CSX Corp (CSX) — Q4 2022 Earnings Call Transcript

Hello, everyone, and thank you for joining our conference call. I'm here with Kevin Boone, Jamie Boychuk, and Sean Pelkey, and we are excited to update you on our quarter results and share our initial views on the upcoming year. I first want to thank all our CSX employees for their dedication as they work diligently on behalf of our customers through all the challenges and uncertainties that we faced in 2022. Because of their efforts, our network has continued to run safely and our financial performance has been very strong. We have accomplished a lot over the last four months since I joined the Company. This includes my visits to our railroads out in the field, visits to our customers, our investors, and our many partners in the government. We finalized agreements with our labor unions, we reached a positive solution for the Gulf Coast with our colleagues at Amtrak, and we started to make updates to the policies on attendance to make a big difference in our employees' quality of life. I am particularly proud to report that our service metrics continue to show real improvement into the fourth quarter after starting a clear upward trend in the early fall, and we are very pleased this progress continued throughout this month. As we anticipated, our hiring successes have allowed us to deliver better customer service, which will enable us to capture more business with more volume over time. Looking forward, we are focused on building on our momentum, leveraging our industry-leading operating model, and growing this railroad. As we go through the details and answer your questions, I believe you will get a great sense of the energy and optimism that we all share across the organization about the opportunities ahead for CSX. Now, let's turn to our presentation to review the highlights for the fourth quarter and the full year. CSX generated over $3.7 billion in revenue, up 9% from the previous year on 1.5 million carloads in the quarter. Revenues benefited from higher fuel surcharges, strong core pricing, and higher storage and other revenue. Operating income increased 7% year-over-year to $1.46 billion and our operating ratio was 60.9%. As we've reminded you before, our Quality Carriers trucking business adds roughly 250 basis points to our operating ratio. Earnings per share increased 17% to $0.49. Quickly looking at the full year 2022, our revenues of nearly $15 billion were up almost 20% compared to 2021. Our full year operating income of $6 billion increased 8%. Excluding the gains from the 2021 real estate transaction with the Commonwealth of Virginia, our operating income grew in line with our guidance for double-digit growth. The operating ratio was 59.5% for 2022. Finally, earnings per share increased 16% in 2022 to $1.95. Now, let me turn it over to Kevin, Jamie, and Sean for details.

Thank you, Joe. Turning to slide 7. Merchandise revenue increased 7% in the quarter, as a 9% increase in revenue per unit more than offset a 2% decline in volume. For the full year, merchandise revenue increased 9% on 1% lower volume. 2022 merchandise growth was driven by higher fuel surcharges combined with an increasing pricing environment as inflation accelerated through the year. Looking forward to 2023, we have significant network momentum as we began the year, and we expect to leverage industry-leading service into growth opportunities with our customers. This is reflected in our recent customer surveys where we have seen a significant improvement in overall customer satisfaction scores. We see opportunities for solid volume growth in merchandise for the year, led by continued strength in automotive, our growing export plastics business, and share gains as customers respond to our improving service. This growth is likely to be partially offset by weaker housing-related and domestic chemical shipments as we start the year. On slide 8, you can see fourth quarter coal revenue increase 20% on 9% higher volume and a 9% increase in revenue per unit. Full year revenue increased 36% on 1% lower volume and a 38% increase in revenue per unit. In 2023, we expect export coal volumes to grow in both the metallurgical and thermal markets. So, we do expect benchmark indexes to decline from the elevated averages of 2022. We're optimistic about the potential positive demand impact of China's reopening. While on the supply side, we have a new 4 million ton metallurgical coal mine coming online this year. We also anticipate volume opportunity as we address the 2022 issues, including reduced production at some CSX-served mines and capacity limitations at the Curtis Bay and Mobile export terminals. We expect domestic volumes to be driven by low thermal stockpiles that remain below historical averages. Healthy inventory levels will allow utilities to better respond to natural gas volatility and more readily dispatch capacity to reduce stress on the U.S. power grid. U.S. steel production, which drives domestic coal consumption, will benefit from a recovery in the automotive industry as well as higher infrastructure demand. Now turning to slide 9. Fourth quarter intermodal revenue increased 4% as a 9% increase in revenue per unit more than offset a 5% decline in volumes. For the full year, revenue increased 13% on flat volumes due to a 14% increase in revenue per unit. International intermodal markets continue to be negatively impacted by slowing activity, which looks likely to continue into the first half of 2023. Imports have declined, and warehouses have seen elevated inventory levels. To help counter this, we are pursuing several initiatives to bring new solutions to our customers to help them reach new and existing markets. With our domestic intermodal business, we see opportunities even as the trucking market has softened. The team is focused on accelerating truck-to-rail conversions, and now with equipment constraints largely behind us, the team has more opportunities to pursue these initiatives. We are seeing existing customers and those that are new to intermodal adopt strategies to drive more of their transportation spend to rail. The team is doing a great job of identifying these opportunities and building the relationships to drive this growth. Finally, moving to slide 10. Let's discuss CSX's role in reducing our customers' emissions. As we pursue truck-to-rail conversions across the markets we serve, we are actively promoting rail's environmental advantages to our customers. We are increasingly looking for ways to reduce their own emissions. These are board-level initiatives for our customers and the opportunity to choose rail over trucks provides real, measurable savings across the entire supply chain. In 2022, CSX customers avoided emitting 10 million tons of carbon dioxide by choosing to ship with CSX instead of truck. We continue to provide an emissions advantage for our customers and need to keep innovating. We are not only piloting new technologies that should provide fuel savings but are exploring emerging technologies that can be implemented in the future to keep CSX at the forefront of delivering best-in-class efficiencies. Providing visibility to our customers is also a priority. I'm excited about the additional insights we will provide to customers to help them identify and convert incremental freight to rail by utilizing our updated carbon calculator platform that will launch in the first quarter. Lastly, we are proud of the recognition CSX has received for our sustainability efforts, with several of our awards listed on this slide. It is a priority for us to remain an industry leader in environmental stewardship, and we look forward to sharing more details on the several projects we have underway throughout the year. Now, let me turn it over to Jamie to discuss operations.

Thank you, Kevin, and good afternoon, everyone. Safety remains our top priority at CSX and has been the foundation for our service restoration. As shown on this slide, a personal injury frequency index was flat from the third quarter and unchanged for the full year. The FRA train accident rate increased from the third quarter but improved versus the prior year. Most importantly, for the second year in a row, we ended the year without a life-changing event. These results were delivered while onboarding over 2,000 new conductors during the year and underscores the safety culture that runs deep within our One CSX workforce. New hires learned the importance of operating safely in the classroom, but the most impactful lessons occur day in and day out on locomotives and in terminals while working with more experienced employees. These daily interactions are reflected in our recent safety performance and emphasize our commitment to operating safely at CSX. I would like to recognize the over 6,200 employees within CSX's engineering department, which set a record for the lowest number of train accidents in the department's history. This is a true accomplishment, given the nature of their ballast-level work. In the year ahead, we will continue to instill a safety culture within our new hires, maintain that culture in our experienced employees, and focus on the training and discipline we need to reduce human factor incidents. Moving to the next slide. You can see the success that our entire team has had in driving meaningful service improvement with a clear trend emerging around the middle of the third quarter as staffing levels at many of our locations reached key thresholds. Even with the temporary hit from the weather towards the end of the year, average velocity was up 11% sequentially in the fourth quarter, dwell was down 13%, and trip plan compliance improved by several percentage points for both intermodal and carload. This progress has not stopped as we crossed into 2023 with our service metrics continuing to trend towards pre-pandemic high water levels of late 2019 and early 2020. Our team is focused on improving network fluidity and delivering consistent, reliable service that will encourage our customers to shift business onto our network, and the data shows that we are well on our way. Now turning to hiring. A robust training pipeline and over 350 conductor promotions in the fourth quarter allowed the team to achieve our long-stated goal of 7,000 active T&E employees. Getting our resources to this level has driven the service momentum Joe discussed a few minutes ago. We will continue to support improved service into 2023. Going forward, we expect to stabilize active T&E headcount with targeted hiring continuing for key locations to offset attrition. I will turn it over to Sean to discuss the financials.

Thank you, Jamie, and good afternoon. Looking at fourth quarter financial results, revenue increased 9% and operating income increased 7% to $1.5 billion as the top line gain outpaced several expense headwinds that I will discuss in more detail on the next slide. Interest and other expense was $6 million favorable compared to the prior year and income tax expense increased by $15 million. The effective tax rate in the quarter was 21.9% as a result of favorable adjustments to deferred state taxes. Our expected tax rate going forward continues to be 24.5%. Fourth quarter net earnings increased 9% to $1 billion, while EPS grew 17%. Full year 2022 results were highlighted by top line growth of 19%. Operating income was up 8%, which includes a 4-point impact from the Virginia real estate transaction, resulting in 12% growth when adjusting for these gains. Let's now turn to the next slide and take a closer look at fourth quarter expense. Total fourth quarter expense increased $210 million compared to the prior year, driven primarily by higher fuel costs and inflation. Fuel expense was the most significant driver at $129 million due to higher prices. Labor and fringe expense increased $23 million as the impacts of additional headcount and wage inflation were partially offset by lower incentive compensation. PS&O increased $54 million, primarily due to higher operating support and terminal costs, which will remain somewhat elevated near term as operations continue to improve. PS&O inflation is also running around 5%, and the quarter included about $10 million of expense from obsolete inventory and technology write-offs. Depreciation increased by $33 million in the quarter, which includes an ongoing quarterly impact of about $20 million related to the completion of a periodic equipment study. As a result of this study, and a higher net asset base, full year depreciation expense will be up approximately $100 million in 2023. Equipment and rents was relatively flat versus the prior year, and gains on property dispositions increased $31 million. While we are always looking for opportunities to leverage excess real estate, we won't likely have significant sales activity in 2023 at this point. Overall, congestion-related expenses were slightly above $30 million in the fourth quarter, and part of that cost was incurred during winter storms at the end of the period. Despite elevated inflation and increased headcount, we expect to deliver strong cost efficiency throughout 2023, as better fluidity reduces terminal costs, overtime pay, and other expenses. Now turning to cash flow. Full year free cash flow of $3.7 billion decreased $100 million but was approximately $100 million above prior year results adjusting for the Virginia transaction. Operating cash flow increased over $500 million on higher earnings, more than offsetting approximately $350 million of additional capital spend from our continued focus on both investing for the long-term reliability of our network and identifying and executing high-return strategic projects. After fully funding capital needs, we returned nearly $5.6 billion to shareholders in 2022, including over $4.7 billion of share repurchases and $850 million in dividends. We exited the year with a strong balance sheet and liquidity position, including $2.1 billion of cash and short-term investments. Looking forward, we remain committed to a balanced and opportunistic approach to returning excess cash to shareholders. With that, let me turn it back to Joe for his closing remarks.

Thank you, Sean. Before we discuss our outlook, I want to briefly touch on a couple of key ideas that we think about the ONE CSX concept and how it fits together with the fundamentals of scale railroading at the core of this company. This past year has seen a lot of commentary from many different parties about what scale railroading is and how it's supposed to work. For us, it really is quite a simple operating philosophy based on the 5 principles that you see across the top of slide 20. The key, just as it is with the railroad network, is to keep everything in balance, optimize your assets, and ensure you show respect for your employees; be disciplined in cost control; and maintain good service for your clients. If you can't service your customers well and reliably, all the cost control in the world won't deliver a healthy growing business. CSX has been tremendously successful over the last several years as the company has undergone its transformation. In my view, we've done particularly well across the first three of these scale railroading principles. The opportunity for us now is to focus on getting to even better balance with those last two. We will redouble our efforts in serving our customers and ensuring that our employees, the people who are delivering that service to our customers, feel valued, appreciated, and included. To address this and bring out the best of this operating model, we are building a One CSX culture that prioritizes our relationships and leverages our common goals. Whether you are an employee, a customer, or a shareholder, you want a strong and thriving CSX. A healthy culture leverages that alignment to do better together. Under each heading, you will see a couple of the ways we have brought these principles to life over the last year. At the bottom, we give examples of what we aim to do. For customer service, we have added the T&E resources we have needed to increase capacity, and we have built resilient momentum as our service measures have improved. Now looking forward, it is critical that we ensure that our service metrics reflect our customer experience and that we are measuring and evaluating ourselves in the right way. We also know that we have to improve the way that we interface with our customers and make it easier to do business with us if we are going to win market share from trucks. Every week, we get together as a leadership team. We are challenging ourselves to find new ways to address these issues and take advantage of the great energy that we are creating here at CSX. We have tremendous talent here. With these principles as our roadmap, we have a clear, collective goal. Now, let's conclude with a review of our outlook for '23 as shown on slide 21. First, as our service levels keep improving, we expect to achieve overall volume growth for the year, which will outpace real GDP growth, driven largely by strong contributions from merchandise and coal, as Kevin discussed. That said, we do believe that international intermodal volume is likely to be soft, particularly over the first half of the year, as imports have slowed and retailer inventory levels have recovered. Next, the pricing environment remains favorable for us. Our customers have experienced substantial inflation and understand that we face our own cost pressures, including the effects of the recent labor agreements. This transparency has helped us as we renew our pricing agreements, which will support our top line performance. That said, there are a couple of important things to note for 2023. First, we do expect revenues from intermodal storage to decline through the year as supply chain conditions improve. We currently believe it is reasonable to expect we will see a reduction of approximately $300 million in intermodal storage revenue compared to last year, which would imply a quarterly average close to levels seen in early 2021. Second, international met coal benchmarks have recovered from their lows of last fall but remained volatile. High-quality Australian met coal averaged roughly $355 in 2022 and sits at $315 today. It is likely that the average this year will be lower year-over-year, which will impact our coal revenue per unit and our total revenue. Now regarding profitability, we will face cost pressures in 2023, but we know that we can get better operationally. Where it is possible and where it makes sense, we will make every effort to realize efficiency gains and reduce some of the extra costs that we have been carrying due to demand through the congestion and resource constraints of that post-pandemic period. In the end, our margin performance will largely depend on our success in driving more volume through our network and realizing potential operating leverage. Finally, we estimate that our capital expenditures will increase to approximately $2.3 billion, driven by a full year of spending for PNM, additional equipment for Quality Carriers, structural rail conversion opportunities, investing in strategic high-return growth projects, and the effects of inflation. Now before we close, I want to emphasize what an exciting time it is for all of us to be a part of the ONE CSX team. We have a common goal to properly grow this railroad, and you are seeing the real progress that we are making toward that goal as we put people and resources into place. I am personally very optimistic about the opportunities ahead, and I look forward to updating you on the achievements throughout the year. Thank you. And with that, we will now take your questions.

Thanks, operator. Hi, everyone. I wanted to ask about yields kind of on a consolidated basis for this year. Obviously, the supplemental revenue and fuel will be somewhat of a headwind. I guess, standing here today, would it be fair to say kind of yield will be flattish on a net basis? And Sean, I guess, if revenue is kind of flat, can you just remind us of kind of the costs that are in the system that you think can be reversed to maybe offset some of the cost inflation? Thank you.

Amit, this is Sean. Yes. So, in terms of the yields, I think Joe sort of laid out our expectation on the coal side, perhaps a little bit lower just looking at the comparison versus some of the record levels last year, fuel potentially a little bit of a headwind on a yield basis as well. We'll have a little bit of positive mix, at least in the first half here with the pressures on intermodal, specifically relative to the growth that we expect in merchandise and coal. So, that's the yield story. And then, in terms of the costs, I think there's a number of different categories. Certainly, with the intermodal terminals becoming more fluid as some of that traffic moves its way out of the system and start spinning again, we should see some costs come down, and the terminals are in very good shape right now. We should see a reduction in freight car rents as our cycle times improve, and they have already, things like overtime and ancillary costs related to the crews getting hung up last year with delays in service, and then locomotive maintenance as we're able to spend the assets faster here. So, those are a few categories where I would say we ought to expect some improvement this year.

Sean, do you have any numbers on that? You've mentioned $40 million a quarter, but can you quantify some of the efficiencies or inefficiencies?

No specific number, no. I mean, we're going to have inflation headwinds, right? I think, probably in the 4% to 5% range. And our goal is going to be to offset as much of that as we can, both through taking out some of those extra costs that we carried last year as well as continuing to find efficiency gains across the business.

There are a lot of moving pieces this year in the outlook. So, I was just curious if you could give us any directional color on the year-over-year change you're anticipating for both revenue and operating income? And maybe you could comment on what that trend line could look like throughout the year, if things are going to get better or worse? Would just love some additional thoughts.

Yes. Justin, we're not going to get specific in terms of the guidance itself. When you look at first half, second half, the volume comps on coal are a little bit tougher in the second half than in the first half. In terms of intermodal, Kevin talked a little bit about some of the headwinds we're seeing on the international side here in the first half of the year. Those are really sort of the big drivers on the volume side. And then, in terms of all the revenue, that coming down about $300 million for the year, obviously, second half of 2022 was higher than the first half of 2022. So we'll be facing sort of a bigger headwind there. And in terms of overall operating income, I think we've laid out some of the factors, right? I think we feel great about our ability to recapture some of the share that we missed in 2022, given where the service product is, given that we've got the headcount that we need and we've got the assets that we need, which is why we're going to grow above GDP. We're going to see gains in merchandise and in coal. We've got a strong price environment. We've got the cost opportunities that I've talked about. And on the flip side of that, we have a few headwinds between the supplemental revenue, the other revenue piece, higher depreciation, and probably lower real estate gains. So, those are the factors. But that being said, I think the fact that we are expecting growth. And as we add that growth to the system, we're going to add that strong incremental margins.

So, I guess, maybe piggybacking off that answer there, Joe. And I know you've only been there a couple of quarters now, but we've heard for a year-plus that the real limitation here was headcount, resources, and more importantly, service levels that you're delivering. I mean we're seeing that come through the data, I think, pretty strongly in the fourth quarter and as we start out here in January. So, can you talk to how you're going to convert that? And Kevin and Jamie, maybe how closely are your teams working together to ensure that you're growing in the right places? Because I think in the past, we've seen growth that can come in the wrong places and lead to even more operational challenges for the other carriers.

Yes. Thanks, Brandon. I think — this is Joe. First off, thanks for recognizing the significant service improvements and operating performance that we're seeing continuing into January. Our team works great together. So for what it's worth, and clearly, Jamie and Kevin, their offices are next to each other, and they're talking all day long. I'll let them talk more about that. But you referenced the fact that there's been some conversation for quite some time that our challenges were manpower levels and then how that affected the fluidity of the network; we're seeing, as you just referenced, the performance that comes from getting manpower levels where we want them to be and running this network the way it was run prior to the pandemic, which is a very strong operating team. So, the conversion opportunity is to demonstrate some repeatability and predictability around our performance and to show our customers that not only do we have the capacity in place, but we also have the performance to demonstrate that they should come back to us. And I'm feeling optimistic about that. And the conversations we're having with customers, they're recognizing the improvements that we've shown for the last several months. And they're also confident in our ability to continue that, especially now that we have the manpower levels where we want them to be. So, if you look at it, we're still not meeting all the demand that’s out there for carloads at our business; for our business. And as we go through the year, we'll look for every opportunity to do that. I'll let Kevin talk more about some of the opportunities in the markets themselves. And then I'll let Jamie talk about the operations. Thanks.

Yes. Brandon, you did mention the remarkable improvement in our service that we've seen, and it's a real change, and there's a lot of excitement around this organization about it and what we can do going forward. Joe has brought both Jamie and I and his teams together to talk about some of the key markets. And there's been a lot of interesting ideas that have come out of that where we can really leverage what we can do service-wise and what we can do creatively to create those opportunities for us. And those things are the fun part of what we do every day, and we're doing a lot less of that and a lot less of customer service and a lot more coming up with new ideas and having those discussions with our customers about growing. I'll tell you, I've had a chance to meet with a lot of customers over the last month or two. And every time, probably 90% of those conversations, we walk out with a lot more opportunities to pursue. Sometimes it means that we have to think differently. We have to introduce customers to what the intermodal product is or what we're capable of. And what we're capable of today is much different than what we were capable of a year ago. The team is getting together; the whole sales and marketing organization. Jamie is going to spend time with them. I was going to spend time with them next week, and it's off to the races. It's up to us to find those opportunities and really pursue them. But I'll hand it over to Jamie to talk about the upside.

I think really, the only thing I can add to that is there's a lot of capacity out there. So what Kevin and I talk about is where is that capacity, what can we do with that capacity, and how do we get out there and sell it. My team is out in the field, ensuring that they are talking with customers more than they ever have because they have time to do that. Previously, we were trying to find a crew to run a train here or there or wherever else. Now they have the time to sit back and deal with any of those customer demands that might be out there to help Kevin and his team grow. Some of those discussions we have are what is the customer really looking for? Is it the right metrics that we're looking at that the customers are looking for? And that first mile, last mile improvement that the team has been able to put together is really record-breaking for us. If I look back at the last 6 years, unfortunately, '22 wasn't the best year for us, but exiting '22 with our customer service in '23 are some world record numbers that we haven't seen. Our job is to keep producing those numbers and making sure Kevin and the team has what they need to get out there and sell and commit to the customers that what you see out there is what you're going to continue to see. So great collaboration between our two groups.

Considering the outlook and the positive sentiment regarding the growth in merchandise and coal, as well as the good incremental margins compared to the high-margin revenue challenges you face, such as the decline of $300 million in accessorials and the decrease in export coal yields, how should we think about the relationship between these factors and the potential for cost reduction? Any insights regarding the operating ratio, particularly in terms of performance in the first half versus the second half or for the entire year, would be appreciated. The perception of high margins amid these challenges is something we are finding difficult to navigate.

Yes, Chris. Regarding the coal yields, there are no costs linked to the accessorials, but we do incur costs related to congestion at the terminals and renting space at container yards to relocate containers. This contributes to around $150 million in additional costs we experienced this year, some of which will decrease. As we expand the business, we're confident in our ability to achieve strong growth rates. Therefore, the question about what happens to the operating ratio largely hinges on how much growth we can generate. Last year, we noted that there was demand we couldn't satisfy due to insufficient crew placement. Now that we have those crews in place, we see a significant opportunity ahead of us.

So maybe I'll try it this way. How much volume growth do you think you need to be able to grow earnings this year? And then, it sounds like there's going to be some OR pressure this year. You've got some headwinds. I think Joe, I guess I want to understand, what's your commitment to longer-term OR improvement kind of beyond 2023, just thinking out the next several years.

Yes. Scott, on your question about how much growth, I don't think we're in a position to answer that one right now that you kind of run it through the model, but I think we've given you enough of the factors. And I think the fact that we sort of pointed to coal and merchandise as areas where we think we can sort of meaningfully outperform whatever the economic indicators are is a reflection of the fact that we feel good about where we are from a capacity and service standpoint and the ability to sell into that market. But, we're not going to give you a specific number there.

This is Joe. Regarding the OR question, I believe there are a few key points to consider. I am very confident that our team will continue to achieve improvements on the denominator side and maintain strong operating results. On the numerator side, you are correct in noting that there were some significant advantages last year, such as the fuel surcharge, intermodal storage, and coal prices, and we will see how much of that carries over into 2023. However, I am optimistic about the volume growth opportunities that we can pursue, given our confidence in our operating model and performance. Our customers, who are facing cost and inflation pressures and possibly the impacts of a slowing economy, will be looking for ways to reduce costs. We strongly believe that this year and in the future, we will demonstrate our capacity to grow and earn more business. Our customers will prefer to do more business with us, and we also have the environmental benefits related to ESGs and emissions in the rail industry. Therefore, we are not going to set a specific target for OR. We are proud of our performance. Last year, with Quality Carriers, we achieved an operating ratio under 60, even though it wasn't at our optimal performance level. We are confident there is strong performance within this company that will continue. The uncertainty lies in some of the revenue aspects this year and moving forward. Our challenge is to achieve real business growth, which results in solid incremental margins, while effectively managing our costs and utilizing our assets. This approach should lead to very strong performance within an operating ratio that we find acceptable. Ultimately, this company is focused on delivering margins, profitable growth, and margin improvement, which over time should result in a favorable operating ratio.

Kevin, as we watch these service metrics improve significantly since really the middle part of last year and intermodal trip plan performance just consistently around 90%, best in the industry. It's a little confusing that even given the headwinds, maybe your intermodal volumes are running lighter on a year-over-year basis than most of the other Class 1s. Can you help us explain any disconnect between those improving metrics and some of those intermodal shortfalls that may be unique to you? And maybe that also ties in then to explaining a bit more on some of the strategic opportunities that you noted in your prepared remarks?

Yes. I think when you look at – and look, three years or three weeks doesn't make a year, so we've got a lot of work to do as a team. But I think you'll see over the last two years and through the pandemic that we really outperformed the industry and a lot of that growth that we mentioned before came on the international side. We don't pay much attention to the other Class 1 railroads, but I do believe we probably have a little bit higher percentage of our businesses, obviously, exposed to that international market where we've had great, great success, and we see a long-term outlook that's very positive for us. So, I think that's probably contributing to some of the things we're seeing here recently. But we've obviously had great performance and continue to think we'll win share in the market. The team has got a number of initiatives that will take form later on in the year and that will drive incremental business to the railroad. So excited about what we can do in the quarters ahead.

I just had a clarification for you first, before the question. I don't know if I caught what your GDP assumption is or which forecast you're referring to just in terms of how we anchor to the volume comment? And then, Joe, I wanted to see if you could offer some more thoughts about your comments on relationships? And I think tying into labor, how do you think about how you want that relationship to change? Does that cost you something to do that? And what's the benefit over time? Is it just probably attrition is running 15% a year, we wanted to get down to 5%, and that saves us sort of help service? Just some broader thoughts on when you talk about relationships and labor, what do you mean by that? And how do you think about what that does over time?

Tom, on your GDP question, roughly 0.5% growth is the GDP number that we're looking at. And so our guidance is to grow in total above that with intermodal headwinds and solid growth across the other markets?

Yes. Tom, this is Joe. Thanks for the question regarding labor. So, lots of thoughts here, but I'll try to be concise. First, just a reminder to everybody that this is a service business. And we provide our service to our customers. We move their goods from point A to point B, and we're proud of the way we do that. But remember that in the service industry and service business, it's all about the employees. You're not selling a product; you're not developing a product. You're really relying on your employees to represent your company in the service of your customers. I start there because it's so critically important to understand why it's so critical to have a really strong relationship with your employees, including those represented by unions because they are the individuals doing the work and moving goods from Point A to Point B and serving our customers. The motive here isn't to try and leverage relationships to try and decrease costs or find a dollar here and there. It's about building a culture where our employees feel valued, appreciated, and included in the service of our customers in a way that we can demonstrate that CSX is unique and different from the other options available to them and provides a value proposition to our customers that we think can be very special. There's a lot of variability and a lot of independence when it comes to the work that's done in the field because this is not a factory assembly line. When you have your employees motivated, engaged, and feeling valued, their efforts to support your initiatives are greatly enhanced. And that is what's critical about this relationship: listening to our employees, resolving their issues, working on things that improve their efficiency and their work-life balance and safety. These lead to a better service product for our customers, which ultimately leads to a better business for everyone, including our employees. From the labor side, it's really about building relationships and generating trust to get to the point where you can have real dialogues around solutions and understand each other's desires and perspectives to find the best solutions. I've found in my past experiences that when you get to that point, you have a healthier business and you have happier, safer employees who are working better together to serve customers. That's really the desire here is to provide that kind of opportunity for our employees. What comes with that? Lower attrition, better recommendations for referrals, and just a better experience for everybody. That's really a big part of the ONE CSX culture initiative focused on building this team, working all together, and labor is a big part of that. It’s a little more complicated in the rail industry with 12 different unions. However, we're feeling really good. Jamie and his team are working every day, having lots of good discussions. We voluntarily changed our attendance policy based on feedback, and that's impactful to our employees. We're listening to them every day, and we're working on problem-solving; ultimately providing an environment where employees want to be part of and serve our customers better. With that comes a more efficient operation and, frankly, better service for our customers, which ultimately leads to growth opportunities.

Hey. Good afternoon. And thanks for the rundown there, Joe. Just maybe can we clarify? Sean, I guess you're looking for volume growth offset by accessorial and coal yield declines, efficiency gains with service costs gone, but inflation up. But I just want to clarify, you're not specifically committing to income or operating improvement for the year, right? There was no outlook on what that means for collateral or the EPS line?

That's right.

Okay. And you're right. The last couple of years, really, we've seen our on-time originations drop. And that's been consistent, unfortunately, because of the manpower situation we've been in. I'm happy to say, over the past three weeks into this year, we started to get back up to our record highs. The team is hitting over 85% on-time, which is great. It starts to get us balanced. As we continue to onboard some more folks, we'll continue to drive that number back up to what we saw in 2019, around 89%, 90% on-time origination, and that's what we're shooting for. It's an important metric. We made some decisions last year to back off a little bit on that, so we could connect as much traffic as we could and not leave things behind. Now we have the manpower to balance the assets across the network and you can see it. If you look at our velocity and our dwell numbers just in the past 3-4 weeks, you can see that the network is running much more fluidly. We hit that magic number just entering the new year that we were looking for at 7,000 T&E count. As a matter of fact, we're currently at 7,100 today, and we're going to push that number a little higher to cover upcoming vacation time. We're going to ensure the right headcount and people in the right places, and we will continue to drive those metrics that will enhance the rest of the service metrics. Again, we are starting to get back to, in fact, we're exceeding our record numbers on some of those service metrics. We will provide a product that Kevin and his team can sell and use to grow this company.

Yes. So Ken, thanks for the question. A couple of just additional comments. We spend a lot of time as a team talking about customer service metrics, whether it's on-time originations and arrivals, whether it's in the last mile, first mile; all the kind of things. I'm really pleased with how our team is looking at everything. We want to make sure that we see the world through our customers' eyes, which is why we get feedback on surveys. Kevin referenced, we've seen the best results in our customer surveys in quite some time. So, I feel really good about that. Now, the balance between top line growth and operations, I think they're intertwined. I feel even more strongly about it now. We have a phenomenal opportunity here at CSX to leverage our strength in operational performance that you've seen pre-pandemic and you're seeing now again to earn the right to talk to our customers about getting more business. That is much better than chasing top line growth, and to be able to demonstrate that you can rely on us with our capacity and service levels and prioritization on their service. I believe very strongly, there's business opportunity there. So, we can allow that to happen naturally and organically because we have a better product; we have a lower price than most trucking, and we have a better ESG solution to do that the right way. So that's why we've been so focused on getting the manpower where it needs to be and really focusing on the right metrics for the business. I'm really pleased with the way we are. I feel even more strongly today than I did in the call in October about this opportunity. We can't predict what's going to happen in the economy this year, and that's part of what you're seeing in some of this dialogue is we're not exactly sure what happens in the second and third quarters. We’re pleased with how the year has started; however, we don’t know exactly where the economy is going to go with rising interest rates and some other things. Actually, you could say that in the data, we've noticed some parts of the economy started slowing down really in October-November, and we just didn't see that in our business because we couldn't meet some of that demand back then. But we feel really good about where we are. We're not going to chase top line growth; we will leverage our operating model, but we believe it's there to be earned; that's the conversation we're having with our customers.

Maybe just on that last part about unmet demand. We heard that a lot across the different Class I rail conference calls. And is there a way, since you're counting on it and you're seeing some of it through surveys and clearly, the service has improved. Is there a way you can sort of try to quantify that for us in terms of what you lost or what you think is coming back with fill rates or anything else you can put around there in terms of a metric? And what gives you that confidence that you can count on that coming back, not just the interest level is there, especially when you have a softer macro and probably contract truckloads heading lower as well?

Yes, Brian, it's Kevin. I think Joe addressed this quite well. One aspect that might be somewhat overlooked regarding some of the key markets we serve is that we maintained order fill rates around 60% to 70% during most of 2022. However, starting in the late third and into the fourth quarter, we noticed a reduction in orders while our fill rates stayed relatively stable. Consequently, our fill rates began to rise, and although demand in these markets is down by about 30%, our volumes have only slightly decreased. I believe they have overestimated what a normal demand environment looks like, and we are beginning to see an increase in order flows. This is promising; it seems we've reached the bottom in certain markets. While the economy can be unpredictable, that's the current sentiment, and we'll see how it unfolds. Importantly, as orders return and we meet that demand, it suggests potential growth compared to last year. This expectation is reflected in the guidance we shared today and is why we are confident in accelerating or surpassing the GDP number, anticipating that we will capture the incoming orders and customer demand this year, supported by our workforce and ongoing operations.

So, I wanted to stay on that topic. You mentioned some softness maybe in the trucking market. I wanted to ask to what extent that's an impediment to intermodal volume growth? And then, in a more normalized environment, how do you think about CSX's ability to kind of outgrow GDP or maybe something around the kind of magnitude at which you could outgrow GDP versus this kind of loose truck market?

Yes. The truck market primarily focuses on our intermodal product. While we also compete in the carload business, intermodal is where we see more sensitivity. The international market has been weak, but we have experienced significant growth there and anticipate continued growth. As I mentioned earlier, this market is expected to decrease by about double digits in the first half of the year. However, as the economy stabilizes, we hope to see improved growth in the second half. Our goal across our portfolio is to outpace the macro economy. We have a lot of favorable conditions supporting us, and our industrial development efforts have been very successful, with new projects on the horizon beyond this year. We are currently facing a substantial backlog, probably the largest in recent memory, with successful initiatives in new auto and metals plants, which will drive our growth. Our aim is to surpass economic growth, and I believe we have a viable strategy to achieve this, particularly with the service product we will provide.

Maybe first on those two boxes and the guiding principles, and Joe, you highlighted improving customer service and developing the employees. And especially with respect to some of the conversation maybe you're having with customers, do you feel that there's going to be a lag between when you start demonstrating the success on the service side and really penetrating that share of wallet with these customers, or do you think there is really a quick potential turnaround between kind of making those improvements in that market share improvement? And second, maybe a follow-up on the test conversation with Kevin, now looking over to 2024 to 2025 and assuming we're back into a normalized GDP, given the backlog that you have and given some of these initiatives and the investments you've made in QC and PanAm. Outside of coal, is there a reason why you can't grow volume mid-single digits as we get into this more normalized environment? Ex coal, obviously.

Yes. I think the opportunity here to grow the business really comes from increasing that service product. Now, your question around the timing of that, it's all really individually dependent on each customer, where they are, their cost pressures, their capacity issues, and what they are looking for. So, we can't use a blanket statement that if we demonstrate these levels of performance for three months, then the next comes from it. Really in our conversation with our customers, it’s really around their confidence in our ability to be repeatable and reliable. The answer to that question is different for each customer. But I can tell you, they're all watching and they're noticing. They'll appreciate the progress we're making. So, it will play out over time. However, there's nothing inconsistent that we're hearing from our customers about their appreciation for it and recognizing how important it is. Kevin?

Yes. I think the question was, is there a reason why we can't grow mid-single digits? I think Jamie answered the question on the network side — we have a lot of capacity to grow into, and we're going to use that capacity to go after wallet share with our existing customers and identify new customers. There's no constraint from that perspective. Adding mid-single digits volume, and then with price, is an attractive algorithm. We'll see what we can do and the market conditions at the time. It's a more normalized GDP growth rate, 3% to 4%, then that's different than maybe 1% to 2%. We'll see how things materialize as we get out of '23 and into '24 and '25. The great thing is we have tailwinds from new customers that will be on our railroad, which will add growth above the economy. Hopefully, that will add to that algorithm over time as we build the funnel of all the projects we've developed that will be coming online in the future.

Two quick ones here. First, you've said you can grow GDP plus. Many of your peers are using industrial production as a benchmark. In fact, I think one of them has come out and said a couple of years ago that they don't think they can grow faster than GDP going forward, and they think they can try and outpace industrial production instead. So, do you think GDP is the right benchmark for you, and kind of what gives you the ability and confidence to think that you can grow faster than GDP in the long run? Just as a quick follow-up. I think you had said that incentive comp was a tailwind to numbers in '22. How do we think about incentive comp in '23? Thank you.

Yes, Ravi, this is Sean. So, on your GDP plus comment, look, I think if you look historically and run the correlations, our business tends to move more closely with the underlying idiosyncratic indicators, particularly across the merchandise segment, maybe a little more on GDP in intermodal. But you look at this year specifically, the projection for IDP is a decline, and the projection for GDP is growth, and we think we can grow the business. So it made a lot of sense this year to peg it off of GDP. On your question on incentive comp, I mean, the year has to play itself out. We always go into the year planning to hit the targets that we've set internally. And so, on that basis, incentive comp would be down a little bit year-over-year versus 2022, but we'll see how that plays out as the year continues.

A question on labor for me. Some of your peers have talked about taking a different approach to furloughs going forward, just given that labor has become more scarce and valuable. So, I was hoping you could offer some thoughts on how you would approach headcount in the event that freight demand surprises to the downside, so that you don't lose the investments you've made in hiring and training this year?

Well, Cherilyn, thanks for the question. We've got the same stance as we did last quarter. Our T&E workforce is not a workforce that we would look at furloughing as we move forward. We're looking into the future; it's really important that Kevin and I, as we stated here today, work really closely together to see not only what's happening today, but also what is happening in six months from now, what's happening a year from now. We know that there are customers coming on. And you're absolutely right; the conductors and filling those positions takes a long time. It can take up to six months to fill a conductor's position. We can manage this. If there's a downturn in business, we can use the attrition, which is up to 10%. So, it's easy for us to hold back classes if we need to, to bring those numbers down and right-size it if necessary. But as we continue to move forward, we're looking to continue to build our numbers up to cover vacation time and ensure that our employees receive their time off. We’re quite happy with the progress we're making and the service we are providing. This is a commitment we've made, and we will continue to focus on the future without any knee-jerk reactions.

Joe, in your last conversation with us during the October call, you were just starting out and now it has been a few months. Can you share your thoughts on when you will present your strategy to the Board and investors? Are there any upcoming events like an Investor Day or other formats that you have in mind to help you establish your vision for the business? Thank you.

Yes. Thanks for the question. Just first, from a philosophy standpoint, this is a really talented team. We're doing all this together as a leadership team. I want to emphasize that. I'm one piece of that team, but this is a team effort. I'm really proud of the team I get to work with every day. It has been 4-5 months since we’ve rolled fast together. But with 20-plus visits out in the field and discussions with our customers and regulators, I feel like I'm learning very quickly, but there's still a long way to go on that learning curve. I'm really excited about the emphasis we have on our customers and I'm really proud of the progress our team has made on the operating side. All that to say, I'm not sure that it makes sense to have an Investor Day just for the sake of having one. We want to do that when we really have some meaningful things to talk about from strategy or technology or other matters. We will trust that we will do that at the right time when it can be meaningful and not just something we put on the calendar every year just to do. We want it to have an impact. We don’t want to take everyone's time unless it's important. As far as the strategy and discussion with the Board, I hinted this a little in October, but I spent a lot of time with the Board individually, and collectively, considering this in their consideration of me. We've had a lot of good conversations over the last several months about the opportunities here and the areas of emphasis to take advantage of the strengths that exist here. I feel really good about the alignment we have with our Board, with our team here, and the work we're doing. I'm very pleased with the progress we've made with One CSX in just four months' time or so. You can feel the momentum on the culture side and on how employees are working together. I'm confident that we have a solid foundation. Executing off of that foundation and leveraging our strengths is our biggest near-term opportunity and you'll hear more from us on that over time. In the near term, you'll see us on a weekly, monthly basis, discussing the things we're doing and demonstrating where our priorities lie. That's really around improving our customer experience with our service and the experience our employees have as part of One CSX. We're eager to utilize technology, operations, and other initiatives more effectively, and we'll share timely progress updates. We feel confident about the things we can control in our business, our operating performance, and the capacity we possess now with our manpower, the skills, and capabilities we have. There’s a bit of uncertainty about the health of the economy this year, which we're watching closely, but we feel very positive as we enter 2023. Thank you.

So, Joe, I wanted to ask you a question on the intermodal share take a little bit differently. I'm just curious about your thoughts on what kind of targets you're going to be holding the team accountable to delivering over, call it, a 3- or 5-year view. As you step back and look at the intermodal market in the East, it's grown at about 38 basis points a year for the last 7 years. Is that a reasonable expectation? So what should we be thinking about on a 5-year view about how much share you could actually put onto the railroad? Not looking at the guidance for this year because the economy is weak, and I get it's tough to forecast. But I’m just trying to think of targets for you to hit?

Yes. Thanks for the question. I'm not going to get into specifics about long-term targets. Conceptually, let’s talk about it. Stepping back and learning about this industry and closely observing it over the last many months, even before I joined CSX, we interchange with several Class 1 colleagues. This is an industry issue as well as a CSX issue, which is about real growth and volume growth. So you referenced it, so how do we make that happen? We have capacity, a solid fixed cost base, a substantial fixed cost base and strong incremental margins. That lends itself to wanting to grow those numbers and we have strong margins to start with. So, how do we achieve that growth? As an industry and as a company, that is the discussion we're having and the opportunities we're pursuing over the coming years. From our perspective, we need to demonstrate to ourselves and to others that we can grow volume ideally above either GDP or industrial production, whatever way you want to measure it year after year and bring the margins that come with that to show growth in the business — not just on pricing but also on volume. That is what we look to achieve.

As you think about the headcount plan from where we are today, are you expecting to continue to grow it into the year, or do you think we've got enough sort of resource on the property to maintain the service improvements? I would say we are continuing to qualify conductors every week. We still have another 600 folks out there in training both out in the field and in Atlanta. As we move forward now, remember, the retention rate hasn't been all that good. So, if we continue to work on that retention rate and we have about 10% attrition running, we need to be looking for a few hundred more folks as we move forward to cover the vacation period. I'm comfortable with the headcount we have now, but we will see an increase in the upcoming vacation season. The numbers will be able to hold up for the service metrics, and to continue to improve those as we move through the year. For the first time in a couple of years, I can say we're comfortable that our headcount is in a good spot and moving positively.

Just want to circle back to that last question a little bit more. Joe, you had talked about some of the processes in doing business easier with rails. Could you maybe expand on that a little bit? Do you feel like in these customer surveys, the ease of doing business with rails is sort of a key limitation right now for some of that structural share gain? And is that something that's been a 2 to 3 year attack, or is it a much longer-term opportunity?

Yes. Thanks. It's a great opportunity. We do need to make it easier to do business. We recognize, and we've referenced that in our commentary tonight. When you think about the level of visibility that we have in rail compared to packaged goods or UPS and FedEx, we have to improve in that area, and we will improve. That's an industry issue as well as a CSX issue. How do we get even more predictable and give more visibility to our performance, etc.? There are a number of ways we need to improve to enhance the customer experience in our business and make it easier to do business with us. Kevin referenced that we have some new things in ShipCSX to help with calculations for emissions reduction, and we're working to help customers get better and utilize our systems effectively. Ultimately, what they want most from us is for us to be there on time and deliver reliably.

My question for Kevin, looking back now at Quality Trucking, I know this was a little bit of an experiment when you made that purchase, and I see in your CapEx plan, you're devoting a bit of capital towards it. So I'm just curious as to what your take has been on it now that it's been under your umbrella for a little while now. Is it by calling it out in CapEx, are you expanding the fleet? Are you strategically looking at growing your trucking operation relative to your rail operation? And could you be looking for any other avenues outside of the company from an M&A perspective into that trucking space if you see those opportunities pop up here in 2023?

Yes. First of all, Quality is a very, very unique asset in a lot of ways. First, it touches our most valuable market in our largest market, which is chemicals. I can't tell you how insightful it has been; they have different contexts than we do on the trucking side, where those purchase managers have never dealt with truck, and introducing that product to them has been eye-opening and it's something very new. The CapEx related to QC this year is focused on a rail product; it's not more trucks that we're investing in; it's the ISO tanks that will go on the railroad. If Randy were here, he'd likely express how pleased he is with how it's gone so far. The customer uptake has been quite incredible, and we've seen a lot of success. Our only issue is that we haven't been able to get them quickly enough; that's a good problem to have, and we're going to continue to take delivery of those. Randy has come from the trucking market for a long time, and he's even surprised by the service product and how quickly we can turn these assets around for him on each side. So things have gone extraordinarily well. The intermodal network is ideal to convert many of the truck movements. This meets customer requirements, and we are seeing increasing demand from customers as it gets into the market. This is where the focus and uptick in CapEx will be seen, and we are very excited about this.

I'll just be quick. Sean, you were talking about employee levels, and it looks like cost inflation on the new contract, probably around 5% per employee. Year-on-year, employees are about 7-8% for the first half of 2023. So if I look away from the fourth quarter where the incentive comp helped lower that, and I looked at kind of what's the right run rate for modeling for labor cost inflation, should I be thinking about something in the high single-digit, 10-percentish range for the first half of the year before productivity offsets that?

Yes. Jeff, I think on a gross basis, right, on a full-year basis, the impact of inflation on the labor line is in that range: mid-single digits. If you look at the headcount, if we didn't hire additional employees all year long, we'd be up 4% year-over-year. Jamie talked about adding a couple of hundred to the headcount, so call that 5% up year-over-year. So, there’s your 10%, but we are confident that as the network continues to improve, we'll be able to drive some efficiencies on the labor line. We’ll cycle as you alluded to the true-up we had to make in the third quarter on the back wages, and that will be a bit of an offset.

All right. So that will be a little better in the second half. But I guess, at the end of the day, how much of that labor cost do you think you can offset through productivity? Is there a target out there? Or do we just kind of see what we can achieve?

Well, yes, we've got targets and we're going to reduce over time. We'll be able to reduce crude travel and some of the ancillary costs that go along with that as the network spins faster, and we'll offset a good chunk of it; offsetting 5% inflation or something in that range and another 5% headcount would be a lot in a single year. We're on the right track.