Q2 2021 Union Pacific Corp Earnings Call
Greetings and welcome to Union Pacific Second quarter 2021 conference call. At this time, all participants are in a listen only mode.
Brief question and answer session will follow the formal presentation.
If anyone should require I for your assistance during the conference. Please press star zero from 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. Lance Fritz Chairman, President and CEO for Union Pacific Mr. Fritz you may begin.
Thank you Rob and good morning, everyone Welcome to Union Pacific Second quarter Earnings Conference call with me today in Omaha, Eric Gehringer Executive Vice President of operations and he rocker executive Vice President of marketing and sales and Jennifer Hayman, Our Chief Financial Officer. The team at Union Pacific continued to demonstrate their case.
The ability as we move to increasing volumes, while dealing with challenging capacity constraints in some of our important supply chains. The result was the team delivered all time record financial results. Our employees are making good on our strategy to serve grow and win together.
Regarding our second quarter results. This morning Union Pacific is reporting 2021 second quarter net income of $1.8 billion or $2.72 per share. This compares to $1.1 billion for $1.67 per share in the second quarter of 2020.
While comparisons to the second quarter of last year are skewed by the Covid impact our comparison to 2019 further demonstrates the impressive results we achieved during the quarter.
Our quarterly operating ratio of 55, 1% is an all time record. In addition, we set quarterly records for operating income net income and earnings per share. These records highlight how the team is running the union Pacific franchise to deliver results as we pulled all 3 profitability level.
Simultaneously volume price and productivity.
The second quarter also marked an important milestone in our quest to reduce our carbon footprint as we achieved a second quarter best fuel consumption rate locomotive fuel efficiency is the critical element to achieving our goal to reduce greenhouse gas emissions and we're helping our customers achieve their ESG goals to cause they eliminated 5.
7 million metric tons of greenhouse gas emissions in the quarter by using rail versus truck.
While our financial results were impressive in the second quarter, our customers felt the impact of intermodal supply chain disruptions and costly rail equipment incidents within the intermodal space. We've taken numerous actions to mitigate the customer impact and are actively working with all parties in the supply chain, even so it's Lee.
Likely these issues will persist through the end of the year has the capacity to move boxes from our ramp to the final destination fall short of demand.
Relative to rail equipment incidents, while the number and rate improved their impact on the network was notable we're redoubling our efforts to utilize best in class technology training and root cause analysis to keep our crews our customers and our communities safe.
To that end, we'll start with Eric and an update on our operations.
Lance and good morning, I'd like to begin by thanking the entire operating department for their support our customers through the many transitory challenges we faced during the first half of this year, while we don't see these events impacting us long term, there's real work to be done to get past them.
Moving to slide 4.
Taking a look at our key performance metrics for the quarter. It is important to note that year over year comparisons are a little skewed 'twenty 'twenty included a couple historically low volume months at the start of the pandemic. So as Lance did we've provided a 2019 comparison to give a little more context to more normal seasonal volumes.
Freight car velocity improved from 2019 due to the execution of P. S. Our principles that reduced freight car terminal dwell and improved train speed. However, we still have work to do to return to running a more fluid network with the goal to return this metric back to the 220 to 230 miles per day range.
We achieved earlier this year.
As you can see our service reliability is measured by trip plan compliance has improved over the time in both service categories. However, current quarterly metrics do not meet our expectations or that of our customers.
Disruptions in the international supply chains, especially in the intermodal space have impacted our network significantly at the expense of our own service metrics, we chose to help reduce port congestion by moving more assets and the dock operations, but that West coast Port congestion has now moved east and is affecting some of our inland terminals.
Most notably in Chicago, we.
We are working proactively with our commercial team and ocean carrier customers to address the congestion, while continuing to sustain shipment volumes to and from the ports.
To help alleviate the congestion and maintain fluidity. We also temporarily reopened global 3 in Chicago for use as an inland storage. We are also working with our customers to develop additional storage and transportation options. We will continue to work with all members of the supply chain, our ocean carrier customers Bend.
Initial cargo owners port operators chassis providers and dray carriers to main the fluidity of international freight flows.
During the first half our network has been impacted by weather and costly rail equipment incidents as well we've made good progress on reducing the frequency of rail incidents. However, the location of a couple of the incidents occurring on our east West main corridor and our Sunset Route had a notable effect on both intermodal and manage.
First auto trip plan compliance measures.
Ultimately, we recognize the importance of improving these metrics to support our customers and our long term growth strategy.
Turning to slide 5 we continue to make good progress on our efficiency measures as both locomotive and work force productivity improved in the quarter.
Improvement in locomotive productivity was the result of running an efficient transportation plan that requires fewer locomotives workforce productivity was an all time quarterly record driven by an increase in daily car miles of more than 20% while work force levels remained flat.
These improvements were also driven by our continued focus on growing train length, which has grown by 9% since the second quarter 'twenty 'twenty to just over 9400 feet.
Increasing and more consistent volumes provide the team with more optionality to adjust transportation plans. We will continue to focus on train length to run a more efficient and reliable railroad for our customers.
Turning to slide 6.
1 driver of the continued increase in train length as our siding extension program through the first half of the year, we've completed 7 sightings and began construction or the bidding process on more than 20 additional sightings.
Through growing train size other productivity initiatives and technology, our fuel consumption rate was a second quarter record improving 3% compared to last year. The operating department understand the important role we play in achieving our long term greenhouse gas emission goals.
Wrapping up on slide 7 the entire team is focused on performing our work safer every day.
Year to date, our safety results have been mixed rail equipment incidents have decreased but personal injuries increased to address personal injuries. We are maturing our peer to peer safety programs, which is a continuation and next level of our courage to care program.
Recently, our network has been impacted by wildfires in Northern California, Our dry Canyon bridge North of Redding, California sustained significant structural damage. The team is working around the clock to repair the bridge current projections have it reopening in late August we are actively rerouting traffic in that area.
Here, which requires additional crew and locomotive resources as well as adding transit time for those customer shipment.
Ultimately I have the utmost confidence that we will guide our net work through these transitory challenges and return our service product to the level, our customers expect and deserve that.
The team did an excellent job during the quarter and how efficiently we added volume to our network P. S. I remains our guiding principle and the improvements you've seen in our productivity and operating efficiency speaks to that commitment our ability to be far more volume variable with our cost structure is a testament to our employees who execute the plan every.
Day.
With that I will turn it over to Kenny to provide an update on the business environment.
Thank you Eric and good morning, our second quarter volume was up 22% from a year ago as all of our major markets improved from the economic shutdown that we saw from the onset of the pandemic freight revenue was up 29% due to the volume increase coupled with a higher fuel surcharge and core pricing gains.
We clearly have easy comps this quarter versus last year in order to provide a little more color into the current business I'll also share a sequential comparison for the first quarter as I'll walk through each of our business groups.
So, let's get started with our bulk commodities.
Revenue for the quarter was up 19% compared to last year, driven by a 13% increase in volume.
And a 5 percentage increase in average revenue per car, reflecting core pricing gains and higher fuel surcharge revenue.
Coal and renewable carloads grew 6% year over year and 14 for them from the first quarter due to higher natural gas prices supporting domestic coal demand winter storm urea in the first quarter as well as increased coal export.
Grain and grain products were up 22% year over year due to the strength in both domestic and export grain ethanol shipments also continued to improve as production recovers from COVID-19 related shutdown.
Fertilizer carloads were up 2% year over year, and 23% from the first quarter due to strong agricultural demand and seasonality of fertilizer application.
Finally, food and refrigerated volume was up 17% year over year and 7% from the fourth quarter, driven primarily by higher consumer demand as the economy recovers from Covid, along with increased growth from truck penetration.
Moving on to industrial.
Industrial revenue improved 24% for the quarter driven by a 15% increase in volume coupled with an 8% increase in average revenue per car from a positive mix of traffic core pricing gains and higher fuel surcharge.
Energy and specialized shipments were up 20% year over year, but were down 1% compared to the first quarter as strength in specialized shipments were offset by fewer crude oil shipments and seasonal LPG demand.
For its product continues to be a bright spot.
Second quarter volumes grew 28% year over year and 7% over the first quarter.
Lumber drove this increase from strong housing start repair and remodel along with further penetration from product moving over the road.
Industrial chemicals, and plastics shipments were up 11% for both a year over year and the first quarter comparison, the sequential growth was driven by the recovery of the Gulf Coast production rate from the February for them and improve demand.
Metals and minerals volume was up 12% year over year and 25 for them from the first quarter, driven by increased rock shipments and stronger steel demand as industrial sectors recover.
Turning out of premium.
Revenue for the quarter was up 50% on a 31% increase in volume average revenue per car inquiry block 14 for exam from higher fuel surcharge revenue positive mix of traffic and core pricing gains.
Automotive volume was up 119% year over year, but down 4% compared for the first quarter driven by shortages for semiconductor related part.
Intermodal volume increased by 21% year over year and temporary them from the first quarter.
Domestic intermodal improve from continued strength in retail sales and recent business wins.
Marco in particular benefited from the ongoing strength in E. Commerce International intermodal saw continued strength in containerized imports despite congestion in the overall global supply chain.
Now looking ahead for the back half of 'twenty 'twenty 1 darden.
Starting out with our bulk commodities, we expect coal to remain stable for the remainder of the Europe based on our current natural gas futures as well as export demand.
Our food and refrigerated shipments should continue to be strong as the nation recovers from COVID-19, coupled with truck penetration with.
We are also optimistic with our grain product business as ethanol shipments will improve from increased consumer demand and our focus in growing the renewable diesel market.
Lastly, while we see positive signs for the upcoming grain harvest and strength in export demand, we expect tight supply in the third quarter as well as top year over year comparison in the back half of the year.
As we look ahead for our industrial commodity the year over year comps for our energy markets are favorable. However, there is still uncertainty what crude spread supporting crude by rail shipments.
We continue to be encouraged by the strength in the industrial production forecast for the rest of 'twenty, 'twenty, 1 which will positively impact many of our markets.
In addition for its product volume will remain strong for us in the second half of the year.
And lastly for premium automotive sales are forecasted to increase from 14 million units in 'twenty 'twenty to almost $17 million in 2020.1.
However, we are keeping a watchful eye on the supply chain issues for part related to the semiconductor chip.
Now switching their intermodal on the international side, we expect demand to remain strong through the rest of the year. The entire supply chain continues to be constrained by most notably the hallway a container from our M ramp.
But I've been pleased with the collaboration between our commercial and operating teams as we work together to create solutions for our international customers for improved service and network fluidity.
With regard to domestic intermodal limited truck capacity will encourage conversion from over the road to rail temporal Bakken shrink on chassis supply.
Retail inventories remain historically low and restocking of inventory along with continued strength in sales should drive intermodal volume higher for the remainder of this year.
Overall, I'm encouraged by the improving economic outlook, but more importantly by our commercial team's intensity and ability to win in the marketplace and with that I'll turn it over to Jennifer.
As Kenny and good morning, as you heard from Lance Union Pacific recorded record second quarter financials with earnings per share of $2.72 and an operating ratio of 55, 1% rising fuel prices throughout the quarter and the 2 month lag on our fuel surcharge programs negatively impacted our quarterly ratio by 210 basis points and earning.
For sure by 4 cents.
Below the line I previously announced real estate gain and a lower effective tax rate associated with reduced corporate tax rates in 3 states added 13 cents to earnings for sure partially offsetting that good news in 'twenty 'twenty..1 is a real estate gain of 8 cents recorded in last year's second quarter setting.
Setting aside the impact of onetime items until you peace core operational performance drove operating ratio improvement of 800 basis points and added a dollar for dollar earnings per share. These results are a clear demonstration of how we are positioned to efficiently leverage volume growth to the bottom line.
Looking now at our second quarter income statement on Slide 15, we're showing a comparison of this quarter's results for second quarter 2020, as well as 2019. This is to provide additional context to our results by comparing periods with more normal seasonal volume levels for perspective, 7 day car loadings in the second quarter of 2019 were almost 166.
<unk> thousand versus only 133000 in 2020, and then rebounding this year to 163000, so not quite back to pre pandemic levels.
For second quarter 2021, the combination of operating revenue up 30% and operating expense only up 17% illustrates our efficient handling of volume growth to produce record quarterly operating income of $2.5 billion net income of $1.8 billion and earnings per share also were quarterly records.
More closely at second quarter revenue Slide 16 provides a breakdown of our freight revenue both on a year over year basis and sequentially versus the first quarter.
Freight revenue totaled $5.1 billion in the second quarter up 29% compared to 2020 and up 10% compared to the first quarter.
Looking first at the year over year analysis.
I am was the largest driver up 22% against the pandemic impacted second quarter 'twenty 'twenty volume fuel surcharges increased freight revenue by 425 basis points compared to last year as our fuel surcharge programs adjusted to rising fuel prices.
And as we experienced a strong demand environment, our pricing actions continued to yield dollars in excess of inflation on a year over year basis. Those gains were further supplemented by a slightly positive business mix driving in total 300 basis points of improvement.
Looking down at freight revenues sequentially volume was again, the largest driver of growth up 875 basis points against the weather impacted first quarter volumes sequentially fuel surcharge increased freight revenue 275 basis points.
This is next was actually negative sequentially more than offsetting positive pricing gains and creating a 100 basis point headwind.
Now, let's move on to Slide 17, which provides a summary of our second quarter operating expenses well.
With volumes up 22% in the quarter, our benchmark of success is growing expenses at a slower rate and as you have seen through our results. We did an excellent job of being more than volume variable with our cost structure.
Looking at the individual aligned compensation and benefits expenses up 13% versus 2020.
Second quarter work force levels were flat compared to last year generating very strong workforce productivity as Eric described specifically our train and engine work force continues to be more than volume variable up only 10%, while management engineering and mechanical Workforces together decreased 5%.
Offsetting some of this productivity was an elevated cost per employee up 13% as we experienced increased overtime and more recently hire we crew costs associated with some of our network outages. Other drivers of the increase were wage inflation. The negative comparison against last year's management actions in response to the pandemic as well.
Higher year over year incentive compensation.
Quarterly fuel expense increased over 100% driven by a 71% increase in fuel prices and the 22% increase in volume.
Letting some of this expense was a 3% improvement in our fuel consumption rate driven by our energy management initiatives and a more fuel efficient business mix.
Purchased services and materials expense increased 8%, primarily due to higher volume related subsidiary drayage costs as well as other volume related expenses, such as transportation and lodging for our train crews. These increases were partially offset by around 35 million of favorable 1 time items.
Equipment, and other rents actually decreased 5% or $11 million driven by decreased rent expense on stored equipment and higher T. T X equity income, partially offset by volume increases.
The other expense line increased 21% or $49 million this quarter, driven by last year's $25 million insurance reimbursement higher casualty expenses and higher state and local taxes.
Lastly, as previously announced in an 8-K during the quarter, we expect our annual effective tax rate to be closer to 23% for the year look.
Looking now at our efficiency results on slide 18, despite some of the operational challenges that Eric discussed we continued to generate solid productivity second quarter productivity totaled $130 million, bringing our year to date total to $235 million productivity results continued to be led by train length improvements and locomotive productivity.
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As we stated at our Investor day, a better long term indicator of our efficiency is incremental margins. So looking at this quarter, we achieved a very strong incremental margins of 78% demonstrating the positive impact P. S hours, having on our operating model.
Turning to slide 19 cash from operations in the first half of 2021 decreased slightly to $4.2 billion from $4.4 billion in 2020, a 4% decline. This decrease was the result of deferred tax payments last year.
Our cash flow conversion rate was a strong 96% and free cash flow increased in the first half up $142 million or 9% highlighting our ongoing capital discipline.
Supported by our strong cash generation and cash balances, we've returned $5.4 billion to shareholders year to date as we increased our industry, leading dividend by 10% in may and repurchased 19 million shares totaling $4.1 billion. This includes the initial delivery of a $2 billion accelerated share repurchase program.
<unk> established during the quarter and funded by new debt issued in mid May we finished the second quarter with a comparable adjusted debt to EBITDA ratio of 2.8 times on par with the first quarter.
Wrapping up on slide 20, we are optimistic about what's ahead in the back half of 'twenty 'twenty 1 from a volume standpoint, we are increasing our growth outlook for the full year to around 7%, which includes just over a 1 point headwind from ongoing energy market challenges. We also see tough comparisons in both intermodal and grain as well.
This continued impacts from the semiconductor shortage and as you heard Kenny mentioned supply chain challenges in the intermodal space are likely to slow asset turns and impact loadings on.
On the flip side, we see growing confidence in the industrial sector and the team is successfully executing on our plan to grow and win with customers.
Looking at operating ratio, we're dropping the low end of our initial range and now expect to achieve roughly 200 basis points of improvement or an operating ratio closer to 56, 5% for full year 2021 with that strengthening outlook cash generation is growing as is our plan for share repurchases, which we would target at approximately 7 billion.
Or 1 billion more than we had originally planned.
Finally, I want to acknowledge that these record results would not be possible without our great work force behind each of these numbers is a member of the U P team, who work safely and efficiently to attract new business and serve our customers and with new piece, new employee stock purchase plan. The entire team has more opportunity to benefit from the companys success, so with that.
I'll turn it back to Lance. Thank you Jennifer as I mentioned at the start we must improve our safety performance is foundational to everything we do at Union Pacific The pace of our progress has to accelerate as Eric stated, we're dedicated to improving our service product to the level, our customers expect and demand all of our long term goals are.
Kate it on a safe reliable and consistent service product.
As you heard from Kenny, we're winning with customers and growing our business, you're seeing our customer focus and obsession inaction, we've got fantastic momentum and we're excited about the increasing opportunities that we are creating and uncovering given.
Given the work force issues faced across various parts of the supply chain outside of U P will likely be working to overcome that congestion for the remainder of the year.
But our second quarter achievements set the table for continued strong results from the second half of the year. These results also provide a solid start toward the long term targets. We set for the next 3 years that we laid out at our Investor day in early May.
The future is very bright for Union Pacific, we're in a fantastic position to deliver value to all of our stakeholders as we win together.
So with that let's open up the line for your questions.
Thank you for that'd be conducting the question and answer session.
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For the interest of time, and so that when we can accommodate as many analysts as possible. We would ask everyone to please limit themselves to 1 question.
Thank you and our first question comes from the line of Tom 1 of its with UBS. Please proceed with your question.
Hi, yes, good morning.
Let's see I wanted to ask you a bit about the you know network constraints.
Obviously, you took an action at a G for that was unusual.
Unusual, but I know there is good logic, obviously for that is that something where you're confident that will be reopened in a week and then I guess.
From a broader perspective, and maybe for Kenny or Lance is this you.
He knows the broader rail.
Network issues or service issues the.
Significant headwind to your ability to gain.
Gained share from truck and make that pitch you better service or is this just you know extreme unusual times and and you don't think it really hurts you on net share gain versus truck strategy.
<unk>.
Yeah. Thank you Tom I'll start this is Lance and then I'll turn it over to Kenny So in terms of network constraints. They we we view them largely as transitory. There's 1 issue, which you pointed out in the international intermodal supply chain, which is about demand in inbound containers overwhelming the capacity for.
For the ultimate customer to take the boxes, all for ramps and get them into their warehouses and distribution centers. We think that's going to be around for a little while the pause that we've taken at G. For is all about allowing those end users those shippers to ultimately be able to clean off that inventory. So that we can start with.
A more fluid our operation.
And overall I think Kenny that the we've demonstrated in this environment, we can still convert truck with our current service product, but that's a no way, saying the current service product is adequate or appropriate for truck conversion in the long run.
But you said it Ryan let me just back up for a minute and just say that our that started with some pretty strong demand that we saw come in from international trade.
And I'll tell you, Eric and I jump right in with our customers and all of the supply chain members as soon as we saw this and what I mean by that is we first we went out we added more short world. We added more long wells, we added more chassis.
We increased the train start we sat down with our customers on a daily basis flew out to the port and had executive meetings. There. We also held our executive forum with all of the international.
Intermodal customers to work through solutions, that's where we came up with a solution of G..3 what people don't know other we also came up with off ramp type solutions and finally, we in third at loop to help with the B C O to try to offer up solutions for more drayage off of our ramp so we.
<unk> been working hand in hand, with not only our customers, but everyone in the supply chain.
And so the pause that you see should help us balance the network now on a broader level.
This is transitory we don't see this being around wherever we expect as our velocity continues to improve absolutely we're going to win more trucks here. We've demonstrated that we can do it thus far so we feel very good about what we see in the future.
It's Jim do you think that the hold is gonna be done within a week or is that.
Can you comment on that.
We're in the early stages right now what I can tell you that we're working on a daily basis to make sure that that demand matches the hallway.
Yep, Okay. Thanks for the time.
Our next question comes from the line of John Jon Chapell with Evercore. Please proceed with your question.
Thank you good morning.
Sticking with you given all the service issues that seem to be grabbing. The headlines are you pricing environment still seems to be incredibly robust pretty much across all sectors can.
Can you speak to balancing some of these service issues in your conversations with the customers to still being able to push through price on a consistent basis going forward and maybe even as it relates to call where you were super cautious back in April and and maybe a little bit more balanced in July is there a chance you're still even being conservative with the coal outlook for the back.
Half of the year, especially on the pricing from.
Thanks, John you've got a lot of questions here I'll try to asked for them all.
So first of all the pricing environment, you know, we're going to price to the market and there is a tight dray capacity there tight truck capacity are you look at the even the first part of this year. We felt good about the price that we were able to take.
We've improved on that price acceleration as we've moved now.
Now for the second half of the year I do think it's important for us to look at you know our intermodal business.
And not call that or have a broad brush to say all of our challenges in the international intermodal are playing out in other areas, but we are able to get more price and volume there.
And then the last question is about coal and as we look for the rest of the year for sure as we look at where the futures are we think that the run rate that we see today.
We will be consistent for the rest of the year.
Got it thanks for your insight Kenny.
The next question is coming from the line of Brian <unk> with JP Morgan. Please proceed with your question.
Yeah.
Hey, good morning, Thanks for taking the questions.
Just wanted to ask 1 about mix and how you see that developing here throughout the rest of the year. It looks like on a sequential basis. It was still weak.
Eat away at it most of your core pricing gains there.
But given the commentary about the volume outlook in the back half for the year I would expect for that should start to turn positive. So any thoughts there would be appreciated and also the implications for fuel economy, which as we've talked about in the past has been also impacted by adverse mix.
Yeah, So Brian I'll jump in here, you know you're right from a.
We did have a little bit better performance there relative to mix as we saw the coal and the green can continue strong rather or not that continues you know you heard Kenny talk about coal staying stable for that May may help us debt you know our primary efforts relative to fuel consumption are really around how we're running them all up.
A lot of fleet the technology that we're using and mixes just kind of a benefit sometimes but not something that we're counting on and we know that we need to drive that change ourselves in terms of how we look at mix overall for the back half of the year, we do see some ongoing pressure, particularly with with grain you know had very strong grain loss.
Sharon So grain plays a big role in that mix and as I look just at the third quarter and autos could potentially stay you know play a role there it was beneficial a little bit in the second quarter on a year over year basis, but not sequentially to your point and so we're really watching that that chip shortage to see what happens with autos and intermodal.
Gonna stay strong and you know, where maybe losing a little bit of the topside there relative to some of these supply chain challenges them, but those are the things to watch for and obviously you guys get good visibility to that throughout the quarter.
And specifically on fuel was there anything other.
You implemented this quarter or was this kind of accumulation of all the initiatives you've been working on.
I don't believe it was anything special that we did this quarter, Eric I don't know if you want to comment on that accumulation of the initiatives. We've talked before about the fact that we've got more than a dozen initiatives.
The big ones continue to be our work on modernizing locomotives for implementation of Vms with 800 more units this year and even things as we look at continuing to invest for wayside lubrication all those point in the direction of being able to become continue to become more fuel efficient right.
Brian the cool part about that she rate as it hits 2 critical buttons for us It's got a cost impact maybe more importantly, it's got a greenhouse gas emissions impact.
Exactly all right. Thank you.
Our next question comes from the line of Allison Landry with Credit Suisse. Please proceed with your question.
Thanks, Good morning, I wanted to ask about train length, I mean, I can say you guys continues to improve that meaningfully.
So I guess I'm curious can we see an acceleration in the pace of improvement in the second half given the siding for dish and and imagine increase volume to help as well.
And you know I guess can you get from 10000 feet by Q4, our year ends and all of that's drive potential upside to that $500 million productivity target for the year. Thank you.
Oh, absolutely and thank you for the question I, often so to your point, yes. The siding extension work with 7 completed in 20 more to be completed for the year. The yet end of the year certainly assist us in our efforts to be able to grow train length as I've mentioned before though we also have our process improvement with which is really focused on our transportation plan and looking how.
We combine trains I'm not going to guide you to a specific number by the end of the year, what I will certainly tell you, though is that the entire team understand it's 1 of our single biggest levers to continue to drive productivity and we're all focused on it day after day.
I'll also point out that as we've been working through some of these transitory events I E. The bridge outage on the other 5 now that will become a temporary headwind to us from the beginning of the third quarter that does not stop all of our efforts, though they continue to grow that through the rest of the year.
Okay perfect. Thank you.
Thank you Allison.
Our next question comes from the line of Scott Group with Wolfe Research. Please proceed with your question.
Hey, Thanks, Good morning, I'm, Jennifer you you guys referenced some equipment incidence is there any way to put some some numbers around how much of that's costing and then when you think about operating ratio in and an incremental margins.
Do you think we should see sequential operating ratio improvement as we go into the back half and that's just the year over year trends to start to normalize a little bit do you think we can maintain this level of incremental margin. Thank you.
Thanks, Scott So in terms of the equipment incidents you know, we would kind of put all of our casualty costs. Together. So yes. We did have some equipment incidents we have a little bit higher expense in terms of some of our environmental and personal injury accruals and I'd say all in that cost is probably about a nickel on the quarter. So that's how I would I would say.
That in terms of the operating ratio and margins you know our incremental margins are in the second quarter, 78% very strong you know I think we can maintain that pace through the back half and if you think about our operating ratio guidance, though the 56 and a half just mathematically that would say that we're not probably going to.
See you know a sequential level improvements, we do have tougher comps as we move into the back half of 2021 and we see volumes.
Being I'll say kind of flattish sequentially you know if we can get some upside there obviously that could help as well.
I just want to point out Jennifer that 55, 155 X are terrific operating ratios were not satisfied it's not like we're gonna camp out there if there's an opportunity to improve but that's a that's a hell of a performance no absolutely and of course that all goes into our longer term guidance that you're aware of Scott in terms of getting to that 50.
5 next year, and then having long term incrementals in the mid to high sixties.
Thank you.
Our next question comes from the line of Ken <unk> with Bank of America. Please proceed with your question.
Hey, great. Good afternoon, good morning, Atlanta, and John if I could just follow up on on that incremental comment right. So if you think about the second half youre, increasing your volume target, yet you're kind of maintaining the O. Our target at that 56 and a half. So just wanted to walk through kind of the leverage you see on the network if you've got room still you've been at 180000 weekly.
Carloads, you're you mentioned down at 163, so it still seems like you've got operational room for benefit you should have fuel catching up in the second half after getting a negative and in the current quarter. So is there anything that would lead to a better than the 56.5 target that you've got given the additional 100 basis points of volume.
[laughter], Kenny you kind of paint for us into a corner there I'm going to start and say that the full year. Our operating ratio of course incorporates the first quarter, which I think was a $60 something.
And Theres also are the headwinds that the Jennifer mapped out you know there are tail ones, but there's we gotta be we gotta be balanced in our perspective in terms of recognizing theres. Some theres some headwinds that are going to be showing up in the second half and to your point, Ken we did up our volume outlook, but if you look at that.
That really says we're pretty flat from where we're at today in terms of ending the second quarter out through the end of the year and July you know it is off to a bit of a slower start which isn't unusual you've got the the fourth of July holiday, but right now our 7 day run rate for July is kind of the the high 150, So we've got to see that pick up and obviously some of these.
As these transitory issues that are going on in the intermodal space are having an impact on that top line. So I felt very good you know 56, and a half would be a record performance and sets us up great going forward.
Great. Thanks.
Thanks.
Alright, Thanks again.
The next question is from the line of Jordan Alger with Goldman Sachs. Please proceed with your question Hi, Yeah, given the yeah, there's still very solid demand in some of the congestion issues can you maybe reiterate your thoughts around Resourcing, specifically head count and maybe touch a little bit on other inflationary cost pressures that may be.
Lurking that you've referenced second half headwinds, obviously congestion or some of it perhaps cost as well thanks.
Let's be clear.
Clearly I think we've said this maybe even in our prepared comments that as we look into the second half our head count right. Now is about 30000 employees and it's gonna stay around in that ballpark.
As we look out into what we think the demand profile is going to be we're gonna have to hire here and there for filling vacancies or take care of attrition.
But we don't see any significant hiring program or headwind.
In in that head count number yeah, that's exactly right Lance and with regard to inflation Jordan you might recall, our full year guidance relative to 2021 inflation is 2.25% we still feel good with that you know when you think about materials caused those are largely contracted and that really flow through through our capital line. Obviously, our wages are are set.
For the year and other purchased services you know, we we do those on contractual basis is as well well look and see what inflation looks like next year is certainly it's setting up there that might be greater but in terms of how we're looking at 'twenty 'twenty..1 we're still good with that initial guidance and just as a quick follow up can you. Maybe you said this for the <unk>.
You give the dollar amount for the real estate gain and the tax benefit. Thanks.
The dollar amount for the real estate gain I think I don't have that right in front of my head. It was it was 13th sense together between real estate and and the taxes is what the gain was and of course, you'll recall that last year. We had an 8 cent benefit for formula stayed so net net those came down to a 5 cent good guy.
Okay. Thanks.
Yeah.
Our next question comes from the line of Chris Wetherbee with Citi. Please proceed with your question.
Hey, Thanks, good morning.
Maybe we can talk a little bit about the productivity outlook for the rest of the year, maybe you could help us kind of give a little bit of color around the various buckets, and maybe where you see the better opportunities from the back half of the year and then how does kind of service or to play and we've had that opportunity to get obviously, a little bit more than half for the rest of the year just kind of curious it for its service dynamics kind of make that a little bit more chat.
<unk> to get or are there other sort of areas of momentum that they kind of make you feel pretty good about that $500 million.
Eric do you want to talk a little bit about that true yeah. So we did reaffirm the fact that we're still targeting $500 million regarding your question about the service and thinking about some other transitory events. We've shared I'll just give you..1 example.
I mentioned before it's true.
Length of the large productivity driver for us and as a result of some of the transitory events, we've had to be intentional what's actually reducing train length temporarily on a couple of trains as we think about getting them on a different reroute path. When they would normally go. So certainly you could consider that to be a headwind you still have a whole team of people here that are committed with a number.
Different initiatives to still drive towards that 500 million by the end of the year.
Okay. Thank you.
The next question is coming from the line of Walter's Franklin with RBC. Please proceed with your questions.
Hey, this is James Mcgarrigle I'm on for all Walter spot from this morning I. Appreciate you taking my question. My question was on the pricing environment.
How sustainable do you believe it is gonna be longer term and are you seeing the opportunity to lock in higher rates for longer with customers that want us increased certainty of real capacity.
Yeah, Thanks for that.
I don't think I'm prepared to go out and forecast how long, we think that strength will be there what I will talk about is the fact that.
As we do have this reliable service product that Eric has put out in front of us along with some of the market dynamics on the trucking thought it it clearly has.
Afforded us the opportunity to go out there and take some pretty robust.
Our robust pricing to the market.
But as it stands now I would expect that this favorable pricing environment would stand at least throughout this year and then we'll see what happens as we turned the corner into next year and you said something important Kenny that I want to make sure. We don't Miss on the call are we've talked about the transitory issues that we've got the network. We showed some of the service.
Reflections of that but P. S are in and the fact that we've transformed our railroad.
Has this been a whole different ballpark of performance. Then these kinds of issues would have us in 3.4 or 5 years ago, and we shouldn't Miss that we're not proud of it and we know we have an opportunity and an expectation to improve them and improve rapidly. When for instance, we get the bridge back et cetera, but.
The overall performance like we showed from 19 to 21 is fundamentally difference under a P. S. Our transformation Lance when we're talking to our customers. They are certainly respect the recoverability beat of Recoverability that we have today that we didn't have a few years ago.
Thank you.
The next question is coming from the line of David Vernon with Bernstein. Please proceed with your question.
Hey, guys. Thanks for the time, so so Lance I you know we've heard the word transitory a couple of times here around the issue of service disruptions I just wanted to dig into that a little bit.
You know from what are the other work the other day that there's actually some issues staffing the railroad getting getting resources to come back off of the the inactive boards, maybe even having to kind of reach into the the checkbook and put some labor incentives out there.
I'd love to get kind of get your perspective on the ability to add resource to the extent that we see a better stronger demand environment, Kenny teams do well sort of convincing people to use the rail you know how do you feel about it.
The friction costs that might come if we ended up if we actually do end up in a better day demand environment.
That's a great question, David and I, certainly hope, we do end up with a better volume environment and it it just forces us to keep bringing more resources and let's start with labor right. Now, we're really not seeing substantial problems hiring labor, we've got a couple of issues with very different.
Skill sets most of those are in our non agreement work force like data scientists or machine learning scientists, but when it comes to hiring a T. N Y you know the core team that actually runs are our transportation product.
You know there might be a spot like L. A where it's relatively harder to hire than than somewhere else, but but it's not we're not yet in a place where we think that's a that's an impediment we don't have to do anything at this moment.
A special to try to attract people to the jobs now longer term for sure. We do have initiatives and understand that we've got to make our jobs more attractive over time. So that we can continue to attract a really big pool to our jobs net debt includes our national negotiation on on <unk>.
Right now, where we think taking somebody out of the Cabot a locomotive and putting them on the ground actually makes the job more attractive it makes it a job that stays at home and turns it into shift work, but so that kind of answers. Your labor question. Other assets. You know, we think about bringing locomotives out to support the network, we're actually doing that right now because the reroute.
Require more power and some of those locomotives are a little more costly to repair and get into operating condition.
But that's again, that's a temporary thing once once those rewrites are done and we're able to get the network back to its normal routing. Those those locomotives are gonna go right back into storage. So I just don't see.
Anything other than maybe the international intermodal issue debt looks like it's going to last for a little while until demand and supply gets balanced.
That's really going to get into 1 yeah.
Okay.
Maybe just to keep it.
Follow up for I was just kind of average that we still have about 8 or 900 folks on the team why sides that are furloughed and a larger number on the mechanical and engineering side. So that's always our first draw to the extent, we can and now some of those folks have been off for quite a while but our retention rate is still I think kind of 70% or so so it's still a pretty good.
The hit rate there.
Yeah, that's great I guess, maybe just as a follow up you guys had talked about opening up from new intermodal services, new terminals things like that.
Has the issues that you're dealing with in terms of the the international intermodal sort of impacted the ability to ramp up the pop up facility in Minnesota, the new the new facility in L. A is there is there any sort of delay in that domestic growth story that we should be expecting because of the knock on effects from the the temporal disruption of other international.
David This is Kenny.
You know we've been very excited you look at inland Empire, We've got a small group of customers that have been there a we started up in call. It I think it was June 20 burst and started our first units on the twenty-second enough and growing well.
Sure other room rates at the Investor day of where we see that and then the same is true with twin cities that started the first week in January we've seen the volume increase throughout the year, we've seen more customers attracted to that product. So on both fronts. We're encouraged and we have not seen a you know.
<unk> from call. It say some of the the wildfires, we havent seen really anything structural impact that in a negative light.
Alright, Thank you guys.
Our next question comes from the line of Justin Long from Stephens. Please proceed with your question.
Thanks, and good morning.
Maybe a 2 part question for Eric I was wondering if you could provide your thoughts around the progression of trip plan compliance as we get into the back half of the year and then Kenny any update on new business wins, either from truckload or some of your rail competitors and how that could influence volumes and net.
They had.
So I'll start so if you look at the bridge out into Northern California, combined with the wildfires east of there.
You know we've done the work to see the impact of T. P. C. And you were talking about 5 to 8 points in percentage increase in that metric. After that what's ahead of US Justin is really our continued work on variability reduction looking at every opportunity as we think about dwell and terminals as we think about train stops on line of road, how do we understand how do we.
It evolved avoid those in the future and then putting up either new process or new mechanisms in place to do that so still lots of work ahead of us still a team focused very critically uninsured and then we return the service to what our customers expect.
Yeah. Thanks for that question, Yeah, we've been able to secure a quite a bit of a business that has been moving over the road.
You think about some other products like lumber and paper we've been encouraged there we just talked about the inland Empire in the twin cities and other benefits that we've seen there I think 1 other things that have really opened up for us with its lower cost structure and more reliable service is really some of the markets that were shorter distances that might.
Have been call it less than 500 miles, we've seen a tremendous uptick there.
And then we're excited about the you know piece of business that we'll see come onto our online next year, we got an opportunity to meet with the Knight Swift folks and we're impressed with their management team and leadership team and so we're looking for to to grow up here in the near term in the future the demand is strong and.
We want to take advantage of it.
Okay. Thanks for the time.
Yeah. Thanks, Justin.
Thank you.
Question comes from the line of Jason Seidl with Cowen. Please proceed with your question.
Thank you operator, good morning, Lance in the rest of the team I wanted to talk a little bit about the conversations with shippers as we look out for the future obviously the executive order.
<unk> was a lot less worse and I think the original Wall Street Journal article had some of those believe you know, but it does sort of bring the rails back in the spotlight with you know potential increased regulations.
Is that kind of change any other discussions that you guys think you're going to have it going on into the future with some shippers I spoken to a few which I think I was thinking about bringing it up when they renegotiate their next contracts.
I'm just trying to think this through because clearly we're starting to see some real cost inflation in here and you guys are going to need to push rates, even higher to get that same spread going forward.
You know how are you how would you how should we think about this as we look out into 2022.
Yeah, Jason This is lance so let me take a first stab at how we think about the E O and the relationship to the S. T V, where you're really talking about regulation.
And then maybe some some of the rest of the team have perspective on it. So baseline you know that railroads perform a critical function in the in the economy.
We provide a affordable shipping.
For bulk product in large volume, we provide really high paying union jobs, we help people reduce their carbon intensity in their carbon emissions and we do we do all of that investing in our own infrastructure. So we're a solution to a number of the things that the current administration.
Emphasize our cros are there different departments, they're different functions and we think when we look at the E O. The he really needs to be looked through the lens of our all of government perspective Theres.
There are some things in the E O that looked like they would fight against initiatives that are the department of transportation are the E. P. A O N. The Amtrak are trying to accomplish with the help of freight railroads. So number 1 is we're trying to help all of the administration understand are the <unk>.
Packed up some of what they've got inside the E O in terms of urging the S. T D a to Reregulate the railroad.
And so.
Stepping back a little further.
We've we've been helping the S. T D C. The impact of potential regulation and the multiplicity of regulation and the the retarding impact that could have on our ability for instance to help relieve highways to take trucks off the highway and bring them onto the railroad to continue to help.
Industries reduce their greenhouse gas footprint and doing it all with an ability to invest in our own infrastructure.
So this just says we've got continued work to do I don't think it's more work I don't think it's a unique set of new work. It's the same work we've been doing for years and years are helping the S. T b understand when they regulate what the negative impacts could be if they get it wrong.
Oh I'll add as.
You know we have come from or is that from time to time will ask Scott what we think of the E O discussion and we were flat.
Comment Atlanta, just mentioned, but we haven't seen any of our customers try to insert that into negotiations of our of our business well.
Well Lance while putting at Kenny Thank you for that color 1 quick follow up on all this.
Jenny as U S.
As you look at the service product and and as you you know you start to clear up some of the bottlenecks I mean, clearly it's a it's a compelling wanted to take some trucks off the road, but 1 thing that also when I speak to railroad shippers you know supply chain visibility always comes into play and we're seeing some improvement I think across the wearable space.
Can you update us on what you pes doing to increase the supply chain visibility for the shippers.
Yeah. So a number of things we've been pretty aggressive on that front and Rahul jalali, our new CIO it really sparked that too.
We've been what I'll call Overdevelop in terms of our API development for our customers.
We have a significant number of our customers that are you utilizing a P is now.
And the value of doing that is not true what we're pushing for it not just on our rail line, but also from an underlying basis I talked a little bit earlier about the fact that even on our international intermodal side that we've worked with the ports also for that we can see inside the terminals in and what's coming to them if are a key for.
The other part of that is customers want visibility. They also want to know what's going to happen.
There is a disruption or something that is going to happen next and we've been working with operating and also make sure. We have proactive feedback from a technology perspective, Eric though we feel really good about the visibility that we've been third it and that we're providing customers and clearly for the.
Customers that are not as sophisticated there's room for us to share that more with the receiver we feel good about the work we've done with the larger customers.
Customer yeah, Jason very clearly, there's a strategic imperative that's right in front of us in the international intermodal supply chain more transparency more coordination across the whole supply chain, probably would be addressing the issues that we've got today in advance and so there was an imperative there we see it well positioned to take care of it.
With our with our product portfolio and our platforms and we're going after it.
That's great news for sure I appreciate the update guys. Thanks as always.
Our next question comes from the line of Amit Malhotra with Deutsche Bank. Please proceed with your question.
Hey, Thanks, everybody. So I just had a couple of quick ones..1 is we talked a lot about pricing, but I don't think you guys mentioned, where we are actually in the pricing cycle, there's obviously inflation everywhere and the freight economy I think it'd just be helpful to understand.
How closely your book of business today reflects.
The current market dynamics.
What the runway is on that if you can just update us on that and then.
Kenny there's just a lot of growth coming from intermodal and that seems to be the place of secular growth. I think you mentioned you won the contract with Knight Swift as well.
The issue with that is as you'd hope for her than I do there's extra cost that come with that growth, there's lower revenue intensity.
If I can call it that way associated with intermodal there other rails theres, 1 particular other rail that kind of proactively trying to balance out that that secular mixed dynamic young.
Through acquisitions of other trucking company for example, what can you do aside from riding the wave of industrial production growth and there is going to be a wave over the next couple of years, but aside from that what can you do proactively to lean.
Lead into some of them for higher value carloads that offset some of the intermodal headwind mixed drag that you have thank you.
Anyone to take all of that well, let me jump in and I'll give the first part just to remind folks of some stats in terms of what our portfolio looks like from what we can touch. So if you look at our revenue portfolio about 45% is under multiyear deal and then there's some amount of that that's turning on an annual basis, but then we have about 30%.
Sent that's 1 year contracts or lessen duration, and then about 25% that's kind of our tariff for spot business and that's primarily and some other construction products and green So think of our portfolio in that sense. When you think about kind of pricing cycle, and then Kenny I'll, let Jim but the 30.
30% to 30% for 30% towards the end of the year or for tier 1 is that right now.
Now across the across the year yeah.
Got you Okay, Yeah Jim.
A real quick all I can tell you that we.
We have seen acceleration from the book of business that we have been able to touch Jennifer talked about that we say more but we've been able to achieve more price on that as we move throughout the for the.
A year.
The larger question that you asked about you know growing that business faster than industrial production, which we've committed to over the long term.
We feel very confident about the products that we have within our Loopnet work, we enjoy a tremendous amount of business. We do a lot of trans voting for customers, we're playing in those.
Area today for.
So it's not something that we cannot do a we're also providing what whether you call. It you know team tracks that are out there whether you call it.
Added services with you know chopping up some other wood or aggregating some of them for Matt from rock, we want to continue to build that out and provide more of those services and to someone that asked a little bit earlier provide a little bit more of that shipment visibility to make it stickier for our customers to move on us. So.
That's something that we will continue to do that's something that we have to do we have to make sure that to the customer we look not just only like a railroad, but other logistics transportation provider.
Got it okay. Thank you congrats on the results appreciate it.
The next question is from the line of Cherilyn Radbourne with TD Securities. Please proceed with your question.
Thanks, very much and good morning, just a question on grain you highlighted in your comments a tight grain supply in Q3 and difficult comps in Q4, but the outlook for grain and grain products. There's still characterize positive overall, so just hoping for a bit more color there. Thanks.
That's all I'm, saying is that the demand is strong for grain it.
It was very strong in the back half of last year or so to be.
It would be above those comps are going to be pretty challenging, but we feel very positive and have a positive outlook about that demand and being able to capture it from working with Eric thing, we want to maximize all the volume that's out there he had demand looks pretty strong Kenny and we're kind of starting to shift over to what's the crop going to look like that we serve.
That's all for me thank you.
Mhm.
The next question comes from the line of Jeff Kauffman with vertical Research partners. Please proceed with your question.
Thank you very much and congratulations.
<unk> true John you mentioned.
<unk> debt are you targeting about 7 billion in free cash on the year, which is amazing and you did about 3 billion from first half for the year set in place for a billion in the second half of the year.
500 million, a quarter give or take extra but the operating.
<unk> are not rising by that much Ah if I look at the updated guidance.
Jim volume So could you help me understand what's occurring what's helping drive a little more of that free cash flow generation in the second half for the year.
Well, Jeff just to clarify when we talked about the 7 billion that's related to share repurchases not oh, okay cash flow generation and as you know we are using our balance sheet and our EBITDA growth to be able to fund some of those share repurchases. So I referenced.
Did the the $2 billion ASR in March excuse me may and.
And that was funded through debt issuance. So we do see cash growing some of that in terms of for the free cash flow. Paul is impacted by the fact that we did have and I mentioned. This in my remarks, you know taxes year over year relative to the cares act are are higher and impacting some of that free cash flow a little bit more about the comments on the 7 billion were spin.
I think to share repurchases.
No that answers my question I, just couldn't get them afterwards, so thank you.
Okay.
Thank you at this time of for each end of our question and answer session and I'd like to turn to flow back to Mr. Lance Fritz for closing comments.
Thank you Rob and thank you all for your questions. We're looking forward to talking with you again in October to discuss our third quarter results until then I wish everyone. Good health take care and Goodbye.
This concludes today's teleconference. You may disconnect your lines at this time and thank you for your participation.