Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)  

Genesee & Wyoming Inc. (NYSE:GWR)

Q4 2012 Earnings Call

February 12, 2013 04:30 PM ET

Executives

Matt Walsh - SVP, Corporate Development

Jack Hellmann - President and CEO

T.J. Gallagher - CFO

Analysts

Anthony Gallo - Wells Fargo

Justin Yagerman - Deutsche Bank

Steph Lowry - Citi

Allison Landry - Credit Suisse

Thomas Wadewitz - JPMorgan

William Greene - Morgan Stanley

Scott Group - Wolfe Research Inc.

Jason Seidl - Dahlman Rose

Justin Long - Stephens

Ken Hoexter - Bank of America

Operator

Ladies and gentlemen, thank you for standing by. Welcome to the Q4 2012 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will be given at that time. (Operator Instructions). As a reminder, this conference is being recorded.

I would now like to introduce your host, Matt Walsh. Please go ahead, sir.

Matt Walsh

Thank you for joining us today on Genesee & Wyoming's Q4 2012 earnings call. Please note that we'll be referring to a slide presentation during today's call. These slides are posted on the Investors page of our website www.gwrr.com. Reconciliations of non-GAAP measures disclosed on this conference call to the most directly comparable GAAP financial measures are likewise posted on the Investors page of our website. We will start with the Safe Harbor statement, and then proceed with the call.

Some of the statements we will make during this call, which represent our expectations or beliefs concerning future events are forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, which provides a Safe Harbor for such statements. Our use of words such as estimate, anticipate, plan, believe, could, expect, targeting, budgeting or similar expressions are intended to identify these statements and are subject to a number of risks, uncertainties and other factors that could cause actual results to differ materially from our current expectations, including but not limited to factors we will discuss later, and the factors set forth in our filings with the Securities and Exchange Commission.

Please refer to our SEC filings for a more detailed discussion of forward-looking statements and the risks and uncertainties of such statements. We cannot assure you that the forward-looking statements we make will be realized. We do not undertake and expressly disclaim any duty to update any forward-looking statement, whether as a result of new information, future events or otherwise, except as required by law and you should recognize that this information is only accurate as of today’s date.

On the call today, we have two speakers, our President and CEO, Jack Hellmann, and our CFO, T.J. Gallagher.

I will now turn the call over to our President and CEO, Jack Hellmann.

Jack Hellmann

Good afternoon; welcome to G&W’s fourth quarter earnings call. As always, we will start our call with safety.

On Slide 3, you will see that we have completed 2012 with an FRA reportable index of 0.48 injuries per 200,000 man-hours. This was the best safety results in G&W history as well as the best result in rail industry for the fourth consecutive year.

With the acquisition of RailAmerica, the challenge of implementing G&W’s culture of safety has just begun. As you can see in the chart, if G&W and RailAmerica had been a single company in 2012, our combined safety index would have been 0.9. So we have plenty of work to do in order to reach our ultimate goal of no personal injuries to any of our 4600 employees.

Now turning to financial results in slide 4; remember that in the fourth quarter, we owned Rail America and an independent voting trust and accounted it for using the equity method of accounting. We also incurred several costs related to the acquisition and integration of RailAmerica in the fourth quarter. So I will often be referring to financial metrics that are adjusted for these items.

G&W's financial results for the fourth quarter 2012 were consistent with our expectations as we reported adjusted diluted EPS of $0.79, which was a 16% increase over the fourth quarter of 2011. Our revenues increased 8% to $227 million, our adjusted operating income increased 28% to $58 million and our adjusted operating ratio improved 4 percentage points to 74.6%.

Each component part of our business performed well. In North America where we saw an improving housing market, our revenues increased 4.4%, our adjusted operating income increased 16% and our adjusted operating ratio improved 2.2 percentage points.

In Australia where we begin to ramp up iron ore shipments from the new mine and also had strong intermodal performance, our revenues increased 15%, our adjusted operating income increased 50% and our adjusted operating ratio improved 7 percentage points to 70%. And finally turning to slide number 5, RealAmerica's financial performance was as expected well entrust, with revenues up 3% and adjusted operating ratio of 78.9% and adjusted equity earnings of $19.1 million.

Two other points to highlight in the fourth quarter of 2012. First, note that effective tomorrow we will call the Carlyle convertible preferred stock and convert it into approximately $6 million shares of G&W common stock. This will save us $17.5 million in annual cash dividends and will not impact our diluted share account.

Second, as most of you know, the U.S. short line tax credit was extended as part of the fiscal cliff legislation that was signed into law in early January 2013. This two year extension was for the years 2012 and 2013. G&W recorded a retroactive impact of the tax credit for 2012 as a benefit of approximately $35 million in the first quarter of 2013.

In addition, our booked taxes for 2013 will be reduced by approximately $25 million as we invest in our track over the course of this year. The short line tax credit has been an important contributor to the tremendous improvement to short line tax and track infrastructure that have taken place over the past eight years.

Now let's turn to slide 6, where I will give an integration update on RailAmerica. First thanks to a rapid decision by the Surface Transportation Board, we took full control of RailAmerica on December 28th, dissolved the voting trust and immediately started the integration. From an operating standpoint, our planned new regional structure was rolled out to the railroads with our nine North American regions now run by a nice balance of six G&W Senior Vice Presidents and three former RailAmerica Senior Vice Presidents.

Given that our top priority is to impart the G&W safety culture, the G&W business culture and G&W decision making frameworks, what might seem to be a daunting task, with 45 new railroads is actually quite manageable thanks to the accountability of our regional leadership.

At RailAmerica's corporate headquarters in Jacksonville, we have begun our reorganization activities that we expect will result in the closure of that office in the second quarter of 2013. As disclosed in our recent SEC filings, you can see that we have thus far reduced annual labor costs by around $20 million.

Turning to slide 7, we remain confident that we will meet or exceed our annual cost synergy's target of $36 million, with the majority of the savings realized by the end of the second quarter of 2013. Given the expected timing of this reorganization we expect at least $27 million of savings in 2013 with the synergies fully visible in the third quarter. It is also important to highlight that we have made some important new additions to the G&W organization, that we think will create significant long term value.

First our commercial organization now includes a larger industrial development team and an in-house real estate group; second our newly expanded customer service department is being led by former G&W regional senior vice president who has been tasked with creating a world class service organization. Third we are centralizing the over side of our track investment and equipment management with a new Chief Engineer and a new Chief Mechanical Officer. Finally we've expanded our centralized purchasing function to leverage our greater purchasing power and we expect significant savings over time.

I’d now like to turn to our outlook for 2013. First, let’s turn to slide 8 and revenues. In 2013, we are expecting revenues of more than $1.6 billion, which is an 85% increase over 2012. The slight highlights how the combined G&W RailAmerica business is expected to grow in 2013. If you assume that G&W and RailAmerica were a combined company in 2012 with $1.48 billion of revenue, we are expecting a 10% or $145 million increase in revenue in 2013.

Roughly 55% of this increase is expected from North America and 45% of the increase is expected from Australia. In 2013, this implies that we are targeting a 7% increase in combined North American revenues and a 20% increase in Australian revenues.

Now, turning to slide 9. We have broken out the component parts of our 2013 EBITDA, following the RailAmerica acquisition. Starting with G&W’s adjusted 2012 EBITDA of $293 million on the left side of the chart, you will see that we expect our core EBITDA to grow by another $58 million or approximately 20% in 2013.

In addition, consistent with our acquisition plan, we expect RailAmerica to hedge $210 million of EBITDA in 2013 and we also expect to realize $27 million of cost savings but we will also incur approximately $10 million of integration related charges in the first half of 2013 as T. J. will detail in a moment. Adding these component parts across to the right side of the chart, we therefore expect our 2013 EBITDA to be approximately $578 million.

Turning to slide 10, you will see that we expect our adjusted operating income to increase by over 100% and our adjusted operating ratio to improve from 75% in 2012 to 74% in 2013.

Looking at slide 11, you will see how we expect our operating income and operating ratio to progress on a quarterly basis in 2013. We expect the first quarter of 2013 to be our weakest for four main reasons. Number one, normal seasonality in North America, number two the timing of cost savings from RailAmerica, number three, the timing of the ramp up of new iron ore traffic in Australia and number four the normal impact of the wet season on our intermodal and minerals traffic in the northern territory of Australia.

In the second quarter of 2013, these items should have a diminished impact and by the third and fourth quarters of 2013, the earnings power of G&W should become increasingly apparent with a target operating ratio around 72%.

Turning to slide number 12, the bottom line is that we are expecting adjusted diluted EPS of $4.60 in 2013, which is an 82% improvement over last year. For comparative purposes, if you exclude the power of impact of the short-line tax credit on our 2013 results, our adjusted diluted EPS is expected to increase approximately 64% over the last year.

In the context of a North American industrial economy that is only growing at a modest pace, our coal market remains weak and the U.S. grain harvest that is been reduced by drought, our overall outlook remained strong thanks to the diversity of our business by both geography and commodity.

While our number one priority as we enter 2013 is to complete the integration of RailAmerica, please note, that we also remain active with business development and potential acquisitions. We continue to pursue multiple targets and we currently have approximately $400 million of availability under our revolving credit facility.

In this context, it is worth highlighting the strength of our balance sheet at year end. As you’ve probably noticed, due to our strong free cash and successful equity financings, we have much lower leverage than we originally anticipated following the RailAmerica acquisition.

As of December 31, 2012, our total debt to EBITDA ratio was below 3.5 times under our bank covenants and despite significant capital expenditures for new business development in 2013, we currently expect to reduce our total debt-to-EBITDA ratio to well below three times by year end. So with a strong balance sheet, our rapidly growing business in Australia and a powerful short-line platform in North America, we entered 2013 with considerable optimism.

And with that I would now like to turn the call over our Chief Financial Officer, T.J. Gallagher. T.J.?

T.J. Gallagher

Thanks Jack and good afternoon everyone. I’ll start with slide 13. We reported diluted EPS of $0.18 in the quarter which included $0.61 per share of RailAmerica acquisition and financing related expenses. On a normalized basis our diluted EPS were $0.79, which was 16% higher than in the fourth quarter of last year. We have broken down the RailAmerica related items into three categories, closing the transaction, financing the transaction, and integration related items. The transaction and financing expenses were largely incurred at closing on October 1st and were included in our fourth quarter guidance.

Once we received STB approval, we moved quickly on the integration process and therefore incurred severance costs prior to year-end. In addition, please note that RailAmerica also incurred integration related expenses in the fourth quarter, principally related to severance and these costs reduced equity earnings by approximately $0.06 per share. Also in the fourth quarter were several smaller items that net out to zero impact.

On slide 14 is the revenue bridge between the fourth quarter of 2011 and 2012 for G&W. Fourth quarter revenues increased a total of $16.9 million, or 8% to $227.3 million. Excluding a $2 million positive impact from FX same railroad revenues increased $12.2 million, or 5.8%. New operations which included two small leases from Norfolk Southern added $2.8 million.

Moving to slide 15 and freight revenue, fourth quarter freight revenues increased a total of $16.6 million or 11.2%. Excluding FX same railroad freight revenues were up $12.6 million or 8.5% of the $28.2 million positive price variance was offset by $15.6 million negative volume variance. I’ll talk more about price and volume variances on the next two slides, starting with volumes.

Slide 16, coal and coal traffic was down about 8900 carloads or 18% due to a combination of planned customer maintenance outage and lower demand. The maintenance outage is associated with the installation of new scrubbers at a utility customer and that is expected to be completed in April of this year.

Farm & Food traffic was down 8800 carloads or about 30%, primarily due to weaker traffic in Australia. Note that the ship loader in the Port of Adelaide was repaired as of the beginning of this year and grain traffic to the outer harbor has since resumed.

Lumber and forest products traffic is up 3100 carloads or 20%, reflecting improvement in the U.S. housing market. Metallic Ores are up 3100 carloads or 35%, primarily due to the startup of new iron ore service Australia. Finally, other traffic decreased about 8700 carloads or 47% primarily, due to lower overhead coal haulage traffic in our Ohio region.

Moving from freight volumes to freight pricing on slide 17, same railroad average revenues per carload increased to 20.1%. The appreciation of the Australian and Canadian dollars, higher fuel surcharges and changes in commodity mix increased average revenues per carload by 1.4%, 0.5% and 8.6% respectively. Excluding these factors, same railroad average revenues per carload increased 9.6%.

In addition to higher rates, average revenues per carload benefitted from significant changes in intra-commodity mix, including a reduction of low rated overhead coal haulage traffic in the other category and an increase in long haul iron ore shipments in the metallic ores category and lower Australian grain traffic, which increased average revenues per carload due to the fixed and variable contract structure.

Slide 18 and non-freight revenues, same railroad non-freight revenues increased $3.7 million or 6%, primarily due to increases in industrial switching and higher container volumes at our port operations in Portsmouth and Savannah. This increase was offset by the sale of our Cook Fuel Sales business in Australia that we completed in the third quarter of 2012. In addition, FX was a $300,000 positive impact in the quarter and new operations added about $500,000.

On slide 19, we show our operating ratio for the fourth quarter of 2012 and the same period in 2011. Our adjusted operating ratio in the fourth quarter was 74.6%, consistent with our guidance and 4 percentage points better than last year.

The next four slides provide additional detail on operating results for RailAmerica to allow for comparison to the fourth quarter of 2011. Since we accounted for RailAmerica using the equity method in the fourth quarter, its revenues and expenses were not consolidated into our fourth quarter results.

I’ll start with the revenue bridge for Rail America between the fourth quarter 2011 and 2012 on slide 20. Revenues from Rail America increased 3% in the fourth quarter, primarily due to a $6.7 million increase in freight revenues and $5.9 million from new operations, partially offset by lower revenues from Atlas Construction.

On slide 21 is the same railroad carload comparison by commodity to RailAmerica between the fourth quarter of 2011 and 2012. Same railroad carloads for RailAmerica declined 2300 carloads of 1%. Let me hit some of the highlights. Agricultural products increased 4000 carloads or 12%, primarily due to higher exports of soya bean and soya bean meal from the West coast.

Coal carloads declined 7400 carloads or 18%, primarily due to lower demand from utility customers. Metallic ores and metals traffic decreased 3800 carloads or 22%, primarily due to lower demand and a modal shift from rail to truck at a seal (ph) customers. Other category traffic increased 2500 carloads or 31%, primarily due to the startup of a new crude oil terminal.

Same railroad freight pricing for RailAmerica's on slide 22. Same railroad average revenues per carload for RailAmerica increased 7.7%. Excluding the impact of higher fuel surcharges and a favorable shift in commodity mix, same railroad average revenues per carload increased 4.6%.

On slide 23 is RailAmerica's operating ratio from the fourth quarter of 2012 and 2011. RailAmerica's adjusted operating ratio of 78.9% was in line with our guidance. Before I discuss our guidance for 2013, I should note that we also released our January carloads press release this afternoon. Same railroad carloads from G&W and RailAmerica as a combined company increased 7.1%.

Our traffic benefited from strength in petroleum products from new crude oil shipments, higher metallic ore traffic from our new iron ore service in Australia, as well stronger coal and lumber and forest products. Three points to highlight, first we are providing pro forma 2012 information to allow year over year comparison for the client company; second going forward we will report our traffic in 14 commodity categories where before we reported only 12. Third in moving to 14 categories, a number of carloads from both RailAmerica and G&W have been reclassified from one commodity category to another. In the back of the carloads Press Release is a full year 2012 presentation by quarter of carloads for the pro forma company in the new categories.

Now moving to guidance on slide 24, let me refer you to our earlier Safe Harbor Statement. I've noted that these statements are subject to a variety of factors that could cause actual results to differ materially from our current expectations. These statements represent management's expectations regarding future results as of today, February 12th, 2013, and we do not undertake any obligation to update this information.

For 2013 we expect revenues of approximately $1.625 billion, an operating ratio of around 74%, net interest expense of $70 million and a tax rate around 27%. In 2013 our reported diluted earnings per share are expected to approximately $5.10 and our adjusted diluted earnings per share are expected to be $4.60 with diluted shares outstanding of $56.6 million. Note that for purposes of our expected 2013 tax rate, our guidance excludes the retroactive 2012 short line tax credit that we expect to record as a one item in the first quarter of 2013.

Slide 25 shows the quarterly trend for our guidance. This slide captures the detail and timing of the outlook that Jack previously provided for 2013. Slide 26 contains supporting information from the guidance. We expect approximately $1.9 million carloads in 2013, which is about an 8% increase over the traffic levels from the combined Genesee & Wyoming and RailAmerica in 2012.

Same railroad pricing is expected to be approximately 3% to 4%, excluding the impact of mix currency and fuel surcharges. We expect West Texas Intermediate crude to average $100 per barrel and our diesel fuel expense to be approximately $3.55 per gallon. Our depreciation and amortization is estimated at $140 million and our non-cash equity compensation expense is estimated at $14 million.

With respect to currency, we expect the Canadian dollar to be at parity with the U.S. dollar, the Euro to average a $30 and the Australian dollar to be equal to U.S. $1.03. Please note that a penny change in the Australian dollar exchange rate has about a $4 million annual revenue impact, a $1 million impact on operating income and a about a penny per share.

Before I move to slide 27, let me provide a few more specifics about the first quarter of 2013. We expect total carloads to be approximately $465,000, up about 8% year-over-year on a pro forma basis.

Net interest expense in the first quarter, should be approximately $18 million and we expect D&A in the area of $33 million to $34 million. Our effective tax rate should be around 27% and diluted shares should be $56.5 million

Moving to slide 27, we show our guidance for capital expenditures. CapEx for next year is estimated at approximately $255 million. Our core maintenance spending is approximately $145 million, or about 3% above our estimated D&A.

In addition, we have approximately $20 million in matching grant spend and $70 million of project capital. The project capital includes $11 million for the Arizona Eastern, which is in the second year of a three year track upgrade program and we also have budget of $6 million of locomotive lease buyouts. Finally we have budgeted $73 million of capital for new business development, which is primarily equivalent in Australia, a new rail spur in Canada and a track to support a new crude oil terminal in the United States.

On slide 28, we show our guidance for free cash flows. To start with estimated net income of $288 million, including the impact of the 2012 and 2013 short-line tax credit. To net income, we add D&A, deferred taxes and noncash equity compensation expense.

Excluding the impact of any working capital timing, we expect operating cash flow of $456 million. We expect capital expenditures of $182 million which includes a $20 million of grant matching spend and $17 million of project capital. Our free cash flow before business development capital is $274 million, or about $4.85 per share. After business development capital, our free cash flow is estimated to be approximately $200 million.

I’ll close with slide 29 and a snapshot of our balance sheet. At year end our debt-to-capitalization was approximately 50% and we had $400 million of available capacity under our revolver.

And with that, I’ll open up the call for questions.

Question-and-Answer Session

Operator

(Operator Instructions). The first question is going to be from Anthony Gallo with Wells Fargo. Please go ahead.

Anthony Gallo - Wells Fargo

It looks like you’ve laid a lot of ground work so to speak for operational improvements and organic growth going into 2014. I don’t want to get ahead of myself. I know you’ve got a lot of work in 2013. But, in your experience, what are the two or three areas when you do these large acquisitions where you see the most opportunity for operational improvements and then on the other side of that where have you traditionally seen the challenges?

Jack Hellmann

After providing 75 pages of financial information, I’m talking about 2014. This information relates to the immediate savings that we’re expecting to realize, not from the operations but from the corporate overhead and so from a starting point we’re comfortable with what we said we were going to get in terms of overhead synergies. We’re probably tracking ahead of that right now and certainly hope to beat it but we’ve not yet quantified for the benefit of the market, our expectations for any incremental regional operating synergies.

Anthony Gallo - Wells Fargo

No, I’m not looking for dollar amounts just where the focus the will be?

Jack Hellmann

Well, some of the items that I listed, starting with the rationalization of the locomotive fleet, where we’ve got, as we’ve sit here today we have 6% of 1000 locomotive fleet stored. There will be opportunities there. Centralized purchasing which I highlighted before is a large number in terms of the economies of scale of doubling the size of the company. The attention to detail at the regional operating level, as we put our service design team, parachuting them into the regions to take a look how each of the regional operations are being run, we’ve started already on certain railroads and those are ways you can run things more efficiently, reduce overtime and get your transportation cost down and there is a list of probably 10 things that can be done and on each of the railroads it’s going to be a little bit different.

Operator

Justin Yagerman with Deutsche Bank is next. Please go ahead.

Justin Yagerman - Deutsche Bank

The first question, you talked about new iron ore activity in Australia. I guess I’m just curious if that’s what we have already been talking about with investment and then there has been an MOU that was reported on the tape between you guys and Sherwin Iron which is a speculative iron ore company in the northern territory in Australia. So curious; there has been some numbers put out there, 3 million tons per annum from Roper River to Darwin. Is that something that’s going on and is that incremental to the OneSteel/Peculiar Knob stuff we’ve been talking about or is this new activity the same?

Jack Hellmann

There is three component parts to how you think about the iron ore shipment increases. The first is the actual startup of the new mine, the Peculiar Knob mine that you alluded to that’s just now ramping up. You began to see the ramp up in the fourth quarter, it’s continuing in the first quarter and that’s standard gauge traffic. There is also narrow gauge equipment, when you look at the business development CapEx that was in the free cash flow numbers, a good chunk of that is equipment relating to an expansion of our narrow gauge iron ore business, which is also in South Australia. That will probably be starting in the second quarter, mid to late second quarter and we’ve begun to take delivery of that equipment already.

The third component part of the iron ore, which is not in any of these numbers will be the extent to which we are successful on some of these iron ore projects that we're working on and yes, we realized that there have been several press releases out there from some of these junior minors but we don't comment on those until we've got a signed transaction despite the other stock market announcements elsewhere. So, you can assume that those projects are not ones that we've included in our outlook.

Justin Yagerman - Deutsche Bank

And when you think about those in terms of handicapping, can you give us an idea of how many of those are in there works that could hit in the next let’s say 18 to 24 month time frame?

Jack Hellmann

I don't want to start handicapping it now because I’m going to then have to re-handicap within 30 days. But there are active live projects that could start up this year. It's not necessarily an 18 to 24 month question. You could see us doing something in 2013.

Justin Yagerman - Deutsche Bank

Jack or T.J., RailAmerica did a lot in the non-freight revenue component of their business and they were pretty good at growing that business in, I’m not saying you guys haven't been but I think some of your freight operations and your growth has overshined that a little bit. Can you talk a little bit about the breakdown in non-freight revenues in terms of how much is maintenance, how much is switching, how much is car storage right now and how you see that growing and what kind of margin you see on the different types of businesses as you go forward?

Jack Hellmann

There is really only one area where you would differentiate, where we think we can do better and that's in a real estate area and that's why we’ve kept the in house real estate department. We've had a decentralized structure with respect to the management of the easements. RailAmerica had a centralized team with respect to management of the easements and we think that there's a reverse synergy there where we could be doing better in that specific area. Beyond that, I wouldn't call out any kind of differentiation or focus, but obviously if you do well on easements, the margins on that are very close to a 100%.

Justin Yagerman - Deutsche Bank

And then just last one, T.J., I guess I will follow up with you offline maybe for the breakdown on the non-freight revenue, Jack acquisitions, in 2013 you left the door open in your prepared remarks for doing stuff. When you think about your priority list, how does that breakdown, when you think about geography, size, what would you’d be willing to swallow in this type of environment?

Jack Hellman

We were not wed to any; we obviously preferred to do acquisitions or investments. We continue to be very active on various natural resource projects, such as the one that we announced last year with building the new rails for Tata Steel, which again you'll see that in our growth CapEx in the free cash flow guidance that T.J. gave.

We're looking at other projects like that. So it's not just traditional M&A. There's other ways we can deploy capital to earn good returns that are comparable to our M&A transactions but we look in every geography that we have a footprint today, is, I would say is fair game and I wouldn't handicap them at all.

But we look at things big and small and obviously our priority right now is making sure that the RailAmerica integration takes place according to our plan. We're obviously well on our way and comfortable that we're going to have some of the heavy lifting done by the end of the second quarter and because we've deleveraged far more rapidly, than one would have ever expected, it leaves the door open to very carefully consider some opportunity this year.

Operator

And the next question is from Christian Wetherbee with Citi. Please go ahead.

Steph Lowry - Citi

This is Steph Lowry in for Chris. If I could start off, in your core GWI business, your posting some pretty solid growth in the forest product category, and I'm wondering if that's a result of a significant customer win or is that more a function of spread out organic growth throughout the network.

T.J. Gallagher

That's more organic growth throughout the network and remember that that's also a pretty low base. We had probably five years of year-over-year decrease in forest products and a lot of areas that were hard hit by the housing downturn but as housing's been improving, so have our forest products.

Jack Hellman

What's been interesting about it is that it's been largely on the West Coast of the United States, in terms of where the uptick in lumber and forest products has been coming from. We haven't yet seen it in the Southeastern United States where we actually serve, we've got a pretty big customer base there as well and we've got several shuttered plants that we always are wondering when they are eventually going to come online, we haven’t seen it yet but we are getting that growth, I couldn’t tell you with absolute precision but I would tell you that most of that 20% that T.J. talked about in car loadings numbers was coming of the West Coast and its improving but it’s still at extraordinarily low levels. If and when it eventually takes a step upwards, we’d expect it to not just help us in the Pacific Northwest but also in the Southeast United States.

Steph Lowry - Citi

So if I guess the rest of country kind of catches up of those West Coast growth rates, do you have a sense of what that growth rate could be?

Jack Hellman

We haven’t try to quantify that yet. We are just hopping that it eventually calms but keep in mind it’s not actually that the housing starts by geography are that much different. I think if you looked, I am not sure with the precise area on the southeast but they are high double digits, but for some reason, the product is being sourced from probably some more efficient mills out west rather than local mills but I couldn’t tell you precisely that reason.

Operator

Allison Landry with Credit Suisse is going to be next. Please go ahead.

Allison Landry - Credit Suisse

Just following up on the iron ore discussion from earlier, how should we think about the progression of the OR in Australia this year, specifically as it relates to the second phase of the REM (ph) contract. Will we see additional cost here or can you leverage the headcount and facilities that you have in place for the first contract?

Jack Hellman

I think you asked us that question 12 months ago and we told you we thought we thought we get to a 70% operating ratio by yearend. So we came very close. I would say that the continuation of that is probably into the high 60s by yearend than Australia benefiting from that leverage.

Allison Landry - Credit Suisse

Okay and has there been any progress made in terms of exploring the Hawk's Nest mine?

Jack Hellman

Nothing that’s been discussed publically but yes, there are plenty of deposits in that geography.

Allison Landry - Credit Suisse

Right and then may be shifting gears a little bit; you guys have announced a few deals in terms of increased or commercial development within the share related market. So I was just wondering if there was any other industry verticals or end markets where you think you might be able to generate some new business as a result of the RailAmerica merger?

Jack Hellman

There are several areas. I would say the most interesting one I’ll speak to is the one that’s becoming a reality and you can see it in the January car loadings numbers that T.J. alluded to and we realized we just flooded a lot of information and so it’s going to take some time to still up. But if you look at the petroleum products, we have been doing a lot of crude by rail to both Florida and to the Pacific North West and we have many projects, I shouldn’t say many, we have several projects of a similar nature and a combination of former RailAmerica roads and G&W roads where we’re seeking to develop destination crude terminals.

And so, in term of sort of near term fast evolving markets, that’s certainly been an interesting one that’s affected us materially within the last three months, I would say and it’s tangible in those January car loadings, you can see it coming through.

So, that’s a very interesting one. Of course the shale, we sit on top of the Utica shale later this year. We’ll be starting a major new customer. In these numbers we’ve got startup cost in our Ohio region leading to the startup of that plant which is under signed contract and that there is a tenant fracing sand and other out bond products as well. So, those are couple areas of interest in the near term.

There is a whole list; the Wooden Pellets is an interesting area where we’ve got multiple projects on multiple roads. That’s mostly in the Southeastern United States and so there is multiple, we just have a lot of touch points now and the probability of some of these new plants locating on of our lines is just that much higher.

Operator

Tom Wadewitz with JPMorgan is next. Please go ahead.

Tom Wadewitz - JPMorgan

On 8% volume growth, you’re looking at, is that same store number or is there some element that’s not same store within that?

T.J. Gallagher

That is gross, so that’s inclusive of acquisitions. The acquisition contributions are relatively small and they get large fairly early in the year. So basically same railroad growth.

Jack Hellmann

It’s same railroad pro forma for the RailAmerica acquisition.

Tom Wadewitz - JPMorgan

So that’s a pretty strong number versus what you’ve seen for same railroad for both RailAmerica and Genesee in the last couple of years. I was wondering if you could drilldown into that a bit. Obviously you’re going to see the iron ore business in Australia probably is a big factor but maybe what are the volumes growth assumptions in North America and then volume growth in Australia to start with?

Jack Hellmann

I think the way to split it that’s what I tried allude to when I split that revenue number between 55%/45%. 45% of that same railroad growth is coming out of Australia and the other 55% is coming out of North America. From the combined G&W RailAmerica properties.

T.J. Gallagher

But we’re seeing a lot of growth in things like energy area. So the crude by rail destination terminals we own, we have got natural gas liquids origination later this year. The lumber market continues to strengthen and improve. Minerals & Stone are solid traffic. We have to improve with a more normal winter this year so far than we had last year. Coal’s stabled. So most commodity groups are in pretty shape, plus the new projects, the new business development.

Tom Wadewitz - JPMorgan

Okay so and when you talked about revenue, you said 7% North America, 20% Australia, that the revenue per car going to be 3% or 4% for both of those, so that we could translate that to you now 3% unit growth in North American and something like 15% - 16% in Australia. Is that another way to look at it in terms of volume?

T.J. Gallagher

The Australia revenue again, those are long term contracts with set rates and a fixed variable structure. So look at the fourth quarter and that’s more like what it’s going to be for 2013 plus some inflation in fuel pass through. Within North America, the 3% to 4% just means that there is no real change to the “inflation” plus pricing environment for rail. What we actually will have is going to be quietly different again due to the change in mix among commodities, currency for example, fuel and/or within the commodities depending on changes and customers.

Jack Hellmann

Tom, as you try and orient yourself to we’re effectively presenting a new company for the first time. So in terms of the orientation for me, one of the helpful ways to do it, if you look in our car loadings release at the exhibit, you’ll see a segment reporting between North America and Australia and including the same railroad carload numbers.

So for North America I think it’s fairly, you will see by commodity what's going on there and that will show you organic same railroad growth of about 5% in January. Australia however, I would discount the growth rates and focus on the absolute numbers because remember the Edith River Bridge was down in the first quarter last quarter of last year. So it’s not a relevant comparison because we were holding back some traffic, rerouting other traffic but if you look at the absolute carload numbers, you can get a feel for Australia but I would say that's the best way to orient yourself by commodity.

Tom Wadewitz - JPMorgan

And then one last one. On the coal side what type of coal assumptions do you have within that 2013 guidance? Are you assuming that coal is kind of flat at the current levels and does that imply that you might some year-over-year volume growth in coal or how would you think about coal?

T.J. Gallagher

Really flat, stable not a lot of growth and then there's a lot of timing issues because we had, last year if you recall, we had plants down in the first part of the year. Right now we've got another plant down. We have lots of timing as companies delay purchases in the first quarter and push in the second. But net-net year-over-year pretty flat.

Operator

And William Greene with Morgan Stanley is next. Please go ahead.

William Greene - Morgan Stanley

Jack, I had just a couple of clarification questions for you. The first is you made a comment earlier in the Q&A about doubling the size of the company. I don't know if you had a time horizon for that, if you were thinking about that; if that was just sort of a generic throw away comment?

Jack Hellmann

What I meant was we just doubled the size of our North American business by virtue of RailAmerica.

William Greene - Morgan Stanley

So that was a look back. Okay I thought you were saying you thought we could still double the size.

Jack Hellmann

That's a separate conversation we can have later but, no…..

William Greene - Morgan Stanley

Exactly; well that would be the second question.

Jack Hellmann

I was referring of the doubling of our North American business in effect.

William Greene - Morgan Stanley

Okay, so then as I sort of think about and this comes up a lot when you speak with investors, just looking at the opportunity set left in North America, sometimes there's this few, they just did the big transaction, there's not a lot left to do but as I think about it, you only have like 20% or so of the industry. So it would seem that there's still a lot left to go but as you look at that opportunity set, is it as big as that suggests or do we start to get to such small companies that well, actually the really opportunity set is maybe you have half of the addressable market. How do we think about what's really left in North America?

Jack Hellmann

Well first of all I've received that comment for 13 years now and I've given the same answer for the last 13 years and that is there continues to be very attractive addressable market for acquisitions domestically. There is a very attractive market internationally and we now have in addition to those opportunities, remember we've expanded that population set from just simply acquisitions to major equipment investments that are de facto acquisitions that enable us to deploy capital in the same ways in acquisition and married to that now, we believe by the breadth of our new footprint that we also have an organic growth profile that has been enhanced and we view our job as delivering long term earnings growth of 15% of 20% and we believe that that's as achievable today as it has been for the last 13 years.

William Greene - Morgan Stanley

Okay, so that then leads to a follow up which is, I think in the past you've talked about a $150 million or so of capital you need to deploy to sustain that growth rate approximately. Is that number, does that have to be bigger because the CapEx numbers we talked about today didn't suggest that?

Jack Hellmann

In terms of thinking about components of growth and the necessary contribution of acquisitions as part of that growth rate, if you're investing on average $200 million a year on average in addition to your organic growth rate, you should be able to sustain the 15% to 20% that I said before.

So by definition when you've increased your share count proportionally by whatever it was, 25% - 30%, the number that you're alluding to needs to increase by the same amount mathematically to sustain the same growth rate. It's only an incremental $60 million from what it was, which in the grand scheme of the population set of things that we look at is not particularly….

William Greene - Morgan Stanley

Pretty small. Yes, okay so just a couple of cash flow questions then. So first did I understand you correctly when you said engineering won't be a key part of the business? In other words you could sell Atlas and monetize that or did I misunderstand what you were trying to get at there.

Jack Hellmann

No we talked about the centralized role. We now have a Chief Engineer, Track Engineer, former Senior Vice President from RailAmerica that now oversees our national footprint. We still have regional track heads but we now have another individual that oversees the big picture.

William Greene - Morgan Stanley

Okay so Atlas would remain sort of a core part of what you’re doing?

Jack Hellmann

Yes, we currently intend to continue with the status quo with Atlas. That’s correct.

William Greene - Morgan Stanley

Okay and then on the 45G tax credits, why would the tax credit be smaller in the year after the transaction? I would think you could get more given your larger size?

Jack Hellmann

That is a great question. And I’ll let T.J. answer that.

T.J. Gallagher

2013, I think, that of that as a normal year and you simply add up RailAmerica’s track miles, our track miles together, you multiply that times the limitation in the legislation and it turns out that there is $25 million worth of tax credits. So why is 2012 bigger? So, in 2012, there are two things going on. First of all, we acquired RailAmerica on October 1 and that’s when they became part of our consolidated tax group.

We’re going to file a tax return for the first nine months and they are going to get 45G credits for their nine months, for their track miles, given the amount of money that they spend, the investment in track. That’s calculation number one.

Calculation number two is that for G&W’s railroads, for the full 12 months we get the credit plus we’ll get credit for the RailAmerica railroads for the amount of spending that we completed in the fourth quarter. So it’s two separate calculations and when you add them together, given the total amount of investment we made in our track, it yields a higher number.

Jack Hellmann

So what is that mean from a NAT (ph) standpoint? That means we were proportionally spending more on our track on the G&W side and we’re now getting to apply that credit across the increased miles for one quarter.

William Greene - Morgan Stanley

Last question, Carlyle, and doing this transaction now that you have just done, does that mean that they are sort of free to sell if they wish? Like what are the implications and even the cash flow implication as you covert this? Do we have to think through that aspect of it too? Thanks

Jack Hellmann

The cash flow implication is a positive one and that we’ll save $17.5 million per year of cash dividend.

William Greene - Morgan Stanley

So it just to convert. You don’t have to pay anything for it?

Jack Hellmann

No. It’s just converted. It was already in our diluted share count. So from your diluted share calculation there will be no change from what you were doing previously. It’s just that our cash flows were enhanced by that $17.5 million and they will have the right and whatever timeframe, they will have registration rights and they will have the ability to sale the shares when they see fit.

Operator

We have question from Scott Group, Wolfe Research Inc. Please go ahead.

Scott Group - Wolfe Research Inc.

Just want to follow up on those last couple of questions on cash flow. First, can you give us just an update on the RailAmerica NOLs and how much of that you’re able to use this year and how we should think about that going forward? And then Jack, your comment about spending a higher proportion of CapEx in RailAmerica, is that an implication that that they were under spending on capital and that needs to get ramped up at some point?

Jack Hellmann

No that has to do with the timing of when both capital and maintenance spending was taking place on the track and the fact that they have more miles. It more has to with seasonality and what they were spending versus there being any inherent problem. With the NOLs I’ll turn that over to T.J., because I can assure there is not a simple answer to that.

T.J. Gallagher

The simple answer is our booked tax rate that I provided in our guidance of 27%, which reflects the 2013 tax credits, on top of that we’re taking the 2012 short-line tax credit in 2013 and even with that we’re still showing, if you saw in my free cash flow guidance, $14 million of deferred taxes, which means that even with all those credits, we’re still going to be paying less cash tax in our booked tax rate. So, why are we able to do that and that’s because we are going to be able to use some of that NOL in this first year.

Scott Group - Wolfe Research Inc.

Can you give us an update on total number of NOLs or I can get that offline if you don’t have that?

T.J. Gallagher

Yes.

Scott Group - Wolfe Research Inc.

In terms of its guidance and lot of numbers we just got, I’m not sure this is spot on but it looks like Australia, the Genesee core business as operating income growth of about 20% and RailAmerica closer to 10% or 11% and so that’s kind of the exact opposite of what we saw in 2012 and can you help us think about is that just Australia growing so much faster and that’s Genesee as the comps are easier or is there some of the underlining improvement we’ve seen at RailAmerica, is that starting to slow?

Jack Hellmann

The way I think about it is, the answer first of all is yes, Australia is growing faster because we just deployed over $100 million of capital and it better be growing faster because we need to earn a return on that capital and so you’re seeing half of our, as I said before, you’re getting the aggregate increase, 45% of it’s coming from that.

And that if you look at the RailAmerica plus G&W piece, I would say that they’re growing at similar rates organically within North America and so that conclusion you’re reaching is just based on because embedded in $210 million of EBITDA is a good organic growth rate from RailAmerica on slide 9 and I would say it’s not materially different than the North American growth rate from G&W.

Scott Group - Wolfe Research Inc.

Okay that’s helpful Jack. In terms of safety in the first slide, is there anything structurally different about RailAmerica, why it can’t get to that safety performance that Genesee has and what are the implications from an operating ratio perspective of getting RailAmerica to where Genesee has been?

Jack Hellmann

The challenge is merely cultural and everybody signed up for it, in the new company. We’re all in it together and we’re going to do it together and it’s going to take some time and we do it because it’s the right thing to do and it helps unify the culture of the company and yes, so there will be some impact on casualties expense and that’s obviously a positive thing as well, but I couldn’t quantify that right now.

Scott Group - Wolfe Research Inc.

Oka and then last thing, we saw an announcement today from Canadian National about some iron ore projects in Labrador that maybe aren’t going to happen for them. I’m just wondering what the potential implications for you are, either good or bad?

Jack Hellmann

Well, we’ve got a good franchise with a very good reputation in that geography and we expect to continue to develop it and the fact that there is not another rail line being built nearby there not necessarily a bad thing for us.

Scott Group - Wolfe Research Inc.

No specific impact on Tata deal? That’s completely separate.

Jack Hellmann

Yes. Everything that we handle right now is completely separate.

Operator

We have question from Jason Seidl at Dahlman Rose. Please go ahead.

Jason Seidl - Dahlman Rose

T.J., if I can go back to slide 17, when you talked about your arc and you said it was 9.6%, but there you said, length of haul issues within that 9.6%, sort of the intra-community mix that was going on. Can you sort of give us cleaner number to sort of pricing and where you guys were at because 9.6% is a pretty big number there?

T.J. Gallagher

Again and that was heavily influenced by Australia iron ore and Australia grain, as well as the overhead coal. So our full year pricing, if you strip out the commodity mix was consistent with our original expectation which is around 4%. So what we got all year and what we're going to get next year is going to be consistent with what the Class 1s are getting.

Jason Seidl - Dahlman Rose

Okay and Jack, as I talked to investors about RailAmerica, obviously people been excited about the deal. The big question that comes up is what about any potential revenue synergies and I notice that you have beefed up your industrial development team. Is that where we’re going to get some of the revenue synergies between the group or is there going to be stuff sort of beyond that we can could look for?

Jack Hellmann

That industrial development and the increased visibility that we have to the National Rail network overall and our capacity to go to customers and talk to them about origins and destinations is where it’s going to come from and we have not, we have neither quantified nor did we value those synergies in the acquisition, although we did some sensitivities to if we get this much more, here is what the implications are for our value. So we have a significantly beefed up commercial department with some very aggressive growth expectations set up for it and we think we're going to be able to elevate our organic growth rate overtime.

Just one major industrial project is meaningful for a company of our size and we've got a pretty substantial pipeline of them, between the two companies. And so all that does by being bigger is it increases your probability of success because we can provide potential customers with the people who are stating new plans with multiple geographic options.

Jason Seidl - Dahlman Rose

And Jack how much of those potential wins or growth is in your current guidance for ‘13?

Jack Hellmann

Zero. It has to be a done deal before we'll talk about it.

Jason Seidl - Dahlman Rose

Okay that's what I thought. Jack real quickly, what's been the reaction from the Class 1, the deals announced, have you seen any change in tone and how they're dealing with you guys at all or is it really business as usual?

Jack Hellmann

No, business Is usual we had long standing positive relationships with each of the Class 1 railroads and we just have more touch points now and more things to work on together and if we succeed, they succeed in terms of getting traffic out onto the network and so its business is usual, although we have more contact points now. So we probably have more conversations now than we did previously.

Operator

Question with Justin Long of Stephens. Please go ahead.

Justin Long - Stephens

I know the operational synergies from RailAmerica aren't in the guidance but what's the right way to think about the potential operational benefits like centralized purchasing and some of the other things that you mentioned starting to kick in. Is it more reasonable to think that the timeline for those types of synergies are 12 plus months away or is there a potential to see some of those benefits earlier than that.

Jack Hellmann

You'll probably hear us talking about it within six to 12 months I would think.

T.J. Gallagher

Yes, some of the purchasing synergies we're going to try to realize on this year's capital plan by getting, we have now placed the purchasing power for ties and rail and other track material and so that's going to show up as reduced CapEx, or lower CapEx rather than hard earnings, but we're going out for bid on our fuel purchases which is significant. It'll play out more in the back half of the year into next year than the first six months.

Justin Long - Stephens

That makes sense. And as you get into the integration process are there certain RailAmerica properties that you could potentially look to divest, maybe in an effort to go after another M&A target? I know that's very hot market, especially here domestically that could be a better fit for the network?

T.J. Gallagher

Our philosophy going into the transaction was, we weren't acquiring a single corporate entity. We bought 45 railroads, each of which we valued on their intrinsic cash flow merits and therefore we're holding each of them on our books at the value that we think is, which is fair value and so on that basis alone, our expectation is always going to be just to hold them. But obviously we have, if somebody thinks they’re worth more than we do, we have a fiduciary obligation to have that conversation and so again going into it our expectations are to hold but if something looks very valuable to somebody, we'll certainly have the conversation.

Justin Long - Stephens

Got you and maybe my last question, which is probably more for T.J., but you mentioned the goal of getting leverage well below three times by the end of this year. Could you talk about the magnitude of debt pay down that's associated with that?

T.J. Gallagher

It's more driven by EBITDA growth than debt pay down. If you think about the debt pay down, look at our free cash flow. So there's $200 million. Apply that, plus the math working through the increased EBITDA and the two together through our bank covenant calculation yields something just south of three times.

Operator

You have a question from Ken Hoexter with Bank of America. Please go ahead.

Ken Hoexter - Bank of America

On the 74% operating target for 2013, I just want to understand, are you targeting additional synergies within that, because it sounds like sometimes you are saying that only what’s in print are expected. So is that just the original $35 million or $36 million or there is anything else in there?

Jack Hellmann

That is the annualized portion of the, that’s the $27 million that we expect, we’re actually going to realize over the course of the year. You’ll see the run rate on 36 in the third quarter.

Ken Hoexter - Bank of America

Okay and then with respect to the Tata contract, is that still on target for the mid-year 4 million ton ramp up or any other updates on the progress in the build?

Jack Hellmann

No, we continue to go through the permitting process but there has been no change in our plan to start that up. That voice that reads the disclaimers is also our head of M&A here in the office and is working on that project. That was Matt Walsh.

Ken Hoexter - Bank of America

So just to wrap that up, you are going through the perming process, so you are still on target ramp up by mid-year?

Jack Hellmann

That’s right, yes. Ken, that’s why we put in capital budget, because that’s still our expectation.

Ken Hoexter - Bank of America

Yes okay and then through the merger process, you decreased from 10 regions to nine. Can you maybe delve into what made the shift and the potential to increase or adjust that even further as you look at operational savings and maybe just kind of walk around a little bit about the synergies around that?

Jack Hellmann

Basically, we got into increasing our knowledge of the railroads in the optimal way to manage them and we decided we simply didn’t need the incremental overhead in order to manage the businesses effectively. We had the right people down at the local railroads, general manager levels, running them and we felt that the regional infrastructure could reside in one fewer location. So your questions, what were the savings going to be from that, the answer is $3.5 million to $4 million and so if you are thinking about synergy number of $36 million, we probably have that degree of cushion in our number in terms of where we think we will end up in the short term.

Operator

Mr. Gallagher, there are no further questions in queue. Please continue.

T.J. Gallagher

With no further questions, this concludes our fourth quarter 2012 earnings call. Thank you very much for joining us.

Operator

Ladies and gentlemen, this conference will be available for reply after 6:30 pm Eastern Time today through mid-night Eastern Time on March 12. You may access the AT&T Executive Replay Service at any time by dialing 1-800-475-6701 and entering access code 277581. International participants dial 320-365-3844. Those numbers again are 1-800-475-6701 and 320-365-3844, access code 277581. That does conclude our conference for today. You may now disconnect.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: Genesee & Wyoming CEO discusses Q4 2012 Results - Earnings Call Transcript
This Transcript
All Transcripts