parts to the story, that is, is there an opportunity to more aggressively take on some leverage and more aggressively buy back the stock?
Rob Knight (CFO)
Scott, as you know, we always take a balanced approach, and as I've said many times, we're comfortable in the range we are right now on our net debt, debt to cap ratio. I mean, it's not how we manage the business, but that's kind of a guiding light. So we'd always take a look at it, but that has served us well to be in that range. And in terms of, you know, will we look at more or less, we're going to continue to be, hope to be continue optimistic in terms of our share repurchase. We did this year, as you know, buy at a higher rate of share buyback this year than we did last year, so we have been ramping that up. And I think that speaks to sort of our thought process.
Scott Group (Analyst)
All right. Thanks, guys.
Operator (participant)
Our next question is from the line of Ken Hoexter of Bank of America Merrill Lynch. Please proceed with your question.
Ken Hoexter (Analyst)
Great, good morning. If I can hit Eric up, I guess, a bit on intermodal. You know, looking at domestic, is this the kind of run rate here, the low single digits on the domestic side, on the highway adoptions? And then internationally, you noted some losses. When do you grandfather that, and should we see growth going forward in the fourth quarter into next year? When do you start looking at kind of the environment on the international side as well?
Eric Butler (EVP of Marketing and Sales)
Well, let me start with the international. The international, what I mentioned was some market share shifts amongst the steamship carriers. And so as you know, there's excess steamship capacity and, you know, there's natural shifts that are going on amongst them. As the bid seasons happen every year, those shifts will happen in the steamship arena outside of the rail arena. In terms of the domestic intermodal side, you know, 4%, we're proud of, but we think there's upside. We think there's still a large over-the-road truck market out there for us to convert. We think we have the right products, we have the right strategies. We're investing in our franchise. We've talked publicly about our new facility outside of El Paso, Texas, that will be coming online next year.
We think that that will help us penetrate significantly the Maquiladora market there, around El Paso, and also allow us to put some new products and services in place. So, we are excited about the upside for continued domestic over-the-road conversions.
Ken Hoexter (Analyst)
Great. And then if I could just get a follow-up, I guess, with Rob on the productivity side. As you look toward maybe a little bit less coming from yields and maybe more of that improvement coming from productivity, do you still see accelerating opportunities to continue to gain on the productivity side? How do you look at that opportunity?
Rob Knight (CFO)
Yeah, I mean, you know, Ken, we never run out of opportunities to squeeze out productivity, and Lance and his team are continually looking at the mix shifts that take place in the business. We challenge ourselves, and you've heard me say this many times, to offset 100% of inflation with productivity. If we get half, offset half of inflation with productivity, we're doing pretty well, and our track record has spoken very strongly, I think, in doing so, even without the benefit of volume. So if we get positive volumes, that certainly will help. So, you know, we'll continue to look for every opportunity we can.
Ken Hoexter (Analyst)
Appreciate the time.
Operator (participant)
Our next question comes from the line of Justin Yagerman of Deutsche Bank. Please proceed with your question.
Justin Yagerman (Analyst)
Hey, good morning. Wanted to get a sense, I mean, as we enter into this kind of post-legacy era for you guys, how your average book is structured right now with your customers, and kind of what the pace of contract renewal is going to look like on a go-forward basis, and how we should expect that that gets tackled. So as I look out over the next five years, what piece of your overall book do you think comes up, and what's the average tenure of the contracts that you've been re-signing?
Allison Landry (Analyst)
Eric?
Eric Butler (EVP of Marketing and Sales)
Hey, Justin. I'm not sure, quite what you're asking. We've talked historically in the past that at any one given time, about 70% of our contracts or our prices are kind of locked in for the next year. As we go into the future, there's a natural, evolution of pace of things that come up, as, you know, you go through different markets. And, you know, we're, as Rob said, I think, as Jack said, we're continuing to be excited about the value of our franchise and the value - the, the value proposition that we sell and the ability to get price as we go forward on-
Jack Koraleski (CEO)
As Eric, I think what he's kind of talking about is, and Justin, chime in here, buddy, about 40%, typically 40%-45% of our business is tied up in multiyear contracts that in our current world, 3-5 years is probably the timeframe of those. About 1/3 of the business, or 30%, is tied up in 1 year, like letter quotes and deals, and then the other 30% is roughly, tariff, that we have, you know, 20 days' notice in terms of changing price. So at any one point in time, we have, you know, our business constantly being evaluated and looking for market opportunities where we can take advantage of price increases.
Justin Yagerman (Analyst)
That was exactly what I was looking to get at, so thanks for the clarification, Jack. And, you know, as I think about the guidance here, looking out to 2017, I was just, Rob, wanting to get an idea. You know, obviously, volume's been more challenged in the near term because of coal. But as I look out to 2015 and beyond, there's some expected positives on the chem side of your business and specifically on petrochem, I would think.
Wanted to get a sense, as you guys think about mix within that long-term guidance, what type of volume CAGR you think you need to have, cognizant of what we just talked about in terms of the pace of pricing going forward, and that being more of kind of a, an inflation plus, as opposed to having that bump from the point and a half of legacy that we're seeing right now?
Rob Knight (CFO)
Yeah, Justin, this is Rob. The guidance, just to reset, the guidance on the operating ratio is to, by full year 2017, to achieve a sub-65 operating ratio. And volume is our friend, and when we give that sort of guidance, we're assuming that the economy will cooperate, that volumes will be on the positive side of the ledger, if you will. But we know that we can't predict precisely exactly what the mix is going to look like. So we're going to have to deal with the hand that the economy plays us between now and then, and we're confident that if the economy cooperates, that, the mix will, enable us to achieve that, that target. But as I've said all along, we-...
Each measure, each metric we've given as we've been working down from the mid-80s Operating Ratio years ago, we're going to get there as soon as we can, as efficiently as we can. We're not going to stop, so the sub-65 is not an end game, it's just the next rung on the ladder, if you will, and we'll get there as efficiently leveraging volume, if we can, leveraging productivity and leveraging strong price.
Justin Yagerman (Analyst)
Okay, so seeing volume growth that's sub GDP right now across your franchise and still being able to leverage that into margin improvement, which is something you guys have been able to do, do you think you can do even as we start to see more legacy wear off?
Rob Knight (CFO)
Yes.
Justin Yagerman (Analyst)
Great. Thanks, guys. Appreciate the time.
Operator (participant)
Our next question is from the line of Chris Wetherbee of Citigroup. Please proceed with your question.
Chris Wetherbee (Analyst)
Hey, thank you. Good morning. Just maybe following up on the longer term OR guidance as you think out, I think you have a few years now left to hit a target, which is a few hundred or a couple hundred basis points away from sort of the run rate that you're at right now. So when you think about the setup, is there anything that we should be thinking about, absent mix, that would be preventing kind of the continued progress that you've been making steadily over the last couple of years? Obviously, legacy comes into all of that, but just want to make sure from an operational perspective, are any other challenges we may need to think about?
Strikes me as being a bit on the conservative side, which is good, but I just kind of want to get a sense if there's something I'm missing in there on that guidance.
Jack Koraleski (CEO)
You know, I think overall, Chris, when you look at it, we look at it from the perspective that we're going to achieve those goals. We're going to achieve them despite whatever hand we're dealt in terms of the economic activity. That's the commitment we're making. But you can never say never in terms of what happens if you have another 2008. What happens if the Washington situation melts down and consumer confidence wanes, and we kind of do a double dip here? We're not looking forward to that, but I think the thing that you can feel good about is if you go back and you look at our results and you look at our track record, when those things happen, we marshal very effectively, we deal with it, and we move on. So, I don't know.
Rob, do you have any other kind of, like, big one-time things or things? I mean, we've got productivity gains that we are absolutely focused on, Lance and his team. Rob always uses the term squeeze. I actually think of it more positively than just a squeeze. We have a lot of people working hard to do things better, to drive bottom line results, and you see that reflected in our 64.08% operating ratio. Eric and his team are very effectively deploying business development strategies and taking advantage of price opportunities in the markets where we have the opportunity to go above and beyond what would be considered inflationary, and that's good for us. So everybody's kind of focused on that. Rob?
Rob Knight (CFO)
Yep, no, you're exactly right. Now, clearly, going from a, you know, mid-80s to a mid-60s rate of improvement is one slope. Going from where we are today to sub-65, the slope of the line is different, but the, the tenets of how we get there are unchanged.
Chris Wetherbee (Analyst)
Sure, sure. That makes sense. That's helpful. And then when you think about the capital spending side of it in context of that target and sort of the slope of the line, as you say, over the course of the next couple of years, I think you updated us with guidance last year around this time for how we should be thinking about CapEx. Anything need to change as you think about that, as you're further into that? Obviously, PTC is still in the picture and probably will be for at least a few years to come, but just kind of curious your thoughts around that for 2014 and beyond.
Jack Koraleski (CEO)
You know, we're watching our capital spending very closely. Our, our, you know, we had reduced our 17%-18% to 16%-17%. Clearly, that implies we're going to see some volume growth. If we don't see the volume growth, we'll be paring back capital. We'll be making the right decisions from a return perspective as we see the needs across our network. PTC is still in there. At some point in time, you know, we may or may not change those numbers, but at least right now, we're comfortable with the 16%-17% kind of number we put out there last year.
Chris Wetherbee (Analyst)
Great. Thanks very much, guys. I appreciate it.
Operator (participant)
Thank you. Our next question is from the line of Brandon Oglenski with Barclays. Please proceed with your question.
Brandon Oglenski (Analyst)
Yeah, good morning, everyone.
Jack Koraleski (CEO)
Morning.
Brandon Oglenski (Analyst)
I want to come back to the pricing discussion. You know, in the past, you guys have been pretty successful at getting rates up to reinvestable levels. Is there any way to quantify for us today what percentage of the business or in, you know, broad strokes, that remains at uninvestable rates that, you know, has a lot of pricing upside in the future?
Jack Koraleski (CEO)
Hey, Rob, why don't you take a shot at that?
Rob Knight (CFO)
Yeah. Brandon, I know what you're asking, and it's just not a number we provide, other than to say that we're confident across our entire book of business, there are opportunities for us to price to market and make sure that we are at the reinvestable level. So you know, that's as detailed as we get on that.
Brandon Oglenski (Analyst)
Okay. And maybe a follow-up for Eric. When we look at grain dynamics heading into 2014, what's the mix looking like right now from a domestic grain perspective or an export perspective, or even ethanol, and how's that going to impact mix and revenue, and volume for you going forward?
Eric Butler (EVP of Marketing and Sales)
So as you know, with the drought and high U.S. corn prices, U.S. grain on the world markets really took a hit just because we were high price relative to what the other prices were in other growing markets around the world. It looks as if, and as you know, the USDA website has been down for the last several weeks, but the last public report looks as if this will be a near record year for corn production. And so I think that will make U.S. exports, corn on the bean side and even wheat exports, more competitive on world markets. I think you should see some growth and export opportunities, vis-a-vis this year as you go into next year.
Brandon Oglenski (Analyst)
All right. Thank you.
Operator (participant)
Thank you. Our next question is from the line of William Greene, Morgan Stanley. Please proceed with your question.
William Greene (Analyst)
Hi, good morning, guys.
Jack Koraleski (CEO)
Morning.
William Greene (Analyst)
Yeah, Rob, and Jack, you've always sort of described your longer term OR guidance as not really a target and an ending point, but things can go beyond that. I think something that we've all sort of struggled with over the years is thinking about kind of what structure of a network kind of limits how good margins can get. When you look at the Union Pacific network, and you see what you've been able to achieve over the last 5-7 years, which in margin terms is kind of breathtaking, is there anything about the network that makes you say, "Yeah, it's going to be hard for us to ever achieve sort of record profitability relative to our peers in the industry?" Is there anything about your network structure that limits how good you can be?
Jack Koraleski (CEO)
Man, I can't think of anything. Rob, can you?
Rob Knight (CFO)
Yeah. No, Bill, I mean, there's like, not like a mountain that's in our way, that's not in other people's way. I mean, we all have the same challenges, and it's a great theoretical question in terms of how low can you get, and we get that question. I mean, a sub-65 is pretty good performance. We think we can go below that. While at the same time, of course, that's just a measure we use as shorthand, if you will, because at the same time, what we are very focused on, of course, is improving returns, improving income, driving larger cash, et cetera. So at the end of the day, that's what we're really focused on. How low can the margins go? You know, we'll see.
William Greene (Analyst)
Yeah. Okay. Eric, a follow-up for you on intermodal. Do you feel like the new hours of service rules so far have had any impact on your growth rate there, or is this kind of something that'll take longer to show up?
Eric Butler (EVP of Marketing and Sales)
Yeah, any impact right now has been negligible. Certainly, the truckers probably are seeing some impact on their expense lines, but in terms of conversion rates to intermodal, it's been negligible so far. We do expect over the long term that it will drive more business to intermodal, to the rails. And as I mentioned before, we still are pretty excited about the upside opportunity in terms of over-the-road conversions.
William Greene (Analyst)
Yeah. All right. Thank you so much for the time.
Operator (participant)
Our next question comes from the line of Walter Spracklin of RBC Capital Markets. Please proceed with your question.
Walter Spracklin (Analyst)
Thanks very much. Good morning, everyone. My question, I guess, focusing on the weather impact that you had in Colorado and Denver, and more of a kind of a theoretical one here. When you see that kind of weather impact manifest itself, and it may be that we are going into a period where, or in the future, where these happen more often, my question is, do your clients, do your customers say, "Okay, this is weather.
It's out of your control, you know, we won't let it damage too much our relationship," or are we seeing more and more customers saying, and it looks like you, you've been able to reroute quite well, do you see that as a competitive advantage versus other railroads that might or might not be able to reroute as well due to whatever network constraints they have? In other words, do you view that, your rerouting capacity, as a competitive advantage? And perhaps, you know, Lance, you could answer that, maybe Eric, in your customer conversations, are they attaching more and more importance to that, that ability to reroute?
Jack Koraleski (CEO)
Yeah, Walter, I'll let Lance and Eric chime in here, but let me just kind of from an overview perspective, I think our team did a remarkable job of working with customers, rerouting trains, and ensuring that their freight moved to their marketplace as quickly and as efficiently as possible, and doing it in a way that they knew we're working hard to keep them ahead of the trouble and out of harm's way. And then to get the whole process back up and running again, get the railroad back up and running in a record amount of time. I think customers appreciate that.
We spend a lot of time talking to them about our strategy, basically to create value for them, and we consider that a strategic advantage of ours in terms of being able to demonstrate what does value mean, and this was a great time to do that. That's not to say we were perfect in all cases, but I think our customers are giving us high marks for that. Lance or Eric, you want to chime in on that?
Lance Fritz (EVP of Operations)
Yeah, Jack, so we do talk about how our franchise is a wonderful thing, and it showed through in how we reacted to what happened in Denver. We had alternative routes that we could use, and to Jack's point, support our customers while they were going through some of the same issues. So, I think that's a great manifestation of the franchise strength, basically.
Walter Spracklin (Analyst)
Yeah, I think-
Lance Fritz (EVP of Operations)
Do you think it's better than your competitor? I won't speak to whether it's better than our competitor. We focus on providing our customers outstanding service, so they fall in love with Union Pacific and think of us first.
Jack Koraleski (CEO)
One of the things that Lance and Eric's team does that I love, and I think the customers do as well, is they do a postmortem on every one of these events and go back and say, "What did we learn from this? What would we be prepared to do differently the next time the cards line up this way?" So that we always learn, we always—the next time Mother Nature takes a swipe at us, we're better prepared and more experienced in terms of how to deal with it and minimize any disruptive situations for our customers.
Walter Spracklin (Analyst)
It makes a lot of sense. My follow-up question, I guess, is on your crude by rail. You mentioned St. James seems to be showing a little bit more resiliency. Other areas seem to be more impacted by the differential. My question, I guess, is to what extent can your St. James destinations be-
... or insulated from that differential? And perhaps talk a little bit about the difference as to why that is, and what level does the does indeed your St. James and other stations also be impacted by differentials?
Eric Butler (EVP of Marketing and Sales)
Yeah, so we talked in the past about the reason for St. James being such a premier rail destination, and it's really the connectivity, the pipeline connectivity, the connectivity to multiple refineries, the ability to do blending there. And so it has become really a premier destination for crude, light sweet crude going to the Gulf, and we think that that resiliency will remain. As you know, the oil will move to where the market dictates based on spreads. But we think that the factors we've historically talked about with St. James makes it a premier destination, and we'll see that resiliency remain for the future.
Walter Spracklin (Analyst)
Okay. That's all my questions. Thanks very much, guys.
Operator (participant)
Thank you. Our next question is from the line of David Vernon of Bernstein Research. Please proceed with your question.
David Vernon (Analyst)
Hi, good morning, and thanks for taking the question. Eric, maybe you could, if you could give us a little more color on the legacy retention issues. Are we done sort of settling up the legacy book for next year? Were the plants that did not get renewed, did they just shut down, or was it a share loss? Whether this was PRB or Rocky Mountain coals.
Eric Butler (EVP of Marketing and Sales)
Yeah, so as you know, we don't really get into customer-specific negotiations or discussions other than, you know, what we said before. We had about $100 million of legacy renewal. We retained about half of those, and the half we didn't retain was not at reinvestable levels, so.
David Vernon (Analyst)
Okay, but was some of the losses perhaps due to the plants just being shut down, or was it...? All right, so if you don't want to comment, that's fine. I'm just trying to understand what was driving the loss.
Eric Butler (EVP of Marketing and Sales)
Yeah, our calculation of legacy does not include plants that are shut down. There are lots of shutdowns going on in the East in terms of mine shutdowns. But in terms of our serving territory, there's not any measurable mine shutdowns that are occurring in our serving territory, at least not this year and not for the foreseeable future.
David Vernon (Analyst)
All right, great. And then maybe just as a quick follow-up, how do you feel about the viability of the Colorado and Rocky Mountain coals that we're moving east relative to Illinois Basin kind of going forward?
Eric Butler (EVP of Marketing and Sales)
Yeah, that's a good question. First, utilities that are looking to convert, they can decide to convert to Illinois Basin or Colorado, Utah coal. And there's a different sweet spot depending on the mechanical burn capability and the scrubber capability of the utilities, and they have an economic profile that may drive them one place or the other. We intend to participate in both markets. We have service products in both markets. We still see Colorado, Utah coal having a strong place in the marketplace, particularly the export market. And I think going forward, their export market opportunities for Colorado, Utah are probably larger than even the Illinois Basin export coal opportunities.
David Vernon (Analyst)
Great. Appreciate the time.
Operator (participant)
Our next question is from the line of Anthony Gallo of Wells Fargo. Please proceed with your question.
Anthony Gallo (Analyst)
Thank you. Good morning, all. I thought I heard you mention that transloading was a bit of a headwind for intermodal. I was hoping you could expand on why that is, and that doesn't look like a trend that's about to reverse, so some color there, please.
Eric Butler (EVP of Marketing and Sales)
Yeah, so as you know, some of the, BCOs are looking at landing product on the West Coast and transloading it into a domestic intermodal container, as opposed to using the steamship container to move the product all the way inland. That is a trend that appears to have, ramped up in the last year or so. And, you know, there are some benefits for some customers to do that. There's some benefits for some customers to keep the, steamship, carrier, what we call IPI option, to move all the way inland. Our view of the world is, we're going to participate in both markets, and we're going to provide effective products and services, no matter how the shipper decides to, ship the product.
Anthony Gallo (Analyst)
Okay, great. And then, I'm hoping you can either confirm or deny the chatter we've heard from some of the IMCs, that part of the issue with intermodal growth on your network is lack of access to equipment, and I think they're talking specifically about chassis. Can you put any detail behind that? Thank you.
Jack Koraleski (CEO)
Well, Eric?
Eric Butler (EVP of Marketing and Sales)
Yeah, I, I'm not—I think it's just chatter. We do not have a lack of access issue on our network. I think it's just chatter.
Anthony Gallo (Analyst)
That's, that's perfect. Thank you.
Operator (participant)
Thank you. Our next question is from the line of Justin Long of Stephens. Please proceed with your question.
Justin Long (Analyst)
Thanks, and good morning. You touched briefly on the Santa Teresa Intermodal facility earlier, and it sounds like that's still on track to open early next year. But could you provide any details on the capacity of that facility and how we should think about the potential ramp in volumes in 2014 and beyond that?
Eric Butler (EVP of Marketing and Sales)
Yeah, so our investment in that facility is going to do a couple things for us. One, as you know, the El Paso, Juarez area has huge maquiladora opportunities. I think there's something like 250 customers that have manufacturing facilities in that region, and today, a large portion of that is moving by truck over the road. We are capacity constrained in our current El Paso intermodal facility to take advantage of that. And so with the opening of this. Our new facility will immediately be able to double our capacity, but we're not limited by that. We'll have the footprint to go beyond that as we have market opportunities.
Jack Koraleski (CEO)
Yeah, Justin, the initial build-out should handle 250,000 lifts a year, and we have plenty of space available to go way beyond that, in addition to it being our new fueling facility.
Justin Long (Analyst)
Great, that's, that's helpful. Second question, you know, I was wondering how much visibility you have on the potential impact from the new automotive production that's coming online in Mexico the next couple of years. Is that something that should be a meaningful tailwind as we head into next year? Or is it still too hard to tell how much of that volume can move it on your network at this time?
Eric Butler (EVP of Marketing and Sales)
So you're referring to kind of the large announced facilities by Nissan and Volkswagen. Those opening dates are beyond next year. We, along with the Mexican railroads, both the FXE and the KCS, we're working to develop service products and offerings so that we can get our fair share of participation in those. But those facility operation, meaning opening dates, are beyond 2014.
Rob Knight (CFO)
If I could just add on that, Justin, because you've heard me say this many times, you know, no franchise matches the Union Pacific in and out of Mexico. We're the only railroad that has the six border crossing points, and today, we enjoy in excess of, you know, call it around 80% market share of all autos business in and out of Mexico. While we haven't given a precise number of what the market share is going to look like after these plants go, we feel very good about the franchise we have north of the border and the fact that we are the only rail that crosses those six border points, that we will get, our fair share of, business that wants to move, north and south.
Justin Long (Analyst)
Okay, great. I appreciate the time this morning.
Operator (participant)
Our next question is from the line of Cherilyn Radbourne of TD Securities. Please proceed with your question.
Cherilyn Radbourne (Analyst)
Thanks very much, and good morning. It's been a long call, so I'll just ask one. I was just struck by the massive decrease you've had over the last couple of years in slow order miles, and just wondered if you could elaborate a little bit on what's driving that and where else that shows up in your operational metrics and in the cost structure?
Jack Koraleski (CEO)
Did Lance pay you to ask that question?
Lance Fritz (EVP of Operations)
I love that question.
Jack Koraleski (CEO)
Yeah, go for it, buddy.
Lance Fritz (EVP of Operations)
So, Cherilyn, it reflects our capital programs, which are pretty sophisticated in trying to figure out where to spend the money and what to spend it on. So you see us investing, you know, $1.6 billion-$1.7 billion directly into track infrastructure renewal for about the last, call it, six or seven years, and that slow order mile decrease is a direct reflection of that appropriate investment. And when you think about the impact it has, it has an impact on every aspect of customer service because those slow order miles are throughout the network, and they basically have the network, when they're present, operating a level that's below design.
And any improvement we make in slow orders, generally speaking, has a direct and immediate impact on the reliability of our service and the absolute magnitude of the service we can provide.
Cherilyn Radbourne (Analyst)
Thank you. That's it for me.
Operator (participant)
Thank you. Our next question is from the line of Ben Hartford of Robert W. Baird. Please proceed with your question.
Ben Hartford (Analyst)
Hey, guys. Eric, a quick question on intermodal. Could you give us a sense of what you believe the discount to the product vis-a-vis a like-for-like truckload move would be today?
Eric Butler (EVP of Marketing and Sales)
Yeah, we've talked before that, you know, it's lane dependent, lane specific, but, you know, a 15% number is probably a reasonable number, 15%-20%, in terms of the all-in cost of intermodal versus an equivalent over-the-road long-haul truck. But, you know, again, that's lane dependent, lane specific.
Ben Hartford (Analyst)
Of course. And when you talk about some of the optimism that comes from that network being able to even reaccelerate the 4% volume growth, is it under the context of being able to continue to narrow that gap as well and accelerate volume growth? Or do you anticipate that differential to be constant and expect volume growth to potentially accelerate? How should we think about that?
Eric Butler (EVP of Marketing and Sales)
Yeah, so a couple of factors. One, the question was asked before about the hours of service, so that is going to continue to have a cost impact on truckers, so their prices are going to increase. So we'll continue to grow our pricing, even without narrowing the gap. I do think that there are places where we can narrow that gap and still convert. And, you know, fundamentally, we've done some work and analysis that basically says there's still a pretty large untapped market of people who just haven't tried intermodal and haven't used it. And so, you know, it's an ideal market sales opportunity for us to penetrate. So, you know, there, there's lots of upside opportunities, and we could get it, even by narrowing the gap, we could still grow.
Jack Koraleski (CEO)
And we also have new service products that your team's been working on with Lance and his team in terms of providing great service, some new market destinations and some originations. And as the network continues to evolve and develop, that's an opportunity for us as well.
Ben Hartford (Analyst)
Helpful. Thank you.
Operator (participant)
Our next question is from the line of Jason Seidl of Cowen and Company. Please proceed with your question.
Jason Seidl (Analyst)
Good morning, guys. Two quick ones here. When I, when I look at coal out in 2014 and look at the, the arc or the yields,
... you know, given that you've retained sort of 50% of that legacy business, how should we look at how that arc's going to move? I mean, was the 50% retained longer length of haul, about average?
Jack Koraleski (CEO)
Rob?
Jason Seidl (Analyst)
Just trying to get a sense of the number that we're going to see going forward, all things being equal.
Rob Knight (CFO)
For planning purposes, I'd look at it as an average, but we're not going to give detailed or projections for coal. By the way, it will be dependent upon mix. I mean, in terms of what we're confident in our ability to continue to price our overall book of business. We won't obviously have the legacy tailwind that we called out, but the ARC will move based on the mix of the coal traffic that actually moves, so I can't give you a projection on that.
Jason Seidl (Analyst)
Right, but all I'm saying is that the mix that you retained out of that 50%, that wasn't overall vastly different from your normalized mix.
Rob Knight (CFO)
I'd call it in the normal range.
Jason Seidl (Analyst)
In the normal range. Okay, great. And just a quick follow-up question on intermodal. You know, I hear you guys on in terms of the hours of service and truckload rates, eventually have to go up. But, you know, we've been waiting for that for a while, and we haven't really seen much progress on that. Sort of how do you look at sort of gaining market share off the highway if we're still stuck in this sort of very muted truckload pricing environment?
Eric Butler (EVP of Marketing and Sales)
Yeah, so again, hours of service just went into effect on July 1, so that's why when I answered earlier about negligible impacts, it really is just recent. If you look at what we've said before, we are putting in place lots of products, new offerings. There's an opportunity. So what we've seen is large shippers really have a great understanding of the intermodal value proposition, and they're heavy users of the intermodal value proposition. There's some market segmentation opportunities for the other guys, other than the Walmarts, the Targets of the world. And that's why I think we continue to be very optimistic about the ability to penetrate intermodal, get growth, and get price.
Jason Seidl (Analyst)
Thanks for the time, as always, guys. I appreciate it.
Operator (participant)
Our next question is from the line of Keith Schoonmaker of Morningstar. Please proceed with your question.
Keith Schoonmaker (Analyst)
Yeah, thanks. I think a couple of us have hinted at the, how conservative it seems, the sub-65% goal by 2017. And I mean no insult, because you guys have identified conservative goals in the past and hit them again and again. But are there a couple of threats? What would be the top couple of threats that could disrupt this progress?
Jack Koraleski (CEO)
You know, I think when you just step back and look at it, certainly what we just went through in Washington, D.C., and the fact that it wasn't really a resolve, it was just moved ahead, is still out there, and it's very concerning for us, given that, you know, 70% of the economy is driven by consumer spending. And so any, anything that would cause the housing market to go back down, for people to stop buying cars, those have all been big benefits to us in the recovery piece of that. And that's a concern for us. I don't know of any other, quite honestly. You know, Rob?
Rob Knight (CFO)
Yeah, I would just add to that. I mean, you're right, and you're also right that we're not going to stop at that and get there as efficiently as we can. But the things that can impact you, clearly, in addition to the economy, as Jack points out, would be the fuel price. Just the math of the operating ratio performance is, you know, can be heavily impacted by fuel. But beyond that, it's sort of business as usual, if you will, in terms of the tenets of what are going to get us from here to there.
Keith Schoonmaker (Analyst)
So it sounds like you identified fuel price and consumer spending are a couple of principal ones, and maybe, legislation. But, I noticed that you didn't mention, sort of regulatory environment. Is that, less of a threat than might previously have been discussed?
Jack Koraleski (CEO)
Well, you never say never, because there are a number of pieces of legislation that we're watching, either legislation or from the Surface Transportation Board. But we work very hard to make sure that we're telling our story clearly, that we're creating value for customers, that we're investing heavily in our network and infrastructure. And anything that gets done on the regulatory front, we've been very clear that if it caps our ability to generate a return for our shareholders, it's going to curtail capital spending and investment. Nobody really wants to see that happen, and most people in Washington want to see more jobs and growth. I never want to say we're not concerned about it, but we're working at as hard as we can to ensure that that's not a major issue for us.
Keith Schoonmaker (Analyst)
Thank you.
Operator (participant)
Our next question is from the line of Jeff Kauffman of Buckingham Research. Please proceed with your question.
Jeff Kauffman (Analyst)
Thank you very much. I know it's been a long call, so I'll be brief. What should we be thinking about in terms of, I'm looking at cash flows here, tax rate, and with the reversal of some of the bonus depreciation items over the last year, what should we be thinking about in terms of deferred taxes and, and depreciation on the cash flow side?
Jack Koraleski (CEO)
Rob?
Rob Knight (CFO)
Yeah, Jeff, I mean, you're right. Bonus depreciation, we've had that benefit for several years now, and we don't anticipate that we'll see that benefit continue into 2014. And as I've said, it's that impact in 2014 is going to be in the several hundred million dollar range, but we don't think it's not going to impact our capital structure or our plans that we've outlined, but it's going to be kind of in that neighborhood.
Jeff Kauffman (Analyst)
Okay.
Rob Knight (CFO)
Sure.
Jeff Kauffman (Analyst)
So in terms of modeling free cash flow, how should I think about the difference between the income statement depreciation, cash flow depreciation, and what tax rate should I be thinking about?
Rob Knight (CFO)
Yeah, from a tax rate standpoint, I'd use around 38%.
Jeff Kauffman (Analyst)
Okay. All right. Thank you very much, and congratulations.
Rob Knight (CFO)
On a book basis, yeah.
Operator (participant)
Thank you. Our final question this morning is from the line of Don Broughton of Avondale Partners. Please proceed with your question.
Don Broughton (Analyst)
Good morning, everyone. Thank you for taking my call. Question, in your assumptions in longer term, and it's still a little ways away, what kind of assumptions have you made on international intermodal, post the opening of the wider Panama Canal? So in the latter half of 2015 and 2016 and in 2017, are you looking for international intermodal volumes to be flattish, just diminished rates of growth, or actually go negative for you?
Eric Butler (EVP of Marketing and Sales)
Yeah, so we have talked publicly before, and we still think it holds that today, about 1/3 of the business, or about 30% of the business goes all water to the East Coast versus West Coast destinations. We think that that might grow by 1% or 2% to 31%-32%, but it won't be beyond that.
Don Broughton (Analyst)
Thank you very much.
Operator (participant)
Thank you. At this time, I would like to turn the floor back over to Mr. Jack Koraleski for closing comments.
Jack Koraleski (CEO)
Well, great. Thanks for joining us on the call this morning. We look forward to speaking with you again in January.
Operator (participant)
This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.
