Union Pacific Corp (UNP) — Q3 2020 Earnings Call Transcript

And thank you, Rob. Good morning, everybody, and welcome to Union Pacific's Third Quarter Earnings Conference Call. With me today in Omaha are Jim Vena, Chief Operating Officer; Kenny Rocker, Executive Vice President of Marketing and Sales; and Jennifer Hamann, Chief Financial Officer. As I'm sure you all saw on Tuesday, we announced a transition that will take place in our operating department. Jim Vena will be transitioning his responsibilities over to Eric Gehringer at the beginning of the year while staying on until the end of June as a senior adviser. I'm excited to have Eric lead our operating department into the future. Eric has a track record of success at our company and will push the team to continue to think boldly as we pursue operational excellence. I want to express my deep appreciation to Jim for the leadership he brought to Union Pacific. Jim accomplished everything I could have hoped for and more. He brought a level of expertise and speed of decision-making that has been critical to our transformation. I’m very pleased that he’s going to continue working closely with Eric and the rest of the team over the next several months to guide us through a smooth transition while seeing some key projects to completion. Thank you very much, Jim. Before discussing our third quarter results, I want to acknowledge the work of our dedicated employees. As we continue to operate our railroad through the pandemic, the women and men of Union Pacific are doing an excellent job keeping themselves and their families safe. As a result, they are able to provide our customers with a service product that is fluid and uninterrupted. Our rail network continues to operate at a very high level, reflecting the talent, commitment, and resilience of our Union Pacific team. Moving to third quarter results, this morning, Union Pacific is reporting 2020 third quarter net income of $1.4 billion or $2.01 per share. This compares to $1.6 billion or $2.22 per share in the third quarter of 2019. Our quarterly operating ratio came in at 58.7%, an all-time quarterly record and an 80 basis point improvement compared to the third quarter of 2019, despite moving 4% fewer carloads. Our third quarter results represent another step in our company's transformation. We demonstrated our ability to adjust to a sharp rebound in volume while continuing to provide a safe, efficient, and reliable service product to our customers. The results we are delivering both operationally and financially deepen our conviction that the changes we're making to transform our railroad are on track and on target. So with that, I'll turn it over to Jim to provide an operations update.

Thanks, Lance, and good morning, everyone. We had an impressive quarter to turn in the results you see today. We had to watch our asset utilization closely as we dealt with a sharp volume increase following the equally sharp volume decline of the second quarter as we continue to navigate the pandemic. And we have had some significant weather events in this quarter as well. In the face of those challenges, the team delivered strong productivity gains to the tune of $205 million and a total of $610 million year-to-date, all in all a very strong quarter for the entire operating team. Turning to slide 4, I'd like to update you on our key performance indicators. Driven by the team's relentless focus on asset utilization and reducing car touches, freight car velocity and freight car terminal dwell both improved 3%. These improvements, along with increased train length, which we'll talk more about on the next slide, demonstrate how our operating model is striking the right balance between service and efficiency. We continue to adjust our transportation plan to run a more efficient network that requires fewer locomotives. In the third quarter, we achieved a quarterly record in locomotive productivity, an 11% improvement versus last year, which is all the more impressive when you consider the mix challenge of trading coal and sand volumes for intermodal volumes. Workforce productivity, also a quarterly record, improved 13% from third quarter 2019. Productivity improvements were led by the train and engine workforce down 22% versus last year, which significantly outpaced the 4% volume decline. Our manifest service remained strong during the quarter driving a 5-point improvement in trip plan compliance for manifest and autos. Intermodal trip plan compliance decreased in the quarter, reflecting the impact seen across the entire intermodal supply chain from the sharp West Coast volume increase. Although we positioned the equipment near the L.A. Basin in anticipation of a surge, the resulting imbalances following the first wave of freight, as well as the sharp uptick in demand for both TE&Y and terminal employees took a few weeks to work through the network. But the team responded quickly with resources and transportation plan changes, enabling us to exit the quarter with intermodal trip plan compliance back in the low to mid-80s. Our results have been strong this year, and we expect to see continued improvement in the fourth quarter. Slide 5 highlights some of our recent network changes. Our focus on increasing train length and handling traffic efficiently remains strong. We were able to absorb the majority of the sequential volume increase by adding traffic to our existing train network. Compared to the fourth quarter 2018, when we first began implementing our version of precision scheduled railroading, we have increased train length across our system by 28% or 1950 feet to approximately 9,000 feet in third quarter of 2020. We've completed 28 15,000-foot sidings through the third quarter allowing longer trains to run in both directions and reduced the number of train starts. We plan to have another eight sidings completed by the end of 2020. We recently curtailed operations at the East Hump in our North Platte, Nebraska yard. This location was unique in that it previously had two humps. Going forward, the cars will either be processed at the still active west hump or flat switched. The redesign of our operations in Chicago and Houston remains on track. Chicago intermodal consolidation is set to be complete by year-end. We are also making progress in Houston to consolidate our intermodal facilities into one location to expand switching capability and improve our ability to run longer trains out of the Inglewood yard. Finally, we continue to make organizational changes to better align resources and responsibilities. During the quarter, we took an additional workforce reduction in the operating department and also integrated intermodal operations into the transportation department. We will continue to seek efficiency in all facets of what we do and there remain many more opportunities ahead of us. To wrap up, we remain committed to protecting our employees' health and safety and providing strong service to our customers. We will continue to make structural changes to improve operational performance and efficiency. The changes we're making in Chicago and Houston will drive continued improvements in our intermodal service product allowing us to be more competitive in those markets. We have made great progress in transforming our operations to this point. Our focus is unwavering, as we will continue to improve safety, service, asset utilization, and network efficiency in order to provide customers with a service product that is competitive and provides value. Before I turn it over to Kenny, I want to make a few comments on Tuesday's announcement. I'm very proud of what we've accomplished during my time at Union Pacific. Really the results speak for themselves. We've got the leadership team and culture and a great place to continue to flourish, and Eric is the right person to lead the team. He's a very talented railroader and brings a great skill set to the position. I know he'll continue to challenge the team to be relentless in their pursuit of efficiency. I'm going to stick around for a bit longer to make sure the transition is smooth and some key projects are completed. I'm very confident that this team won't back off on the progress we've made or are making to produce an industry-best product for our customers. With that, I'll turn it over to Kenny to provide an update on the business environment.

Thank you, Jim, and good morning. For the third quarter, our volume was down 4%, primarily due to declines in our industrial and bulk business groups. The decrease in volume coupled with a 7% decline in average revenue per car drove freight revenue to be down 11% in the quarter. Weak economic conditions related to the pandemic continue to impact multiple market segments but it was partially offset by stronger demand in the premium group. So, let's take a closer look at how the third quarter performed for each of our business groups. Starting with bulk, revenue for the quarter was down 12% on a 9% decrease in volume and a 3% decrease in average revenue per car. Coal and renewable carloads were down 21% as a result of weaker market conditions from low natural gas prices and soft export demand. Volume for grain and grain products was up 3% from an increased demand of export grain partially offset by pandemic-reduced demand for ethanol. Fertilizer and sulfur carloads were up 4% due to the stronger export potash, slightly offset by lower production of phosphate rock. Finally, food and refrigerated volume was flat and strong beverage shipments were offset by softer food service and restaurant demand. Moving on to industrial, industrial revenue declined 18% from a 16% decrease in volume. Average revenue per car also declined 2% due to a lower fuel surcharge and negative mix. Energy and specialized shipments decreased 20%, primarily driven by reduced petroleum shipments due to low oil prices coupled with weak demand. Forest products volume was flat. Growth in lumber shipment from improved housing starts and repair and remodels offset declines in paper shipments. Industrial chemicals and plastic shipments declined by 9% due to the pandemic-related impacts on both global and domestic demand. Industrial chemicals volume had the largest reduction as these carloads are closely tied to industrial production. Metals and minerals volumes decreased by 22% due to reduced sand shipments associated with the decline in oil prices and a surplus in local sand. Rock shipments were also reduced due to the pandemic-related impact on demand and project delays. Turning now to premium, revenue for the quarter was down 1% on a 5% increase in volume. Average revenue per car declined by 6%, reflecting a lower mix from increased intermodal shipments. Automotive volume was down 9% for the quarter. At the beginning of the quarter, most North American manufacturing plants resumed production, but our run rates were about 15% below 2019. Production volumes steadily increased throughout the third quarter as dealers restocked inventory. Intermodal volume decreased by 9% year-over-year driven by strength in domestic truckload and parcel shipments as well as onboarding new international business. Despite the pandemic, sales for most retailers increased throughout the quarter. And not only did we see the footprint of e-commerce sales of total U.S. retail sales grow year-over-year, but more importantly, we saw our volume increase as a result of key business wins. As we enter the fourth quarter, you can see on slide 11 that our overall volume is currently up 4% year-over-year. Based on these run rates, we'd expect year-over-year fourth quarter volumes to be up low single-digit. We expect premium volumes to remain strong similar to current run rates for the remainder of the year. Strength in e-commerce is likely to continue and volumes will be bolstered by inventory restocking as we enter peak holiday shopping season coupled with recent business development wins. For bulk, the coal market remains challenged as high inventory and weather conditions continue to be factors. However, we have a positive outlook for export grain due to China's continued purchases. Additionally, we expect to see continued strength in beer shipments and we could see modest growth in our food and refrigerated line if food service and restaurant demand improve. And lastly, for industrial, the potential for crew by rail remains largely uncertain. If oil prices remain depressed, then we anticipate continued year-over-year declines. But on a positive note, we are anticipating slow sequential quarterly improvements for most of our other markets. The outlook for housing starts remain positive and our improved service product is opening up new markets for us like some short-haul business that wouldn't have been so attractive to us in the past. This is just one example of how we're staying focused on things we can control. The team has done a fabulous job executing on our marketing initiatives to win new business, and as Jim stated earlier, our service product continues to improve, which helps our customers compete in the marketplace. With that, I'll turn it over to Jennifer, who's going to talk about our financial performance.

Thank you, Kenny and good morning. As you heard from Lance earlier, Union Pacific is reporting third quarter earnings per share of $2.01 and a quarterly operating ratio of 58.7%, an all-time quarterly record and our first sub-59 quarter. Looking at our quarterly income statement, operating revenue totaled $4.9 billion, down 11% versus last year on a 4% year-over-year volume decline demonstrating our consistent ability to adjust cost with volume. Operating expense decreased 12% to $2.9 billion. Taken together, we are reporting third quarter operating income of $2 billion, a 9% decrease versus 2019. Other income of $37 million was down $16 million versus last year as a result of lower interest income as well as less rental income. Interest expense increased 11% due to increased debt levels and costs associated with our recent debt exchange. Income tax expense was lower, down 12% as a result of lower pretax quarterly income. Net income of $1.4 billion declined 12% versus last year, which combined with share repurchases led to a 9% decrease in earnings per share to $2.01. As I just mentioned, our 58.7% operating ratio was 80 basis points better year-over-year. Lower fuel prices had a 100 basis point positive impact on the operating ratio while fuel surcharge lag negatively impacted earnings per share by $0.03. Turning now to slide 14, which provides a breakdown of our freight revenue, totaling $4.6 billion, down 11% versus 2019. The primary contributor to the year-over-year decline was a 4% decrease in carloadings, a substantial improvement from the second quarter, but still in negative territory. Lower diesel fuel prices, down 35% year-over-year impacted revenue by 3.5 points. Positive core pricing gains were more than offset by our business mix, reducing revenue 3.25 points. Although we continue to yield pricing dollars in excess of inflation, revenues were impacted by moving more business at a lower average revenue per car, something we commonly refer to as negative mix. A 9% increase in intermodal combined with industrial volume declines, which included the continued falloff in sand and crude carloads, were strong contributors to that negative mix. Now let's move on to slide 15, which provides a summary of our third quarter operating expenses. As you heard Jim discuss, we did a great job operationally in the quarter adjusting to that sharp rebound in traffic. And at the same time, we're very effective controlling costs. If you look at the individual expense lines, comp and benefits expense decreased 11% year-over-year, as we offset wage inflation and higher severance costs through lower force counts. Third quarter workforce levels declined 18% or about 6,500 full-time equivalents versus last year, while sequentially increasing by fewer than 100. Our train and engine workforce continues to be more than volume-variable, down 22%, while management, engineering, and mechanical workforces together decreased 14%, with a portion of those reductions related to fewer capital employees. Quarterly fuel expense decreased 40% as a result of the significantly lower diesel fuel prices and lower volumes. Third quarter consumption rate increased slightly versus 2019, reflecting the mix impact of running fewer heavy-haul bulk shipments. Purchased services and materials expense declined 11% in the quarter, as we continue to use our locomotive fleet more productively. In addition, our loop subsidiary incurred less drayage expense versus last year with fewer auto shipments. Equipment and other rents fell 8% in the quarter despite mix pressure in this category related to increased intermodal shipments. However, freight car and locomotive productivity efforts more than offset that headwind, driving car hire savings and lower lease expense. Other expense was our only cost category that increased year-over-year, up 8% in the quarter, driven by $17 million of higher state and local taxes. We still expect this cost category to be up around 5% on a full-year basis, in line with prior guidance. Looking now at productivity. As discussed during our second quarter call, the game plan was to leverage sequential volumes against our smaller cost structure while maintaining a high level of service. And based on our results, I'd say we did just that. We continued our trend of generating strong net productivity, with the third quarter coming in at $205 million. The operating department's continued progress on train length initiatives, balanced with an improved service product and more efficient use of our workforce and locomotives, led those productivity gains. In addition, all areas of the company continue to control spending as well as look for ways to do more with less. Our year-to-date net productivity of $610 million already exceeds both our expectations for 2020, as well as the impressive $590 million of net productivity we achieved for the full year 2019. As we look to the fourth quarter, understanding that we do have a difficult comparison against last year's fourth quarter, we now expect full-year 2020 net productivity to exceed $700 million or $1.3 billion over the last two years. This strong productivity is evident in our record quarterly operating ratio of 58.7%. Using the same barometer as past quarters for evaluating cost variability, year-over-year third quarter expenses were 180% volume variable on a fuel-adjusted basis. Sequentially, as third quarter volumes increased 19% from the second quarter, fuel-adjusted operating expenses only increased 11%. Moving on to cash and liquidity. Throughout the COVID-19 pandemic, Union Pacific has been in a position of strength with our cash generation liquidity and balance sheet. Year-to-date cash from operations decreased only 4% versus 2019 to $6 billion despite a 12% decrease in net income. Free cash flow after capital investments totaled nearly $3.7 billion, resulting in a 93% cash conversion rate. After payment of our industry-leading quarterly dividend, cash on hand at the end of the third quarter was $2.6 billion. As volumes have remained relatively steady in the 160,000 seven-day carloading range, we are moving to redeploy some of that cash. We resumed share repurchases in early October and announced our plans for a $500 million par call on debt due in early 2021. We also plan to pay off an additional $300 million of incremental debt we assumed earlier this year for added liquidity. From a balance sheet perspective, we finished the quarter at an adjusted debt-to-EBITDA ratio of 2.9 times, as we continue to maintain strong investment-grade credit ratings from both Standard & Poor's and Moody's. As we've said before, navigating through this pandemic has reinforced our conviction that maintaining a solid investment-grade credit rating is critical and is an essential element to our commitment to provide strong cash returns to our owners, which totaled nearly $5 billion at the end of September. Turning now to our outlook. You heard Kenny talk about the positive drivers we see in the marketplace and our expectation that fourth quarter volumes will be our first quarter with positive year-over-year growth in two years. Given this improved outlook, we now expect full-year volumes to be down 7% or so. As I pointed out earlier, we expect productivity to exceed $700 million for full-year 2020, and our long-standing pricing guidance is unchanged. We expect the total dollars generated from our pricing actions to exceed rail inflation costs. We are committed to making sure each piece of business we move is earning an adequate return and that we are being compensated for the value we are delivering in the marketplace. Our expectations for volume, price, and productivity should produce a record 2020 operating ratio. In fact, we now expect the full-year 2020 operating ratio to improve by roughly one point and start with a five. While the course we've charted in 2020 is certainly much different than expected when we laid out our original targets, being able to achieve a sub-60 operating ratio in the heart of a pandemic is an impressive accomplishment for the entire Union Pacific team. In terms of cash generation and capital allocation, full-year capital expenditures are still projected to come in around $2.9 billion, as we make good progress on our renewal and productivity investments. We will continue providing strong cash returns to our owners through our dividend and share repurchases. And longer-term, capital expenditures remain projected to be below 15% of revenue, a dividend payout ratio of 40% to 45% of earnings, and ultimately achieving that 55% operating ratio remains a vision and objective for our company. Wrapping up, I'd like to express my appreciation to our exceptional employees, the job they've done this year to work safely, stay nimble and provide a quality service product for our customers while also improving productivity is truly remarkable. Our goal of operating the safest, most efficient, and most reliable railroad in North America is clearly achievable knowing we have the best people in the business. With that, I'll turn it back to Lance.

Thank you, Jennifer. Our first priority has been and will always be safety. We have a continuous focus on improvement and I'm confident the team has the right plan and is taking the right actions to make Union Pacific a safer railroad going forward. Our service and financial results demonstrate the transformation of our company. We are a more efficient and a more reliable railroad that is driving value for our customers on the way to achieving operational excellence. Our enhanced service product coupled with a lower cost structure and innovative new services is opening up new markets and opportunities with our customers. And as you heard from Kenny today, the team is winning by converting more business to rail. Our customers are reducing their carbon footprint to the tune of an estimated 16 million metric tons of greenhouse gas emissions so far this year as we move together toward a more sustainable future. Our optimism for the future has never been greater as Union Pacific is well-positioned for a future of long-term growth and excellent returns. So with that, let's open up the line for your questions.

Great, good morning. And Jim great job over the last few years and good luck in the future. Maybe for Lance or Jim, I guess just starting off. Keeping your employees down 18% with volumes accelerating a great job in the quarter and great job in the OR but you saw some intermodal struggles as you mentioned. Maybe you could talk a little bit about the incremental margins going forward and your thought on the pace of expense returns as you move into 2021, just given Jen just talked about the kind of inflection into positive volumes for the first time in a while? Thanks.

Jim you want to talk about the expense side and then we'll convert it to the go-forward margins?

Thank you, Ken. I appreciate the question and your acknowledgment of our progress over the past couple of years. Although we still have some work ahead, I'm excited about the next few months as we strive to enhance our operations further. Regarding intermodal operations and expenses, we demonstrated in the last quarter our ability to effectively manage the business. To succeed, we must adopt a holistic view of the supply chain, which we did. Everyone understands that responding quickly to changes, especially with significant increases in intermodal volume, can disrupt the entire network. However, our prompt response and the subsequent performance metrics reflected this as a successful strategy. Our expenses on a unit basis will continue to decrease due to the capital investments in our network and improvements in efficiency. We are able to turn locomotives, crews, and cars around more quickly and handle inspections faster, allowing us to build on these efficiencies. Therefore, regardless of the business that comes our way, I believe we can still enhance our overall efficiency.

Yes, and building up that, Ken, from an incremental margin or go forward margin perspective, of course we continue to expect that we're going to improve our margins. The capital investments that Jim just outlined are going to be a support. And we're also looking with Kenny's team at an end-to-end view of our intermodal product, whether it's international intermodal or domestic intermodal. And those both give us an opportunity to margin up whether it's by efficiency in the chain or an opportunity for better pricing.

Thanks Lance, thanks Jim.

Good morning. Jim, I'll echo the congrats and wanted to ask about the announced transition. I think a lot of investors are wondering if this means the heavy lifting on PSR and productivity gains is complete. So could you just address that? Do you disagree with that view? And if so, can you talk about why now is the right time to make this transition versus sticking around for another year or two?

I appreciate the question. When I joined Union Pacific, Lance and I discussed what we needed to do to enhance productivity, which was already a priority for the team. Everyone at Union Pacific recognized the opportunity for improved efficiency and superior service to succeed in the market. Those goals were established, and it was encouraging to hear from Lance and Rob about our aspiration to become the industry leader in operational efficiency and service excellence. I committed to a timeframe of 18 to 24 months for my role. I could have extended or shortened my time, but I focused on laying the foundation for an operational group that comprehends what we can achieve. I believe I have succeeded in that regard, and I trust that Eric is the right person to lead the team moving forward. To clarify, Eric is not Jim Vena, and I’m not comparing myself to others who have led operationally; we have aimed to minimize disruptions for our customers. Eric has the right qualifications, skills, and quick thinking, which reassures me about our future. Unfortunately, our efforts were hindered by COVID, preventing us from gathering our entire operational team together, including skilled individuals like Tom, David, John, and Hunt. Nevertheless, I am confident in our team’s understanding of our direction and their ability to deliver results. I will remain available for support and oversight, ensuring they are on track. A true leader leaves the team equipped to continue performing upon their departure. I've dedicated significant time to engaging with employees at various levels, conducting sessions with frontline supervisors to foster the right culture and decision-making approach. I plan to continue this engagement through the end of the year and into the next. I am optimistic about our team's capabilities. Regarding what’s left to achieve, I anticipate that our locomotives will be more productive, our train lengths will reach around 10,000 feet, and our freight velocity could increase by 5% to 10%. We are just beginning this journey, with the necessary mechanisms, measures, and culture in place to ensure success. I have no concerns about our path forward, and I plan to hold on to my Union Pacific stock as I am confident we will take the right steps. I apologize for the lengthy response, but I wanted to cover everything thoroughly.

That's very helpful. Very helpful insights. I appreciate the time.

Thanks, Justin.

Hey. Good morning. Thanks for taking the question. Jim, congratulations on the last, I guess, sub two years. Maybe one more for you before you head out into the new role and keeping an eye on things from afar. Look at all the buckets of productivity and the success you've had including this quarter, it is slowing down a little bit, but one area where we haven't seen as much improvement is really on fuel economy. You've got record train lengths that are going up. You've got locomotive productivity that's at all-time high, newer fleets. So I know mix is an issue, grade, and topography is an issue, but some of your peers have been able to move the needle a bit more on that front, and we haven't quite seen that yet from UP. In fact, going up a little bit in terms of consumption this quarter. So maybe you can help conceptualize or even quantify what that opportunity looks like? And if that's one of the big buckets you see left for the team as you step more into an advisory role? Thank you.

Let me answer your question in reverse. Yes, we see it as a significant area on the expense side, and we believe we have the right strategy in place. If you look closely, this past quarter we achieved over a 4% improvement in our fuel efficiency on a GTM basis. However, this is somewhat obscured by changes in the types of trains we operate and the volume. I am confident that we have established the right processes to continue this trend. While I don't expect to see a 4% improvement every quarter, the best way to gauge our performance is to consider that as we increase the load on the same number of trains and locomotives, we are averaging more horsepower per train and are effectively utilizing our capacity, which will lead to further improvements in fuel productivity. Will we be the top performer in the industry? Not necessarily. There are some inherent advantages for the railroad I worked for before, as its mainline grade is about half of ours, which means we will consume slightly more fuel due to the tougher terrain heading towards the West Coast. That said, we have many advantages in how we manage fuel use, and we have invested in technology to help our locomotives and engineers optimize their operations. I believe we will continue to see improvements in this area. Eric might even achieve some favorable shifts in mix down the line that could lead to significant fuel savings, which would reflect positively on his expertise. Overall, I feel quite confident in our approach.

I have that one. All right. Thanks, Jim.

You’re welcome.

Thanks. Good morning. So just thinking about the fact that volumes are recovering in addition to the higher productivity gains that you're now looking for this year. Just as you think forward, would you expect to see a step function improvement in the OR in 2021 as volumes allow you to more fully realize the benefits of PSR? So maybe just some thoughts on that. I can appreciate you're not giving next year's guidance, but also if you could quickly address at what point do you think you can achieve the 55% OR? Thank you.

Yes, I'll start and ask Jennifer to back me up Allison. This is Lance. Good morning. So the moving parts as we look into next year, we do expect volumes to be better. Of course, it won't be hard to do that against the pandemic. And it's hard for us to gauge exactly how much better. But that will be a help. Productivity is going to continue. That will be a help. We haven't nailed down that target, but it's going to be healthy. And we've got plenty of initiatives moving into next year that we'll keep a shoulder into. Mix is a real big question mark. I don't see much reason to change our current mix experience until the industrial economy really starts recovering a little bit quicker and with more strength than we've seen so far post our trough in May. So that's the biggest question mark, I think, that will dictate just how much margin improvement we are able to attain next year. Jennifer?

Yes, Allison thanks for the question. You've heard us say many times the drivers of our performance are what Lance just laid out its volume, productivity, and then the price piece. So we're encouraged by what you're seeing in the truck markets today and with the service product that we've got out there and all the work that Kenny and his team are doing. But we're still working through our plans for 2021, but we have every expectation that we've got a great roadmap ahead of us where we can continue to improve. We'll give you obviously more detail around that when we talk to you in January. And our hope is sometime next year we should be able to gather everyone as we were hoping to do in the fall of this year and with a little more certainty on what's going on with the economy and the pandemic be able to lay out for you guys kind of a multiyear plan that we see for ourselves and how we look to continue to make improvement and go to the 55% OR.

Okay. That’s helpful. Thank you.

Yes.

Thanks.

Thank you, operator. Good morning, Lance and Jim. Jim, congratulations on your retirement. I've been curious about when that would happen.

Thank you.

I want to concentrate everyone a little bit on mix on intermodal because clearly the surge to the West Coast has been somewhat aided by restocking efforts that are likely to continue at least in the near future, but at some point that will abate. So how should we think about the mix between international business and more domestic business for 2021 and the impacts on the arc?

Yes. So thanks for that question, Jason. First of all, I would just say that controlling what we can't control we're going to go out there and win as much business as we can in all those markets. And this year we've been able to do that. We've been able to grow our e-commerce business. We've got a great service product that Jim and the team has provided us. On the international side, we talked about an international win. And even on our domestic truckload side, we've been able to go out there and win new business. We have seen a little bit more of our international business transloaded into some of the West Coast ports. That just means that we have to compete on the domestic side, which I've said, we've been able to do. So regardless of how that product comes in, we've inserted a lot of technology with our customers to go out and win business, whether it's APIs that see the business coming from Asia, whether it's our ITR business to give great visibility to our customers on when their business will move. We feel like we've got a really strong domestic product to go out there and compete. And we've also won quite a bit on the international side.

Right. But Kenny, if it does slow down, should we expect a change in the arc for 2021 on the restocking side?

What specifically slows down Jason?

So the restocking efforts that we've seen in all the massive surge that West Coast supports lately.

Yes. So, Jason, this is Lance. I get what you're asking. So part of what we're seeing in domestic strength is a restocking, because we can see that in the data as well, right? Inventory is relatively down. Sales are up and the inventory sales ratio is below where I think retailers traditionally would like it to be. So as we look into next year, some amount of that destocking probably drops off a bit. It's hard to say just exactly what happens in impact on mix and overall arc as that's occurring. One thing that is likely to occur as we go into next year would be, the surcharges dropping off in the L.A. Basin and up in the PNW, but those are really asterisks right now in terms of the overall yield that we're reporting. They're helpful, but very marginal.

Yes. The only thing I'll add to that is, if you look at the data, the retail sales have actually improved sequentially. So there is a pull element to the demand. And the inventory that they sit today, they're lower than they were in 2019. So they're still lower inventory. And then you think about that e-commerce business, I believe that there is a structural change out there with the consumer preference that there's going to be more e-commerce there that fits very nicely with our service product.

And that parcel business is very attractive to us.

Yes. I mean, we're just starting to get into the bid season for next year, Jason. And I think maybe that's part of your question too, in terms of if that truck market stays tight, we think that's a great opportunity for us, particularly with the service product that we've got to offer right now.

Okay. Well, looks fantastic. I appreciate the time, as always, everyone.

Yes. Thank you, Jason.

Thank you.

Hey. Thanks. Good morning, guys. So, Jennifer, comp per employee was up 8%. I think you mentioned some severance. Can you quantify that and just give us some color on how to think about comp per employee going forward, just because it was a bunch higher than we thought? And then, can I just get one clarification? Lance, you made a comment about intermodal and end-to-end. I'm not sure what that means and maybe what that should mean for the IMC relationship? Thank you.

Sure. On the comp per employee side, Scott, you're right. I mentioned, we have wage inflation. That certainly was part of it. We did have severance. I'm not going to quantify that, but that is something that we don't expect to see in the fourth quarter. Jim mentioned some further headcount reductions that were made on the operating side of the world, so there was some severance involved with that. We also did have some higher cost per crew in the quarter. When you think about some of our weather challenges and the fact that we are staying quite lean from a headcount perspective, and so we're working the crews a little bit harder, so a little bit higher overtime cost there. Going into the fourth quarter, we're going to still stay pretty lean as there's a little uncertainty around the economy. You've got the holiday season coming up, so I would expect that we're going to keep that crew base pretty lean. So you may see some elevated cost per crew. You're going to continue to have the wage inflation in 4Q, but you will not have the severance on a sequential basis. Lance?

Yes, Scott, regarding your question about what I meant by end-to-end in the domestic intermodal sector, I want to clarify that this is not an announcement of us entering the retail space. However, it does highlight the understanding that a successful service product in the market appears seamless to customers throughout the entire process and must be simplified to enhance usability. We are collaborating with our intermodal marketing companies and key partners to achieve this goal. The aim is to ensure a consistent point of contact across the entire supply chain. There is significant effort being invested in this initiative, and I wanted to emphasize that it is an important aspect of our discussion today.

Thank you.

Yeah.

Hi. I just wanted to come back quickly to the grain question. I know you said you're encouraged, but specifically on the export side our understanding is commitments for both soybean and corn are well above five-year averages to China. Just Kenny maybe you could give some sense or scope of the export grain franchise for UP? And what sort of tailwind that could really be? Thanks.

Yes. So I've got myself in trouble trying to size this grain market before. So what I will confirm for you is that you're right in line, it's going to be right in there with the highs over the last five years. It's going to be a really strong market. And so I can confirm that for you. I won't size it for you, but it's going to be a really strong market for us.

And Kenny, we'll participate there both out the PNW, we'll participate there out the Gulf?

We've seen significant growth in those three areas and I'm adding Mexico to it. And so the PNW, the Gulf, and Mexico, we have seen significant emphasis on that significant growth and we've got high expectations for the quarter.

Great. Thank you.

Thank you. And Jim, now that you mentioned, can you just run for...

I'm an American citizen, but I wasn’t born in the U.S., so I cannot do it. Otherwise, I would like to do sometime, let me tell you.

I would love to get you on Ballard, is a better third option. Going back to the improved efficiency of the network and the excess capacity that's generating for the UP, specifically in terms of railcar locomotive needs, how much do you think you can really grow volume-wise before you need new railcars new locomotives? And how much of that capacity have you actually taken out removed, retired versus just keeping in storage for future growth?

Well, let me start and then maybe Jennifer you want to talk about how we're handling it. But sure, we've got lots of locomotives. I didn't even mention it this time. I think we've got 3,000 of them parked. So we won't be needing locomotives. If we could sell some of them and I'll leave that to Jennifer, but if we could do something and monetize them, I think we would but a pretty tough market. On the railcar side, it's depending on the mix of the traffic. We have available cars parked, we've returned as many as we can to make us more efficient that way. So it's a mix on what we would have to add depending on the business. That's the way I look at it. If we were done operationally then you could say, 'Boy, if the business went up on one segment on the grain side, we'd have to go on and lease more cars to bring it in.' We will not. We still have efficiency left to be able to – if the business goes up x, we're going to be half of that on the cars that we have to put in to be able to handle that business. And that's what I'm real comfortable with.

Yes. Regarding freight cars and locomotives, we generally own multi-use freight cars. This allows us to adapt to market changes, such as the increase in grain demand, by repurposing some cars that were used for transporting fertilizer into grain service. Additionally, box cars are versatile and can transport various goods. We are confident in our freight car fleet's capability and our ability to deploy it as necessary. On the locomotive side, we assess the fleet by type and note that we have a relatively young fleet overall, with opportunities for modernization and redeployment as volumes increase. We see this as a significant opportunity moving forward. We aim to utilize our fleet as efficiently as possible, and we have plans for each locomotive we own. Whether in the present or near future, this represents an opportunity for us. We've discussed growth and margin improvement, and the capital efficiency we possess for future growth is substantial. Considering our freight car, locomotive, and track assets, we have a great opportunity to increase business and leverage our existing investments. We look forward to capitalizing on this potential.

Thank you.

Good morning. Thanks for squeezing me in and Jim our best to you. I wanted to ask with the industry now operating based on kind of a similar philosophy, do you think there's an opportunity to work together a bit more creatively to develop new interchange traffic?

100% Cherilyn. And we're actively working that with every other Class I railroad partner, of course excluding BNSF, there's really not much opportunity to do that with them. But whether you think about it in the context of – historically, there's this watershed area. And for us that typically is along the Mississippi River, where if there's an origination on my side of the river, it's short haul for me to get it to an Eastern carrier. And a lot of times historically that's not looked terribly attractive. But when we're all thinking about our business the same way now and we're all eager to grow with our excellent service product, we're all starting to think about you know, just because it's a short-haul on my side, if it generates an attractive relationship with the customer, it gets more railroad penetration and there's opportunity on their side of the river to originate for us, we're making those trades. And we're not doing it historically like we might have where in order to make the move attractive for me, I'm going to move it out a route and put it to a gateway where it doesn't make sense. So I get a little length of haul. That's not happening anymore, right? We're all thinking very clearly about best overall route structure. What's the price it takes to win? Is that attractive in total? And if it is, let's do it. And doing it collectively.

Yes. And I want to add on this one, Lance. So to Lance's point, you're right. We're thinking about it as what would we do if we're one railroad. And that's product development components associated with that not just service. It could be something a little bit more than that. It could be something – a physical footprint that's there. Obviously, the equipment efficiency plays a part of it. But on an analog basis, how do we go out and win that truck traffic that's out there that we haven't been able to capture.

Amen. A lot of opportunity there Cherilyn.

Thank you.

Sorry, I was on mute there. So, Lance, I wanted to come back to the question on domestic intermodal. We continue to hear from shippers as well as some of the supply chain partners that the ease of accessing the network, the service on the network is what it is, and you guys have reported good metrics there. But as you think about the friction costs of getting in and out of the terminals on the intermodal, that is kind of holding back growth to a degree. And I'm just wondering, what can you as Union Pacific do over the next couple of years to solve that problem? You mentioned earlier that going retail or developing more retail capabilities isn't part of the solution. But I'm just wondering, how do we get out of the situation where when demand picks up, you end up in a situation where you got to throw up surcharges to keep traffic out of the yards?

Yes. Great question, David. And I want to also be clear, I didn't say that at some point in the future retail isn't the answer. I just wanted to make sure nobody thought I was announcing a new product on our call. So technology plays a really big role in what you were just talking about. What you're talking about David is fundamentally ease of doing business and removing blockages that keep customers from using the rail intermodal product. And to your point, Kenny has mentioned this before ITR. One of those can be, if you schedule a truck, when you bid for a truck you can get it scheduled at the time you want it, where you want it, and be very confident that it's going to show up for you to load or to empty. We're reflecting the same kind of thing through ITR. ITR is basically a reservation system that allows domestic intermodal customers to know, hey, I want to move this container from here to there and A., do you have availability on the day I want it? If the answer is yes, I'm booked and I know I got it. If the answer is no, I know when I can get it. And if it doesn't match my needs, it doesn't match my needs. But at least I have clarity and I don't make an assumption and then get angry when it doesn't happen. So that's one small example. We're also making it much easier for dray drivers, when they come on to the ramp with UPGo to be able to get through the gate quickly, know exactly where to park, where to drop-off, and where to pick up and go. So they're getting a lot of help that way. We're helping the BCOs also by making sure we're tracking down chassis and keeping them productive in our terminal areas, right? Sometimes chassis get off property and they get lost or used for very different purposes that aren't bringing business to and from the railroad. So, there's just hundreds of different activity items in there that ultimately lead to a better customer experience. That's what I mean by that end-to-end experience. Kenny, you got anything else for that?

No. I mean, the fact that we're sitting down with our customers, talking about these chassis, talking about the container dwell, giving them really good data points, managing with data. So yeah, that's good.

All right. Thanks a lot for the time, guys.

Yes.

Yes, Jim, congratulations on your time here. Good luck with your future endeavors. I wanted to ask, in the eight or nine months you have left here, what are the one or two things you feel you must complete? Additionally, what larger projects under Eric's leadership are expected to take a couple more years that will be focused on during this transition?

We have had significant discussions about our intermodal service products, which we view as a growth opportunity. My focus will be on ensuring that we have a comprehensive approach. This includes making ports and domestic terminals as efficient as possible and improving customer interactions for better responsiveness. While we managed to respond well to the recent surge in business, there is always room for improvement. I intend to strengthen our relationships with other railroads and enhance our traffic interchange processes to create a more streamlined operation, benefiting all parties involved. The question of how we are engaging with other customers is vital. Beyond focusing on locomotives, I will prioritize asset utilization, service, and productivity in the coming months, collaborating closely with Eric to ensure our efforts are aligned. My plan is to focus on these initiatives over the next six to eight months.

Thank you. I appreciate it.

Hi. Thank you for including me. I have a question regarding capital expenditures for next year, especially since it seems you won't be acquiring any locomotives. Are there any planned projects that might impact CapEx? Also, you mentioned that the package business is strong. Could you elaborate on the economics of that business?

I'll take CapEx. Jennifer, from a project perspective, there's nothing big that's unusual on the horizon. We're sticking with our guidance Jennifer?

Yeah. I mean, the less than 15% of revenue is where we would plan to be again for next year. And obviously, we'll talk more about that in January. I know we still have some siding projects that we plan to finish out some that, will finish out yet this year and a little bit more of that work. But we continue to have a robust plan. We'll modernize locomotives. We'll continue to make sure the infrastructure is in good shape. So I feel good about our ability to spend that capital to keep the railroad safe, efficient, and add the capacity as needed for customers.

Well, and one thing that we haven't talked about on this call is our new CIO coming over starting at the beginning of November. And technology we've talked about throughout the call is an important element of our overall service product and ability to grow and win business and I'm sure he's going to have a help and we'll also have some capital elements, but I don't think it will be an unusually high spend.

No. Kenny do you want to...?

I don't have anything else.

Hi guys, good morning. So I just wanted to make sure I understand the comments around new business opportunities and wins. Are you starting to see those accelerate and broaden here with the improved network and some of the efficiencies that you pulled through? And certainly understanding it's been an unusual year. Are those opportunities where you thought they would be at this point in your journey? Any thoughts there?

Yes. The two changes are a strong and reliable service product that we haven't had for some time, and a lower cost structure that makes parts of the business more appealing. I've mentioned the potential for new markets and provided examples of long-haul business recently. We're also seeing similar opportunities in the short-haul carload business. If we can integrate larger or smaller volume segments into existing train services, it positively impacts our bottom line. These two factors have empowered our sales and marketing teams to engage more effectively with customers regarding truck conversions.

Great. At this stage in your journey, do you think those opportunities are where they should be? Are they a little better? Any thoughts on that?

We have. We certainly have room to grow. There's opportunity for us to grow. And we're excited and bullish on where we expect to be. But there's no part of this where we're ready to say that we've arrived or we're done. We've got a lot of room to grow here.

Yes, Allison, we think more, sooner better. That's what Kenny hears all the time.

Great. Thank you guys.

Thank you again, Rob, and thanks everyone for the questions. It was a really good session today. I want to thank Jim again. I'm so pleased we've got him for as long as we do. We're going to put him to good use over the next eight months. And we look forward to talking with all of you again in January to discuss our fourth quarter and full year 2020 results. Until then, I wish you all good health. Please take care of yourself and take care. Thank you.