CSX Corp (CSX) — Q1 2023 Earnings Call Transcript

Thank you, operator. Hello, everyone, and welcome to our first quarter call. Joining me this afternoon are Joe Hinrichs, President and Chief Executive Officer; Jamie Boychuk, Executive Vice President of Operations; Kevin Boone, Executive Vice President of Sales and Marketing; and Sean Pelkey, Executive Vice President and Chief Financial Officer. In the presentation accompanying this call, you will find our forward-looking disclosure on Slide 2 followed by our non-GAAP disclosure on Slide 3. And with that, it's my pleasure to introduce our President and Chief Executive Officer, Mr. Joe Hinrichs.

All right. Good evening, everyone. Thank you, Matthew, and thank you all for joining our conference call. Working together, the ONE CSX team delivered a strong first quarter, driven by solid pricing as well as volume growth in our merchandise and coal businesses. With sufficient resources in place, we are able to use the benefits of our scaled railroad model to deliver improvements in our customer service performance that are generating real tangible financial results. Our network is running well, and we intend to do even better and demonstrate that CSX can sustain reliable service over time, which is essential for us to profitably grow our railroad. 2023 has already proven to be a very active year. One of our top priorities after the national union agreements were finalized last December was to address the matter of paid sick leave for our union employees. I am very pleased that CSX demonstrated important leadership here. Starting in February, we were the first U.S. class railroad to implement such a program. I have also been actively involved in discussions with our leaders in Washington and across the states where our network operates about some of the legislation that has recently been proposed. They recognize that it's better for our economy, our environment, and our communities for railroads to move a greater share of the nation's freight. They also understand that CSX is eager to be part of solutions that are effective, data-driven, and will make our entire industry safer. We do not want safety performance to be a competitive advantage for CSX; rather, we want it to be something our entire industry is proud of. We have been encouraged by our conversations with senior policy leaders and will continue to engage with them in the months ahead, sharing best practices and building on our common ground. We are confident that the industry will emerge from this period stronger, more aligned, and better at sharing safety best practices. Now let's turn to our presentation to review the highlights of the first quarter. We moved nearly 1.5 million carloads in the first quarter and generated over $3.7 billion in revenue, which was 9% higher than the previous year. Operating income increased 14% year-over-year to $1.46 billion, and our operating ratio was 60.5%, which includes the OR impact of the quality carrier destruction business, as we've discussed in the past. Finally, earnings per share increased 23% to $0.48. When I came to CSX last fall, we were very clear with our intention to build on this company's excellent operating model by strengthening our relationships with our employees and serving our customers better. It is still early, but you will hear clear examples of how we are starting to achieve this as Kevin, Jamie, and Sean talk about the details of what was a very strong quarter. Now let me turn it over to our team.

Thank you, Joe, and good afternoon, everyone. Every quarter, you hear us emphasize the importance of safety on our network. This is a fundamental part of our culture and defines how we execute our operating plan. We don't take shortcuts, we don't compromise, and we teach this mindset to every one of our new hires and continually reemphasize it to all of our employees. In this slide, you will see some of the real proactive steps that we are taking to keep our network running safely. In 2023, we are installing 53 additional hot box detectors across our network. These added detectors will reduce the average spacing from 16.2 miles to 14.9 miles. At CSX, these detectors identify high-bearing temperatures but also transmit real-time data for trend analysis. So we can not only tell when a bearing is hot and a train needs to stop, but we can also use the data to predict bearing issues before they reach critical temperatures. We are also continuing to integrate newly hired employees into our safety culture, which begins on day one. Newly hired employees attend extensive training at our Railroad Education and Development Institute in Atlanta. The robust classroom combined with field-based training gives these new employees the tools they need to operate safely in their new roles. Autonomous track assessment cars, commonly called ATACs, are also used as part of our proactive safety plan. These look and run like regular boxcars that are loaded with advanced technology. These cars operate on our regular trains and gather critical inspection data that allow us to closely monitor track conditions. Lastly, we are committed to being supportive partners in the communities in which we live and operate. That is why we dedicate so much effort to developing relationships with first responders in those communities and teaching them how to properly respond to incidents, especially those involving hazmat materials. We have a dedicated fleet of railcars, including four tank cars, that are specifically designed and used to offer multi-day training sessions. This is a program we have run for many years. And in 2022, we trained nearly 4,000 first responders. Turning to the next slide. The FRA personal injury rate ticked down sequentially, while the FRA train accident rate increased slightly. However, both measures are up year-over-year. It's important to consider that because of the success of our recent hiring efforts, we have a higher percentage of newer employees. As they gain experience and learn from federal railroaders, we are confident that the frequency of these incidents will decline. Now turning to Slide 9. Operating performance has improved significantly. With the appropriate resources in place, we are doing what we do best: effectively executing our operating plan. The team's ability to deliver these operating results is a true testament to the tough and hard work that we are doing as an operating team and a plan that shows what we can do here at CSX. Most importantly, the dedication given by all of our railroaders is commendable. I cannot thank our operating employees enough for overcoming the resource challenges and delivering such solid performance for our customers. Carload trip performance of 86% reached an all-time record level this quarter, while intermodal trip plan performance of 96% matched a record high. While the team is pleased with these results, we'll keep improving. In fact, both measures have continued to improve sequentially into the second quarter. I'm happy with the compliments and support we have received from customers, regulators, and shareholders on our service improvement, but we are not done yet. As Joe said, our goal is to keep improving our service and demonstrate that we can sustain this over time so that we can drive long-term growth for CSX. With that, I will turn it over to Kevin to discuss the top-line results.

Thank you, Jamie. We are very pleased with our merchandise performance this quarter. Revenue increased 13%, benefiting from an 8% increase in revenue per unit and a 4% increase in volume. We are seeing some encouraging signs as customers start to respond to our improved service and reduced cycle times. The team is focused on combining best-in-class service with creative solutions to identify new growth opportunities and gain wallet share with existing customers. While we did see positive growth in automotive, customer production issues impacted volumes in the quarter. On the positive side, we see production issues moderating and expect a strong outlook for automotive volumes through the remainder of the year. Minerals and Metals both outperformed, driven largely by very strong aggregates and steel demand. Pricing was up year-over-year as we benefited from favorable contract repricing and higher fuel surcharge. For the remainder of the year, we will continue to see benefits from a supportive pricing environment and improved rail service. While the economic outlook remains uncertain, we continue to see positive momentum in many of our merchandise segments as the team focuses on the growth drivers that we can control. It's still early, but we are encouraged by our ability to convert improved service into new business wins in segments such as auto, minerals, and food products. There remains a significant opportunity to win share from truck across our merchandise portfolio. Turning to Slide 12. First-quarter coal revenue increased 19% on 19% higher volume and flat revenue per unit. Export volumes were strong as we leveraged improved cycle times and enhanced production and performance at the origin mines. We also benefited as we lapped the effects of reduced capacity at our Curtis Bay terminal. Our domestic shipments also improved due to utility restocking demand and better rail capacity. International met coal benchmarks remained strong over the quarter and now sit just below $300 per metric ton, which continues to support strong production levels. Looking ahead, the international coal market continues to be sustained by healthy commodity prices that should drive positive year-over-year volume growth through the remainder of the year. While the domestic market could face a more challenging backdrop should natural gas prices remain low. Turning to intermodal on Slide 13. First-quarter revenue decreased by 5% as a 9% decrease in volume more than offset a 5% increase in revenue per unit. Most of this volume decline was due to weakness in international intermodal markets, which, as we expected, have been heavily affected by slowing import activity as demand softened and retail inventories remained elevated. Looking forward, while the intermodal market currently remains challenged, we do expect second half year-over-year headwinds to moderate. The team has several initiatives underway to continue to drive truck conversion by introducing new lanes of service where there is market demand. Now finally, turning to Slide 14. Many of you are aware of the major market shift developing over the last few years as more companies look to diversify their supply chains and bring capacity closer to their key end markets. We have been encouraged by the acceleration in activity with manufacturers of all types announcing plans and committing capital to build capacity in the Eastern U.S. For CSX, this represents a great opportunity. Our network connects the major population centers of the Northeast with the fast-growing areas of the Southeast, which are highly attractive for companies looking to expand. The mission of our industrial development team is to partner with these companies and provide them with a rail-served location where they can leverage the benefits of the CSX network and industry-leading service. We continue to invest in our select site program that has expanded to include a wider range of rail-served site opportunities. Combined with new technology enhancements, this will allow us to capture industrial projects of all sizes by offering shovel-ready development sites with access to the CSX network. As you can see on the slide, we are excited about the success we are seeing. In 2022 alone, our customer partners brought nearly 90 new facilities online, representing $8.2 billion of total investment across our network and our short line partners. The map shows how broadly these in-service projects stretch across our service area. Our pipeline remains robust with over 500 projects in process across our entire industrial development pipeline, and we're adding to this total each month. Over time, we expect the new business that these projects represent to be a key driver of our growth algorithm as we help our partners bring in an increasing number of expansion projects onto our network, driving volumes and revenue higher. I would like to thank the entire team for all of their efforts across our growth initiatives. We're very excited about the momentum we are building and the engagement as we partner with our customers to grow together. Now I'll turn it over to Sean to discuss the financials.

Thank you, Kevin, and good afternoon. Looking at the first quarter results, revenue increased 9% or $300 million on merchandise and coal volume growth, strong pricing and higher fuel recovery. Operating income was up 14% to $1.5 billion as top line growth outpaced several expense headwinds, which I'll discuss in more detail on the following slide. Interest and other expenses were $7 million higher compared to the prior year, and income tax expense increased by $47 million on higher pretax earnings. Net earnings increased 15% to $1 billion, while EPS grew 23%. Let's now turn to the next slide and take a closer look at expenses. Total first-quarter expenses increased $111 million compared to the prior year. This includes about $65 million of inflation headwinds, as well as an $85 million impact from higher fuel and depreciation combined with lower real estate gains. Now turning to the individual line items. Labor and fringe expenses increased $31 million as the impacts of additional headcount and inflation were partially offset by lower incentive compensation expense. PS&O expenses increased $13 million, primarily due to inflation, the inclusion of Pan Am operations, and scheduled locomotive overhauls. These impacts were partially offset by a $46 million benefit due to an insurance recovery arising from a customer facility outage several years ago, as well as lower intermodal costs as congestion eases. There were also several smaller line item impacts within PS&O that were greater than expected this quarter and should improve sequentially. Depreciation was up $33 million as a result of last year's equipment study as well as a larger asset base. And fuel expenses also increased by $33 million due to a higher gallon price and a 3% increase in gross ton miles. Equipment and rents improved by $18 million, benefiting from increased fluidity and faster car higher days per load across all markets. Property gains were $19 million unfavorable in the quarter due primarily to lapping prior year gains from the Virginia real estate transaction. Network and congestion-related savings were evident within rents and across intermodal terminal expenses this quarter, and we expect sustained network performance to drive further efficiency savings throughout the year. Now turning to cash flow. CSX generated over $800 million of free cash flow in the quarter, reflecting the impact of cash payments for retroactive wages and bonuses paid to union employees. Adding back these payments, free cash flow would have been up slightly versus last year despite higher investments in the business. You'll also recall that CSX has introduced a measure of economic profit called CSX Cash Earnings or CCE, within our long-term incentive compensation. It benefits both our shareholders and the general public when we grow profitably by encouraging the conversion of freight off the highway. CCE is aligned with this shared interest by encouraging disciplined high-return capital investments. The calculation can be seen in the appendix. Through Q1, CCE is up $165 million versus the prior year. After fully funding infrastructure investments and strategic projects, CSX returned $1.3 billion to shareholders in the first quarter, including close to $1.1 billion of share repurchases and over $200 million in dividends. Looking forward, we will remain balanced and opportunistic in our approach to returning excess cash to our shareholders. And with that, let me turn it back to Joe for his closing remarks.

Thank you, Sean. Now let's conclude with some comments on our outlook for 2023, as shown on Slide 20. First, as you heard Kevin describe, we are very pleased with the performance we have seen year-to-date from our merchandise business. Strong demand for grains, metals, minerals, and automotive, combined with significant new customer wins, give us increasing confidence that we will be able to deliver solid volume growth for the year in merchandise. We're also off to a strong start to the year for coal, and we expect continued benefits from healthy export demand, both thermal and met. Our merchandise and coal have met or exceeded our expectations. Intermodal volumes have been below what we anticipated. We were aware that international intermodal activity would be down substantially over the first half of the year. Though parts of our domestic business are doing very well, it has not been enough to offset the effect of lower imports and elevated inventories. Altogether, intermodal contributes less than one-third of our revenues, but it does contribute roughly half of our volume and was a drag on our total volume over the quarter. The softer intermodal performance will make it difficult for our total CSX volume to meet our previous guidance and grow faster than GDP, especially as consensus GDP estimates for 2023 have moved up and are currently at 1.1%. That said, the effect on our business mix is favorable. Revenue ton miles grew by a solid 4% in the first quarter, driven by the strength in merchandise and export coal, and we expect revenue ton miles to grow solidly in the low single digits for the full year. The rest of our outlook is consistent with what we told you at the beginning of the year. We continue to benefit from the favorable pricing environment with customer negotiations supported by our transparency on costs and our improved service products. We still expect supplemental revenues to decline by roughly $300 million compared to last year, with much of that decline already seen in the first quarter. International met coal benchmarks remained very strong over the quarter, and spot prices are just below $300 per ton today, but year-over-year comparisons will get tougher from here. We will continue our efforts to drive higher efficiency and reduce excess costs to counter the inflationary effects in our labor and other operating costs as best as we can. The best way for us to support our margin performance will be to drive more merchandise volume and benefit from the powerful operating leverage potential of our network. Lastly, we estimate cash flow expenditures at $2.3 billion. In closing, I am very encouraged by what we accomplished in this quarter. I'm energized to see the ONE CSX culture start to take shape across this company. Every industry has challenges, but ours are addressable and solvable, and I am confident that they are far outweighed by the opportunities that we have ahead. As I said before, all of us here, at every location across our network, share a common goal of providing safe, reliable service to our customers that drives profitable growth, and we are taking meaningful steps towards that goal. Thank you, and we'll now take your questions.

Thank you, Joe. Operator, please open up the line for questions.

Kevin, with the backdrop of improving service and bidding compliance at pretty strong levels. Can you just talk about the order rates, the fill rates across the network? You've heard some different comments, and clearly, intermodal is suffering from poor bid compliance. But where do you see when you talk to your customers across the different networks, I guess, primarily within merchandise, where it might be a little more service and truck sensitive.

Yes. I believe you may recall our discussions over the past few quarters where we mentioned that we were not facing challenges with order rates. I would say we are now more aligned with that, especially given our improved service levels. We are currently meeting customer demand, but we did observe some weakness beginning last year during the third and fourth quarters. As we look at the latter half of the year, in many of our markets, particularly in merchandise, we anticipate easier comparisons due to the current economic activity we are witnessing. This provides us with confidence in our guidance as we progress through the year.

Great. If I could continue on that point, Kevin, it appears that there was an economic shift around mid-February when we examine spot rates in trucking. Can you elaborate on this? Joe, it seems you mentioned that intermodal is facing more challenges, which has led to a change from a GDP-plus outlook to a more RTM type of perspective. Is there a recent economic change affecting this, or is it primarily the weakness in the truck market? Could you discuss the intermodal aspect or the general economic context?

Yes, we anticipated a weak international market, but it turned out to be even weaker than we expected in the first quarter. However, there was some strength in certain merchandise markets that have a higher average revenue per user and contribute more to our revenue. This is what we observed throughout the quarter. There are different views on when the international market might recover. Some of our larger customers are hopeful for a pickup in the second half of the year. We've noticed some stability in the last couple of weeks, which is a positive sign, but we will encounter challenging comparisons in the third quarter, while the fourth quarter should be easier.

Kevin, I'm going to stick with you. Given the slides that Jamie put up, particularly number 9, with all those service improvements, Trip plan performance, et cetera, do you feel like you're being appropriately compensated for your improved service, both on an absolute basis, but especially on a relative basis as you go through these contract renewals? And I guess another way to ask that is, how far are you through the contract renewals that actually exemplify some of the service improvements that you've done over the last couple of months?

Yes. When we examine our renewal rates, we renew just over half of our business each year, with a heavy concentration in the fourth and first quarters. Given the current inflation, we are actively discussing with our customers how to address our visible cost increases. As we demonstrate the quality of our service, customers consistently express their willingness to pay for the reliability we offer. Our strategy is beginning to show results as we believe we have a unique service in the market. We're experiencing early success in discussions about increasing volumes with our customers. It's important to highlight that in this type of market, we should be gaining market share. Our customers are seeking cost-saving solutions, and rail typically offers a more affordable option. They are also growing more confident in our ability to deliver the necessary service. The team is very enthusiastic about the progress we've made in recent months.

And maybe this is for Joe or Jamie, but we've had, obviously, a lot of negative press on the railroads, unfortunately, in the last few months. And the PSR concept has kind of been dragged through the mud a bit. But can you guys compare and contrast because you are delivering just like the last question, very good service metrics here. So what's driving the difference between the rest of the industry? And I guess, how do you leverage that going forward?

Yes, thanks. I'll start and let Jamie add some comments. As I've said many times in the past, I think the guiding principles of our operating model are long-standing and are sustainable, and that, of course, improves safety control costs, improves asset utilization, enhances the employee experience and also improves customer service. We are working hard at all five of those and keeping them in balance as far as how we prioritize for always safety first. I believe very strongly that the results we are seeing throughout our network and being delivered by our great ONE CSX team are a result of that focus, particularly on our employees and customer service. I believe the principles of effective railroading are just as valid today as they were five years ago. It's how you keep things in balance and how you prioritize and how you bring everyone along, and we're trying to lead by example in that regard.

Joe articulated that well. When I think about it, and I hear people say PSR, what does that really mean? I only know one way to railroad. This is the way I was taught many years ago back when I was at CN. So we've been able to teach the wonderful folks at CSX over the past six years how to do this. I've got an unbelievable operating team, some great bench strength, and we are doing fantastic. We have the resources in place to now actually execute the plan. We struggled for years to do that through COVID, but we've come out of it the way we said we would. We're operating the plant and the team that's out there that's exercising that in the field, not just the network folks who put the plan together, but the field team who is executing it and the folks on the front line who are running the trains each and every day are doing an unbelievable job getting the trains from point A to Z the way we need them to and servicing the customers as we committed to servicing them, giving Kevin and his team a product that enables them to go out there and sell something that's different. So I don't know, call it what you want. I just call it railroading.

Kevin, how should we be thinking about revenue per carload in sequentially even from 1Q to 2Q? Just maybe walk us through some of the puts and takes. And then similar things, Sean, just 60.5% OR in Q1. I know there's the insurance recovery, but do you think we see sequential improvement from here for the rest of the year?

Yes. The main factor from Q1 to Q2 is the strong pricing we are experiencing amid rising inflation, which we expect to continue throughout the year as we have contract renewals and discussions with customers. The most significant variable is the fuel surcharge, especially as we approach summer and diesel prices fluctuate. Currently, these prices present an optical headwind year-over-year, but we understand they can recover quickly, so we'll monitor that trend. Aside from that, when considering export coal and excluding fuel, the coal revenue per unit is likely to remain flat compared to the first quarter, which can vary a bit. However, we are seeing positive momentum in core pricing, and we will need to see how diesel prices develop.

And then, Scott, in terms of operating ratio, yes, I mean, 60.5% for the first quarter is obviously a great start for us. I think as you think about it sequentially, you probably have to normalize that for both the insurance gain and then the favorable fuel lag benefit that we had in the quarter. So that gets you to around a 62.5%. We almost always do better in the second quarter from an OR perspective than the first, primarily as a result of the fact that volumes typically seasonally increase in Q2 relative to Q1. We don't see any reason to believe that we'll see anything different this year, particularly with some of the issues we had in Q1 with auto production that should ease here and a strong demand for aggregates. So it's a good setup. I will say just one thing to caveat that with is other revenue was a little bit elevated in Q1 versus the run rate, where it likely will be the rest of the year, that may be a little bit of a headwind, but on the flip side, we feel good about the cost momentum. If service continues to be at these levels or even better, we should see more costs come out sequentially.

Yes. You had the slide talking about the 19 new facilities coming online and obviously, a very strong pipeline that you've discussed in the past into '24 and '25. But I'm just curious, when you talk to existing customers, your existing facilities, are you seeing growth in your share of wallet? If you could give us some examples, some tangible examples to kind of appreciate that.

Yes, Fadi. I think that's directly tied to our service product. And we're in the very early innings of that. I think we've seen some customers more willing to have those conversations and others that are kind of wait-and-see and want to see more months or even quarters of good performance before they're willing to have that conversation. But we've seen some early success. One example that comes to mind is in our food products category where we've gone from roughly a 60% share with our customer to now a 90% share, and doing some things operationally, thanks to Jamie and his team, have provided really, really good service to them, truck-like service that benefits them from a cost perspective. That's a direct truck conversion for us. But I see many more of those examples starting to happen. We're working diligently with Jamie's team and engaging customers to determine what's possible and how we can really convert to trucks. I think the customer acceptance on these meetings has been the highest I've ever seen because they're looking for ways to save on costs given the uncertain backdrop in the market. But a lot of momentum is building, and the team is working really hard. We have a number of these meetings set up over the next few weeks and quarters ahead, and I expect to have a lot of success.

This is Mike Triano on for Tom. So Trip plan compliance and carload 86 seems to be a level where you can make some good progress on truck conversions. Do you think that there are enough crew resources on the network to maintain a strong service product? Or is there some additional hiring that you have to do from here?

We have a solid situation regarding our workforce. We're aiming to hire an additional 150 to 200 people to reach our goal of around 7,400, especially for the peak vacation period. Currently, we're operating at about 70% to 80%, roughly 73%. We aspire to improve this figure. Keep in mind that attrition stands at 10%, so we need to manage that consistently, which also gives us a backup plan if circumstances change, allowing us to adjust costs if necessary. As for resources, we have sufficient locomotives. In fact, as we work more efficiently, we will require fewer locomotives. We will keep evaluating our resources and deploy them as necessary while ensuring they are available for Kevin’s team as they increase business. Naturally, any returning resources will be productive. We will continue to manage these resources strategically. Regarding our railcar strategy, we are collaborating closely with customers to ensure we have the necessary car supply. I think Kevin can elaborate on his insights from discussions with customers about the car situation. Overall, we are in a strong position and optimistic about the growth opportunities ahead.

I think, as Jamie mentioned, Joe got the team together, the sales and marketing team, along with the operations team and Sean's team, and we had a lengthy discussion here recently just on what the needs are. I'm very encouraged that we have a plan to make sure that we can meet the coming demand in some of these markets that we see great growth, and whether it's aggregates or some of the auto business, where we know that car supply is going to be a differentiating factor, where we feel like we have a good plan in place.

Sean, I think on prior calls, you talked about the elevated level of service-related costs that should moderate this year. During the call in January, I felt like you were suggesting this tailwind would be more second half weighted. But could you share any updated thoughts on the cadence of these cost savings? I'm curious if you saw this materialize in the first quarter and how you're expecting that number to trend in the quarters ahead?

Yes, I think we're off to a good start. We experienced about $15 million to $20 million in cost savings related to congestion during the quarter, which is evident in the rents line within PS&O concerning intermodal terminals. We're beginning to see those costs decrease as we move into the second quarter. We expect to see an increase in these savings, particularly in the second half, where the majority will materialize, as you indicated. This will involve further improvements in areas such as rents and intermodal terminals, as well as locomotive maintenance linked to the engine count that Jamie mentioned, over time, along with other related crew costs. Additionally, we have other initiatives aimed at addressing some of the congestion issues from last year. Volume growth also contributes positively to productivity levels for both our crews and assets.

Maybe a question on the headcount side. Jamie, you gave some good near-term color. I guess I'm curious in the context of sort of your progress towards that 7,400 goal. And then reflecting the fact that the volume environment is maybe a little bit more questionable than it was earlier in the year. Is there a point where maybe you hit the pause button on hiring and kind of reassess the volume environment? And so after the second quarter, we could see that number potentially moderate depending on the economic conditions we're seeing.

Chris, I wouldn't say we took a pause at all. In fact, last quarter we had 550 trainees. We're aiming to keep that number between 350 and 400 trainees moving forward. We've reduced the number a bit since we don't need to ramp up like we did before. Our attrition rate is around 10%, so we may need to slightly increase our trainee count. We'll evaluate whether to lower that number to 300 or possibly keep it at 350, which might be ideal. We're continually working to reduce our attrition rate, which has been about 10% in the industry for many years. Our initiatives are aimed at retaining employees at the railroad. If we see attrition numbers decrease, we will adjust our hiring needs accordingly. Overall, we're in a better position than in the past regarding these figures, and I feel comfortable with where we are on the T&E side. We are also continuing locomotive engineer training to avoid future shortages and recycle conductors into engineers. We're consistently hiring in both engineering and mechanical sectors as we focus on the higher end of our union operations. Our numbers are solid, and I don't anticipate any significant increases; it's more about maintaining our current levels. If things change, we recognize our 10% attrition rate. We've assured our T&E employees that we will keep them employed as long as possible to navigate any challenges. Currently, I don’t foresee any issues ahead, but market conditions are unpredictable. If necessary, we can quickly adjust our hiring strategy.

Congratulations on the impressive results. I have a question. Looking at intermodal revenue as a percentage of total enterprise, it appears to be around 13.5%, which could be the lowest figure over the past decade. I'm trying to understand your good cost leverage and the positive mix in revenue growth. Specifically, what happens to costs, excluding fuel, as the intermodal mix normalizes as a revenue percentage? I'm not sure if this is a fair question, but it seems relevant to the strong cost leverage you have experienced.

Yes, Amit, we don’t disclose specific margins for each line of business. Although intermodal volumes were down, which they were, we are seeing savings at intermodal terminals, on crew starts, and on fuel. However, did this disproportionately impact our margins this year? And will it have a disproportionate effect if intermodal recovers? I don't think so. We have strong incremental margins in every segment of the business. As intermodal volumes normalize and begin to grow again, it will positively affect our operating ratio.

Congrats on a strong quarter here. Kevin, you laid out a pretty exciting pipeline of new business opportunities there. I was hoping you could maybe quantify the impact of that in terms of revenue or earnings and kind of what the timeline might look like for realizing whether it's that 500 set of opportunities that you talked about, what that might look like over the next couple of years.

When considering several of these projects, it will likely take a couple of years, possibly up to three, to fully complete some of the automotive facilities and certain metal-related projects. Therefore, I believe we will see momentum building towards 2025. Ideally, I would expect one to two points of gross growth. Occasionally, some of these projects may slightly reduce existing business, but I aim to achieve at least a point or preferably more in growth from the industrial development sector, especially as we begin to reach full capacity and these projects come to fruition.

Actually, Kevin, I might follow up there because it's a nice list, nice map. I'm curious, as you look at that and you're competing for those projects. How much of that is competing against another rail versus actual head-to-head against trucks? Or how should we think about where the competition lies for that growth?

Over the last 40 to 50 years, the railroads have not effectively attracted new industrial development. It's crucial to raise awareness and invest in our team to ensure that companies recognize the benefits, especially in emerging markets like battery production, which is relatively new in the U.S. Many companies are unfamiliar with our rail infrastructure and what we can offer. Therefore, we need to proactively present the locations, infrastructure, and resources necessary for them to move quickly. It’s important to have ready-to-develop opportunities that connect with the railroad. The market is advancing faster than ever, making it vital to have these industrial sites prepared for our customers. We compete daily with our eastern counterparts and are focusing on the services we provide. We also engage with a variety of strong industrial companies they want to connect with, all of which contribute to our appeal to customers as they make their choices.

This is Andre filling in for Jordan. I wanted to follow up on the fuel situation. Fuel surcharge revenue increased by $121 million year-over-year, while fuel expenses rose by only $33 million. This results in an $88 million benefit to EBIT in the first quarter, compared to a benefit of around $63 million in the fourth quarter, indicating an acceleration in fuel benefits. Do you have any expectations regarding how this will trend in terms of timing or magnitude? It seems like there could still be some benefit in the second quarter, but possibly a drop in the third quarter. I'm interested in your thoughts on this and any potential offsets.

Thanks, Andre. This is Sean. Your math is correct. I think if you look into the second quarter and you're looking on a sequential basis, at least where fuel prices are and where the forward curve is, it will be a net drag. I would put it in the category of $50 million plus versus the first quarter on a net basis. That's the impact to both revenue and expense. But I think what you were talking about is relative to last year, in the second quarter, it will, likely, be a net benefit just simply because last year in the second quarter, fuel prices were going up, and we reported a negative lag in the fuel surcharge program. So we'll be cycling that, assuming no change to diesel prices versus where they are right now.

Sean, can you talk a little bit about expectations for average cost per hedge kind of on a year-over-year basis and add any color to how much the CTO that's been added into the benefit packages is impacting cost for full year '23?

Certainly, David. Regarding the cost per employee, we performed close to our expectations, possibly even slightly better due to the mix of employees, particularly with the driver count affecting quality, which results in lower costs per employee. Looking ahead to the second quarter, I anticipate costs will remain relatively stable compared to the first quarter, with a potential slight increase depending on the employee mix. As we move into the latter half of the year, we will observe an increase due to the scheduled 4% wage hike for union employees, with agreements in place for about 10,000 of them already factored into our forecasts. The initial experience has been quite positive, as employees are utilizing the benefits when needed. There is some additional overtime, but it brings advantages as well, particularly in terms of quality of life. Overall, I'm estimating an impact of a couple of million per quarter at this stage.

Just going back to the share gain piece of it. Merchandise volume, you grew 4%. Is there any way to quantify or give us some perspective of what those share gains were this quarter, if any? And as we think about that spread over what the market is growing in those areas, is that 1% to 2% on top of that a pretty good guide? And would that be more of '24 for this? Or do you think you can get there in '23?

I believe that a significant part of our success, particularly in merchandise, can be attributed to the service improvements we implemented and our ability to fulfill customer orders. January and February were strong months, and the weather likely contributed positively during that time. However, March proved to be quite challenging from a weather standpoint. Overall, we experienced normal weather conditions throughout the quarter, with January and February performing slightly better. The key factor has been our service recovery and our capacity, compared to last year, to meet the existing demand, even though we've noticed some decline in certain markets.

I want to hand it back to Sean for a moment to reflect on Jamie and Joe's comments, along with Kevin's insights. Jamie has a solid grasp on operations, and the model is functioning effectively. Kevin is turning this into business successes and promising growth prospects. Additionally, Joe noted in his outlook that asset productivity is expected to surpass or approach previous record levels. When I review those prior records, it aligns with a time when we were achieving around a 58 operating ratio. Is it too simplistic to suggest that reaching those record asset productivity levels would mean we can't achieve similar operating ratios in 2023? Or is that perspective a bit too straightforward, Sean?

Well, Walter, I think you think back to the 58 OR, the first thing you've got to recognize is the quality acquisitions since then. So that's about 250 basis points of headwind. And we've had a lot of inflation. We're paying employees more. The underlying cost of contractors and materials is higher. And so those are headwinds. That being said, as we continue to run the business well and we deliver good productivity, and we get great feedback from the customers. We've got this pipeline of wins that are setting up as well as delivering against customer expectations and demands. We're going to deliver that at strong incremental margins, and that's going to help out over the medium to long-term on the OR. I can't give you a specific point destination. But as we go forward, we would expect improvement from where we are right now.

Congrats on the good quarter. It's really nice to see the service doing so well here, and that was reflected, I think, in our survey that we did this quarter. I wanted to talk about your outlook and sort of what's baked in with an assumption of the West Coast ports sort of coming to a labor agreement. Are you looking for some of that East Coast volume to shift back? And if so, how do you think it will affect operations?

From that perspective, I don't see a huge amount of shift. You're going to continue to see a secular advantage of the East Coast, and there's a lot of investment going on, as you know, in Savannah and other ports on the network. Quite frankly, the challenges on the West Coast have hurt our intermodal business when you think of what wants to come across through California through Chicago onto our network. So I view that as probably an incremental positive for us that some of that freight will shift through the interchange with some of our Western partners out there. So that's a positive outcome in my mind in terms of our growth opportunity as we move into the back half.