Canadian Pacific Railway Limited Management Discusses Q1 2013 Results - Earnings Call Transcript

Apr.24.13 | About: Canadian Pacific (CP)

Canadian Pacific Railway Limited (NYSE:CP)

Q1 2013 Earnings Call

April 24, 2013 11:00 am ET

Executives

Nadeem Velani

E. Hunter Harrison - Chief Executive Officer, Director and Member of Safety, Operations & Environment Committee

Keith E. Creel - President and Chief Operating Officer

Jane A. O’Hagan - Chief Marketing Officer and Executive Vice President

Brian W. Grassby - Chief Financial Officer, Senior Vice President and Treasurer

Analysts

Ken Hoexter - BofA Merrill Lynch, Research Division

Thomas R. Wadewitz - JP Morgan Chase & Co, Research Division

Jacob Bout - CIBC World Markets Inc., Research Division

Fadi Chamoun - BMO Capital Markets Canada

Christian Wetherbee - Citigroup Inc, Research Division

William J. Greene - Morgan Stanley, Research Division

Steven P. Hansen - Raymond James Ltd., Research Division

Scott H. Group - Wolfe Trahan & Co.

Christopher J. Ceraso - Crédit Suisse AG, Research Division

Jason H. Seidl - Cowen Securities LLC, Research Division

Cherilyn Radbourne - TD Securities Equity Research

Walter Spracklin - RBC Capital Markets, LLC, Research Division

Brandon R. Oglenski - Barclays Capital, Research Division

Keith Schoonmaker - Morningstar Inc., Research Division

Benoit Poirier - Desjardins Securities Inc., Research Division

Jeffrey A. Kauffman - Sterne Agee & Leach Inc., Research Division

Steven I. Paget - FirstEnergy Capital Corp., Research Division

David Tyerman - Canaccord Genuity, Research Division

Turan Quettawala - Scotiabank Global Banking and Markets, Research Division

Operator

Good morning, my name is Jonathan, and I will be your conference operator today. At this time, I would like to welcome everyone to the Canadian Pacific's First Quarter 2013 Conference Call. [Operator Instructions] Mr. Velani, you may begin your conference.

Nadeem Velani

Thank you, Jonathan. Good morning, and thanks for joining us. My name is Nadeem Velani, AVP of Investor Relations at Canadian Pacific. I'm proud to have with me here today Hunter Harrison, our Chief Executive Officer, Keith Creel, President and Chief Operating Officer; Jane O'Hagan, Executive Vice President and Chief Marketing Officer; and Brian Grassby, our Senior Vice President and Chief Financial Officer.

The slides accompanying today's call are available on our website at www.cpr.ca.

I would like to remind you that this presentation contains forward-looking information. Actual results may differ materially. The risks, uncertainties and other factors that could influence actual results are described on Slide 2 in the press release and in the MD&A filed with the Canadian and U.S. securities regulators.

Please read carefully that these assumptions could change throughout the year. All dollars quoted in the presentation are Canadian unless otherwise stated. This presentation also contains non-GAAP measures outlined on Slide 3.

The presentation will be followed by Q&A. In fairness and courtesy to all participants, we would appreciate if you limited your questions to 2. It is now my pleasure to introduce our CEO, Mr. Hunter Harrison.

E. Hunter Harrison

Thank you, Nadeem, and good morning to everyone. It's a beautiful sun shiny day in downtown Calgary, certainly in more ways than one. I trust you've read our press release, and I'm proud to be part of this team here reporting this morning, a record earnings for first quarter performance and that's something that was achieved in some tough operating conditions with the seasonality factor. And I think it gives some indication of the potential of this organization going forward.

And then, I'll just highlight a couple of points here before I turn it over to the people that are really going take you through the quarter. First of all, we saw 430-basis-point improvement in the OR and a 51% improvement in earnings year-over-year, which is pretty outstanding. One thing of note, probably the -- by far, the most important thing that took place and happened the first quarter since key personnel changes. And the first one is the announcement and the appointment of Keith Creel to -- as President and Chief Operating Officer, which answers a lot of questions that were out in the market that people are wondering about succession plan. And Keith is recognized and -- as one of the top operating minds in North America. I've effectively worked -- most of all of his career, I've been along with him. I've seen his progress. And he has hit the ground running here. He's already had significant impact on the operation, but the most encouraging thing is what he's got to bring is kind of basically you haven't seen anything yet.

So welcome, Keith, nice to have you. And I should also bring to your attention also that Nadeem, who introduced us this morning is our -- a new addition about 3 weeks or so. Nadeem is our new Vice President of Investor Relations. And we're nice -- it's nice to have Nadeem along. So we've made some real significant personnel changes. Keith has brought on, and he will probably talk about it, a new general manager in the east and new superintendent in Toronto. So the team is coming together pretty well. And I think what this does more significantly is if you look back 1 year ago, a lot of you on this call said this couldn't happen, that we couldn't have this type of performance, we couldn't have it over this quick of time frame. And I think that most important thing it does is lays a solid foundation for what's to come in the future.

And so with that, let me turn it over to Keith, and then Brian and Jane will add some additional color, and then we'll have Q&A.

Keith E. Creel

Okay. Thank you, Hunter. Well, then let me start. I think it's only appropriate to publicly start my first call with CP, by thanking you, Hunter, thanking our board, and also the colleagues here at CP for giving me opportunity to be part of this exciting transformational journey that we're on at CP. And I'm approaching 3 months on the job, and I can tell those on the call, as well as my colleagues here, I'm having a blast.

I came here to CP knowing that, for certain expectations are pretty high. The challenges are going to be many, but at the same time, what I didn't understand, what I didn't begin to manage is how well I'd be received by this team, by our team of proud railroaders, and that's both officers and crafts alike. They're embracing change at this company, not resisting it, which is motivating in the start. The team of proud railroaders have tasted some success and they're hungry for more. It's a team of railroaders that are energized, they're seized with the goal of becoming the best railroader in North America, both from a service and an operational efficiency standpoint. And I'm pleased to help lead -- to help us enable that opportunity.

So with that said, and in spite, like you said, Hunter, of a very challenging winter. It's only befitting that our team closed out a record-breaking first quarter operating performance at CP in our history.

So let's spend a few moments, I'll provide some key points in what contributed to that success. Again, there's no secret formulas here. There's no special plays. It's a focus by our collective team and a key ingredient to railroad success that we call asset utilization. It's the theory that you can move more freight with the right-sized fleet as opposed to the traditional. It takes more to move more mindset, which is gaining traction within this company and with our customers by sweating our assets, keeping the pipeline fluid rather than clogged up with more cars and locomotives than it can actually sustain.

This mindset and approach has allowed us to move record grain volumes in Vancouver in the first quarter. In fact, about 13% more this year versus last with about 10% fewer cars, which is even more impressive when you think again about the mild operating conditions that we enjoyed last year versus what we've just experienced this year. It's good for our customers. It's good for the ports, and it's good for Canada's reputation as a reliable supply source worldwide for grain. We experienced similar success on the coal side, moving 12% more export coal to the Western Coast than 2012, using our standardized 152-car coal sets, which we turned consistently mine to port.

As I noted in the presentation, the focus on turning assets not only provided a vast improved service to our customers, but also allowed us to improve locomotive utilization in a meaningful way, as well as it drove car velocity numbers among many others to record levels. In spite of the challenges winter presents, we're able to drive year-over-year record-setting improvements in the majority of our key operating metrics and then create a momentum that we've carried into a strong start to our second quarter.

Let me shift my comments to the most important ingredient to our success here at CP, which is our people, our team of railroaders, craft and officers again alike. I'm focused on building a strong team not only to sustain but to accelerate this journey to become the best North American railroad in the industry. Having inherited a pretty talented committed team of railroaders that are eager to learn. They're embracing changes, I've said before, but at the same time, I'm building the bench strength as well by bringing on some new members to the team -- CP team, which I've mentioned, the General Manager, Operations in Eastern Canada, Guy Seguin. We got a new Superintendent in Eastern Canada, Jason Ross. And also, new general manager of our U.S. dispatching center at St. Paul, again, a couple of weeks ago, Mike Carroll [ph].

And looking ahead, I'm kind of excited about the progress we've made so far in the service and operating front. So I'm even more energized knowing, to your point, that we're just getting started. Many more opportunities to convert. In fact, our upcoming, as I've noted on the presentation, the white board session, which for those of you that don't know what I'm talking about, effectively, it's a roll-your-sleeves-up marathon session where Hunter and I will go in with the operating team. We'll effectively schedule every car, every train across the network, 2 or 3 sessions to get this thing done, but once we get that done, we'll be able to take another step in improving both our service performance as well as controlling cost for our shareholders.

So with that said, I'm sure you can sense my enthusiasm. I'll keep my comments brief, but let me publicly state in closing -- in reaffirming the commitment that I made to Jane about 3 months ago when I started this company, and that's -- it's my #1 objective to produce a vastly improved service offering from both our existing and our future customers that she nor any member of her team has to ever apologize for in the future. Well, this can create value for our customers and for our franchise. Jane, this first quarter was a pretty significant step in that direction. Over to you to provide some color on how our team is converting it in the market place.

Jane A. O’Hagan

Thank you, Keith. Again, we're very pleased to report the best Q1 revenue performance ever for CP and our seventh consecutive quarter of double-digit revenue growth in merchandise. I can tell you our team is in the market. We're visible. We're delivering on our growth plans, and we're benefiting from the strong operating performance by a team who managed winter well. And with that, I want to turn to our revenue results.

We reported a solid revenue gain of 9% on currency adjusted basis where price, volume and mix accounted for 8% of the gain and fuel surcharge was 1%. Our RTM growth was 10% and carload growth was flat, driven by significant increase in volume of long-haul crude oil traffic and potash export. Just to let you know, we will begin reporting total RTMs weekly beginning in May.

Our average revenue per car was up 8% and we delivered our price renewal target of 3% to 4% and expect to deliver inflation plus pricing through 2013. In grain, as Keith said, we had our biggest Vancouver export program ever. We moved more grain than last year with fewer assets and we moved over 20% more than the previous 3- and 5-year crop averages. We also adjusted to a reduced Canadian Eastern export program brought about by changes in the CWB. And we remain nimble to increase Eastern-bound corn and U.S. soybean traffic. So with our improved strong service, improved asset utilization and good crop carryover in our territory. We expect year-over-year Q2 volume increases in the double digits for our grain franchise. Again, it's too early to call the next crop year, but we'll keep you informed as we move along.

In terms of sulfur and fertilizers, the Canpotex export recovery ramped up much faster and stronger than we expected, but our team worked hard to ensure the supply chain geared up efficiently to handle traffic as it came on. The higher volumes of export potash moving in private cars kept average revenue per car gains at a moderate level and decreased overall cents per RTM. But as we look out to Q2, the ramp-up of Canpotex volume signals the potential for a strong year, but second half upside remains uncertain, with seasonal and market volatility. Our near-term focus is taking full advantage of strong, ratable volumes throughout the balance of the first half.

In coal, our revenue was up 9% and units were up 4% from strong met coal, supply chain management and overall performance. As Keith said, all our export trains are operating at 152, allowing us to move the same volume with an 18% reduction in train starts.

For the outlook, we model to Teck's forecast and we're watching global markets carefully for certain signs of volatility. PRB traffic continues to be opportunistic and we're ready to capitalize for that to continue. And in Q2, Teck's volume unit growth could be offset by softness in the U.S. thermal domestic and export traffic, resulting in total coal volumes being flat year-over-year.

In Intermodal, I'm pleased with the progress of our rebalancing and renewal as this continues, and our progress is consistent with our expectations. The Q1 results reflect revenue and unit impacts of international contracts we let go, purposeful decisions we make to exit select lower profit and lower growth markets while focusing on improvement on the quality of our books. We're very pleased with the progress we're making. We're growing in the right lanes, with the right customers, aligned with our service capabilities and taking advantage of our service improvements by growing where we create competitive advantage, price for value and improve the operating income of the book. In terms of the outlook, performance reflects focus on sustained, profitable growth by creating value to service improvement and disciplined pricing. But the service offerings made in 2012 and the ongoing housecleaning will continue for Q2 2013 units flat versus Q2 2012.

In merchandise, the strong growth story continues. Our RTMs were up 28% versus a carload growth of 3%. Again, strong gains made in long-haul crude oil. I will remind you that the mix changes increased average revenue car -- per car, 12%, and decreased cents per ton mile, 10%. As I've told you, we expect this to continue as crude forms a larger part of our book. And of course, a lot of the growth was driven by crude oil.

RTMs in this segment were up 36% on gains in long-haul crude oil volume. This growth momentum continues as loading network expands, our destination network diversifies and shippers commit to the crude-by-rail model. We have clear line of sight to 2x to 3x previously mentioned 70,000 carload run rate, and we believe that 2x target run rate can be likely reached 12 months earlier than our original 2016 prediction.

Frac sand shipments from new mines are ramping up in Q1 and other industrial products will trend with GDP growth. So overall for Q2, we expect another quarter of double-digit growth. In the autos, revenues were down 8% and carloads were down 17% due to much of the decline being major customer downtime for a major new model conversion. But again, we will benefit as the new model volumes grow. We exited some low-margin, short-haul markets to improve the book, but we expect that the recovery of the Q1 short haul over the remainder of the year and the delayed model and start up and the book improvement will temper the recovery of growth in Q2.

So in terms of summary, our strategic initiatives are delivering value and growth. We're pressing harder and faster on our work to strengthen our book of business. So there's multiple opportunities for growth across the franchise, with crude oil remaining the strongest opportunity. And I reiterate my expectation of high single-digit revenue growth for 2013.

And with that, I'll turn it over to Brian.

Brian W. Grassby

Thanks, Jane and good morning, everyone. I do not use superlatives very often, but I have to say this company, and more specifically, the operations group, did an outstanding job this quarter and our record results show it. The operations team continued to drive efficiency while improving service and dealing with a harsher winter, a job well done.

So let me get into the numbers. As Jane mentioned, revenues were up 9%, a record for Q1. Operating expenses were up only 3%, despite an increase in RTMs of 10%. Earnings per share were a Q1 record, up 51% from last year. And finally, our operating ratio decreased 430 basis points to 75.8%, another record for Q1. Our effective tax rate came in just under our annual guidance of 25% to 27% due to the U.S. tax credit recognized in the quarter. For the remainder of the year, you can expect us to be closer to the higher end of this range, a great start to the year and the improvements we've seen this quarter give us greater confidence that 2013 will be a record-setting year for both operational and financial performance.

Turn to next slide, and I will give you details on our expense line items. Our workforce reductions are ahead of schedule. At our December Investor Day we outlined a reduction of 4,500 positions. To date, we are at 3,400, 75% of our target and we are looking at additional opportunities. Overall, comp and benefits were up $11 million or 3%. Workforce reductions resulted in $40 million in savings due to fewer people, fewer yard starts, longer, heavier trains and lower new hire training, all while moving 10% more RTMs and improving service.

Stock and incentive comp was up $21 million. This was driven by a $32 increase in our share price and a larger, short-term bonus accrual than last year, given our strong start to the year. Consistent with the guidance I gave you last quarter, we also saw headwinds in the form of wage inflation costing $12 million and an increase in pension expense of $12 million. As a reminder, we guided to pension expense of $50 million to $60 million this year. You will recall that I told you, Q1 would be an implementation period. We had an expense of $21 million in the quarter, so you can model pension expense to be roughly $10 million per quarter for the remainder of the year. Other $6 million reflects a bunch of smaller items, such as higher track maintenance for snow clearing, some management transition costs and a change in how we smooth engineering vacation expense throughout the year.

Fuel was up $1 million versus last year. Fuel efficiency saved us $25 million in the quarter and these savings were offset by higher volumes and a slightly higher fuel price.

The remaining expenses have some puts and takes. Materials were up $8 million or 13%. This increase was driven by a $10 million increase in car servicing costs, mostly due to higher wheel set change out. I should note that there is a partial offset to this number in purchased services, which I will speak to shortly. This increase was partially offset by savings for locomotive servicing costs, a reflection of our reduced fleet size. Equipment rents were down $4 million or 8% versus last year. Our focus on asset utilization resulted in savings of $8 million. These savings were partially offset by higher lease rates and lower car hire receipts.

Depreciation rose by $14 million due to a higher depreciable asset base and accelerated depreciation of certain legacy IT assets as we continued to renew our IT infrastructure. Purchased services were up $1 million versus last year, but there are a lot of puts and takes. On the unfavorable side, our $12 million insurance recovery in 2012 was a headwind this quarter. As well, property and other taxes were up by $6 million. And finally, we saw other miscellaneous increases in IT expense costs and costs associated with our head office relocation to Ogden.

On a positive front, we had a favorable onetime management transition settlement of $9 million. Wheel recoverables were up $6 million. This is a partial offset to material costs I just spoke to. Land sales were up $6 million over last year, casualty costs were favorable by $4 million, and finally, we saw $3 million of efficiencies as a result of reduced dead-heading costs as we had fewer crew starts. And as well, we saw third-party locomotive servicing getting cost lower. Purchased services can be lumpy, and it does have some seasonality. Land sale guidance remains unchanged at $10 million to $15 million for the year.

So to wrap up, Q1 was a record quarter and there is more to come. Our operational improvements are driving real savings, while, at the same time, improving service. Our book of business is strong. We have great momentum and even greater confidence that 2013 will be a record year for CP.

With that, I'll turn it back to Hunter.

E. Hunter Harrison

Thanks, Brian, thanks, Jane and Keith. Well, there's not much more to say except I would refer you back to our guidance that we gave 6 to 8 months ago that talk about high-single digit revenue growth. We're obviously ahead of schedule there. The OR in the low 70% range. We're clearly ahead of schedule there if you take the seasonality factor into account, you can do the math and we're way ahead of schedule with the 40% year-over-year earnings. So that's something that we'll keep an eye on and watch and keep you a apprised as the year plays out. And so with that, Jonathan, we'd be glad to entertain questions for the group.

Question-and-Answer Session

Operator

[Operator Instructions] Your first question comes from Ken Hoexter with Bank of America Merrill Lynch.

Ken Hoexter - BofA Merrill Lynch, Research Division

Congratulations and welcome, Keith and Nadeem. If I could just jump into -- Keith, now that you're on site, you've been there for a couple of months, as well as Hunter, can you talk about maybe some of the projects you look to tackle, how you -- how the network was able to adjust so quickly through the rough winter, maybe just expand on that a little bit so we know what other projects may be coming down the pipe?

Keith E. Creel

Okay, look I can -- as far as adjusting to the rough winter, I mean, the key is asset size. The fleets that we've reduced, the locomotives we've taken out, there were liabilities that were dripping up the locomotives, the terminals -- the hub terminals that before me, Hunter effectively shut down 5 across the system, has allowed us to turn these assets faster. So effectively, you got less fleet, turning faster, rack adjusting the terminals. You deal with snow, you deal with winter, you deal with weather, all those things when you have additional assets in the pipeline, impede your ability to recover and they take you out through your resiliency that you have in the supply chain and our pipeline for the lack of a better term. So with that said, that was the stage that was set. I tried to come in, and effectively, I spent a lot of my time out on the ground. I spent the first couple of weeks out in Toronto. That's a place where we'd already closed the hub, but at the same time, to get to the next level. It took a little bit more fine tuning and emphasis on sweating the details and it means rolling your sleeves up. It means getting on the ground. It means understanding traffic flows, looking at the cars that are coming into the terminals, essentially, for the lack of a better term, again, just to oversimplify this. If the car doesn't belong in Toronto, and we're not going to service the customer out of Toronto with that particular car. Why does it need to be there? If you take that approach and you cascade that across the property, which is exactly what we're going to be doing in the future, you generate and create some real synergies both in car savings and crew savings, locomotive savings across the board. If it's a multiple, multiple [indiscernible] was there to accelerate your progress. So there's more to come on that. We're going to focus on the terminals, we're continuing, we're coming out of winter, we've got an extreme intense focus on train speed. Again, train speed as you drive trains speed up, you turn those assets quicker, you get more cycle turns, you reduce your cycle times, you effectively can move more business with fewer assets, which, again, allows you to sustain positive service even in the face of some adversities, like weather and/or even like some of the water weather, like the floods we've been dealing with over the past week. Effectively in the past, I would probably say and suggest that, that would've had a meaningful impact to the operation. Certainly, it's not anything that I enjoyed doing or that Doug and his team has enjoyed dealing with, but has not had a meaningful impact to this business. We still have been able to provide consistent, reliable, I mean, cost-controlled service to our customers. So more to come. I could talk about this all day long, probably, more time than you have, but we're just scratching the surface. That's no doubt in my mind about that at all.

Ken Hoexter - BofA Merrill Lynch, Research Division

And if I can, my follow-up on -- Brian, maybe just talk on the efficiencies, and then the workforce number. I mean, Hunter has mentioned maybe even up to 6,500 employees. Does that come out faster? Should we see an acceleration on the -- I'm talking more specifically on the comp and benefit line.

E. Hunter Harrison

Ken, first of all, I don't think I said 6,500. I might have said 6,000, I believe. But look, the 4,500 is not the top. That's not the ceiling. That's the number that we, at that point in time, when we gave it to you, we felt comfortable with. There's some buckets, for an example, with -- particularly, with contractors, for example. We've got with IT, we've got contractual obligations that says we've got about 300 or 400 people that will not come out on the IT side until the end of '14. So that's 300 or 400 right there. There's some other initiatives. So will we exceed 4,500. I think so, yes, will we get to 6,000 could be, but I mean, I don't quite have line of sight on all that yet. Brian, do you want to add any more?

Brian W. Grassby

No, I think you covered it well.

Operator

Your next question comes from Tom Wadewitz with JPMorgan.

Thomas R. Wadewitz - JP Morgan Chase & Co, Research Division

Congratulations on the great results and also on the joining the team the team, Keith, and Nadeem. Great to see you guys on board. Keith, you mentioned exercise the processing you're going through in scheduling the cars and spending time on that. Can you give a sense of when you plan to do that and just the timing of that which presumably would have a material impact?

Keith E. Creel

Yes, so we're going to start the first sessions in Chicago in a couple of weeks, and then we'll have to -- you can't do it all at one time. It's a pretty large staff, so we'll spend 3 days -- 3 long days in Chicago to start this process. And I would envision 4 to 5 sessions to get the entire railway done. You do 1 one week. You'll wait 2 or 3 weeks, digest the changes, tweak it a little bit, you'll go to the next steps. So the process is going to take about 2 months, I would say, to get it all done, and then after that, get people to start executing it and a little bit of sense of urgency and accountability and discipline and results are going to follow. So I would look more to third quarter, fourth quarter to start seeing some of the impact of those changes.

Thomas R. Wadewitz - JP Morgan Chase & Co, Research Division

So -- okay, so financial impact in second half of the year, probably.

Keith E. Creel

Yes.

Thomas R. Wadewitz - JP Morgan Chase & Co, Research Division

Okay, great. And then, Brian, in terms of the comp and benefits, there were a lot of moving parts in the comp and benefits this quarter. It seemed, I guess, when I looked at some of the options expense, it was up a fair bit. I'm not sure how that relates to the incentive comp you identified. But how do we think about the step-up in comp on a per-worker basis this quarter and what that might look like going forward? Is it a lot more moderate going forward or is it still a pretty high pace of increase in comp and benefits on a per-worker basis looking forward?

Brian W. Grassby

Tom, I gave you in my remarks stock and incentive comp, we're up $21 million. Let me just give you a bit more color. Of that $21 million, about $15 million is related to our $32 price increase. The sensitivity is a bit less than I've given you in the past, but you could use about $600,000 per dollar change. The balance of that $21 million is roughly $6 million and it relates to our short-term incentive accrual that, again, I talked to. Last year, we accrued the first quarter 100%. We are -- we have increased that accrual from a percentage point of view, given the strong start, given our outlook for the year. So those are the 2 main components. So the first component will move with our stock price. The second component is, as we execute to our plan and look to exceed it, should remain for the balance of the quarters.

Operator

Your next question comes from Jacob Bout with CIBC.

Jacob Bout - CIBC World Markets Inc., Research Division

Hunter, maybe just a question here on the crude by rail and strategically how you're looking at this specifically longer-term. Any amount of capital you're willing to commit to this crude by rail?

E. Hunter Harrison

Well, most of the crude by rail new opportunities are on line segments that we would not have described in the past as our main lines. So there's clearly some catch up to do there. We're doing it very cautiously, but there will probably be, which is in the book already, but probably $50 million related directly to infrastructure for the crude on rail -- not only for the crude on rail, but driven by that predominantly, which is effectively sidings, the signal systems and some upgrade to the existing rail, heavier rail. So that gives you a little feel for it, hopefully.

Jacob Bout - CIBC World Markets Inc., Research Division

And maybe just a follow-on -- a question on fuel efficiency. Pretty impressive improvement there, given the tough winter, but how aggressive should we be thinking about fuel efficiency in improvements over the next year?

E. Hunter Harrison

Well, I think you will -- I think, we've taken some big steps. I don't know that there's that much in another block, if you will, but I think, we'll see continual improvement. I mean, I think, it's jumped up to about around the 7% range.

Brian W. Grassby

8% year-over-year.

E. Hunter Harrison

Year-over-year. I think that probably there's some initiative that Keith has going by closing some service stations, as well as running longer miles before we have to fuel.We're doing some modeling there. It'll help with working capital. We've obviously probably get too much fuel in inventory, and I think, that we will probably hit through 10%, so up maybe 10%, 9%, 10% year-over-year.

Operator

Your next question comes from Fadi Chamoun with BMO Capital Markets.

Fadi Chamoun - BMO Capital Markets Canada

My question is to Keith. You've worked with 2 CEOs, which, from where we sit, sort of have a slightly different approach to growth and the supply chain in general. So I was wondering whether, first, you think that the kind of approach at CN we see on the supply chain side would bring similar benefit at CP? And how far is CP from CN on that front from a sort of a supply chain integrated approach that we see at CN?

Keith E. Creel

well, let me -- Fadi, with all due respect, I think it's inappropriate for me to comment on CN, given that I'm not at CN anymore. Let me focus on the opportunities at CP. And I can say right now that the supply chain pipeline, whatever you want to call it, NDN management, that is becoming and is engrained in some of the success and the way we're moving forward at CP. So it's not about just cutting asset to drive operating improvements. It's about rightsizing assets to drive operating improvement that at the end of the day creates a reliable and sustainable pipeline of supply chain, whatever you want to call it, whatever semantics you want to use; so huge opportunities. This is a new front, turning assets and managing, rightsizing, it's something that's gaining momentum at CP, and I'm going to expect to see similar results in our customers and those are the most important sounding board, so to speak, to proof points. I think they would tell you in large part -- and listen, we're not perfect, it's an operating world. We went to a tough winter. We didn't get it all right. But we certainly got a heck of a lot more right than wrong, and we're exceeding our customers' expectations on service offering. So with all that said, it's engrained here to becoming more and more part of our DNA, of our fiber, and it will be a part of our -- and an integral part of our success on a go-forward basis at CP, both from a service front as well as operation and the financial succes front.

Fadi Chamoun - BMO Capital Markets Canada

One question to Jane. On the crude on rail, I suppose the bigger portion of your opportunity going forward is probably heavy crude from Canada. Can you talk a little bit about some of the larger opportunity you're seeing, the timing of utilization? I know you said that these things could go -- basically, increase quite meaningfully in the next 2 years, but do you see a set of some of these opportunities for terminal being built happening this year or is this more like 2014 opportunity?

Jane A. O’Hagan

Well, I think, Fadi, I think just to go back to what I said earlier, I think that when we look at our 2012 crude volume growth, we remain on track and we remain where we would like to be in terms of that growth. And as we told you in January, we had our 70,000 carload run rate, and obviously, we're building off that. Our future view on this volume is really based on the probability of landing some kind of specific and near term, as well as long-term prospects. There have been various stages of negotiation. I'm not sure if you could appreciate, many of these are competitive as well, and just also include some perspective additional opportunities. In terms of looking at this on a go-forward basis, I think that what we feel is that judging the appropriate risk, sticking to the basics of our model, which are, again, around mitigating risks by ensuring that those we partner with are investing for the long term in crude-by-rail and managing our investments appropriately. This is where we see certainly the long-term aspect of that business and how we intend to grow it. I think it is safe to say, as you did, that the future growth that we see, given the current volume that we have that certainly moves to the Bakken to various locations, is a big part of today's portfolio, but as we move forward, obviously, the heavy crude is the real opportunity for us in the near term.

Operator

Your next question comes from Chris Wetherbee from Citi.

Christian Wetherbee - Citigroup Inc, Research Division

Jane, maybe just a follow-up question. When we think about the high single-digit revenue guidance for the year, you have kind of easier comps as you move forward. And certainly, looks like the grain business is going very well for you and crude clearly as well. You have the RTM growth there. I guess, I just want to make sure I understand maybe what some puts and takes are around that high single-digit revenue targets. It seems like it could potentially be exceeded at least in the next quarter or 2. I just wanted to get a sense of how you think about that.

Jane A. O’Hagan

Well, I think, Chris, it's safe to say, as you indicated, that I am expecting some ramp-up in volumes as the year progresses both on the crude side and the other commodities such as potash and frac sand. Some of the traffic is coming on a little sooner than we expected but we did have some lower growth in some of the other sectors that we look at. As you said, we're going into good Q2 with some good carryout in the grain, and we have excellent asset utilization cycle. So it will help propel that growth. And if we see a gradual improvement certainly in the U.S. economy, that will help us in the industrial products, but on a net basis, we're on-course to meet our 2013 guidance, and I think, that there is still some uncertainty in the economy. Grain is always a wild card because, as I said, it's too early to comment on where the crop is. The big part of the story, obviously, is a cost takeout story. And back to where we are, I feel that our challenge again is to meet that head-on and to beat it, but I don't feel that we're at a place where the economic picture or some of the puts and takes I talked about really merit a reconsideration of my guidance at this point in time. So all I can say is watch our carloads and know that we're working that hard.

Christian Wetherbee - Citigroup Inc, Research Division

Okay, that certainly makes sense. And just a follow-up, just back to Hunter and Keith, maybe, just quickly on the headcount. I know you kind of talked about maybe what you could potentially get and there are some things that could come in the later period. Just when you think about this year, you guys are so far along on the path to the guidance you had given us. Can you just give us a rough sense of how headcount reduction looks in the next couple of quarters? Is it going to slow down a little bit or is it a steady pace left to go here?

E. Hunter Harrison

No, I think it a steady pace. If you want to put a number on it, I think, my guess is by year end, we'll probably be at 4,000. There's a lot of things going on there, because, for an example, we had 2 shops that were effectively leased out, that were run by Progress Rail, but they were CP employees. They were CP employees from a pension obligation standpoint, but they weren't in our headcount, if you will. Well, we've those shops back in because net-net, it's the best thing to do to operate it. Well, as we bring those 2 shops in, that's a plus on the headcount side. It's really not any additions, but if you look at the count and where you start with it, so there's some additions that you have to take into consideration. I think by year end, 4,000 is probably a safe number to use. Am I still comfortable with the 4,500? Yes, I think we're going to exceed it, yes. And that takes into consideration what Keith has talked about. I mean, this whiteboard exercise is going to bring another level of opportunity. So there's a lot of initiatives that we have on the drawing board that haven't kicked in yet, which is the reason why, to some degree, I'm extremely excited about the future and some of our guidance and so forth. So and I think for the year, 4,000 is going to be not far off for your modeling purposes.

Operator

Your next question comes from Bill Greene with Morgan Stanley.

William J. Greene - Morgan Stanley, Research Division

Jane, I was wondering if I could ask -- or actually, maybe even Hunter, you may want to weigh in this as well. As we look at the improvements in service levels, how long does it take to translate that into a better pricing opportunity?

E. Hunter Harrison

Well, it takes a while. My experience in the past as we've gone through transformational change like this is it doesn't happen overnight. We don't expect that overnight. We had to prove it's one thing to say it's another thing to do it. So I think that once we see 12 to 18 months that we've accomplished these service commitments, we've showed the market we can do it that -- then we'll start to see some impact on price beyond what we have talked about. Now at the same time, if you start to try to fine-tune the number, there's some discipline we're going to impose. We have imposed, for example. As I've said to you, we're not chasing business for chasing business, we've got certain hurdle rate that needs to be met, we're proud of this service and it's -- nobody will take our service and make it a commodity, not as long as I'm around. But I think, to answer your question, I think at least 1 year to 18 months, generally kind of before you can really see the -- start to see the real impact there.

William J. Greene - Morgan Stanley, Research Division

And then Hunter on the labor side, you have I guess a couple of deals you're still working on but maybe you could just give an update there about what do we have to think about, do we have to worry about any work stoppages? I know one of union gave you a gift when you arrived. So can you just talk a little bit about just the tactical side of the labor agreements?

E. Hunter Harrison

Well, we had the unfortunate, right before I arrived, work stoppage, that was settled through, effectively, arbitration, we have signed 5 agreements with various collective bargaining units and I think I'm correct here there is only 1 left, which is effectively the CAW. We have, I think, it is comfortable to say that [indiscernible] both have established a pretty good relationship with that group, they're very demanding and they're tough and they should be but I think there's some mutual respect there. And so the CAW is coming up, we just sat down with them about 3 or 4 weeks ago with their committees, kind of exchanged some ideas on what we saw coming in the future, talked to them about some opportunities of in-sourcing and so it was a positive dialogue. So I don't see any bumps in the road looking out over the next 3 to 4 years with labor.

Operator

Your next question comes from the line of Steve Hansen with Raymond James.

Steven P. Hansen - Raymond James Ltd., Research Division

The crude-by-rail opportunity continues to be pretty dynamic here and strong momentum shaping up in terms of Canadian loading infrastructure. Jane, we're just hoping you could provide us some context around the growth from your current run rate of business and to your future line of sight goal post and really what that means in terms of revenue per carload growth or just length of haul over time, trying to get a sense for how the business will transition aside -- just with the carload count itself.

Jane A. O’Hagan

Well, I think what you need to do is you need to follow in terms of the information that we provided about where the markets are. I think that certainly the volume's going to change, it's going to move around as the market and refinery demands for different crude evolves and there is some sort of impact as well in terms of the spread. The majority of the volume right now goes to the Gulf but the other markets continue to develop pretty quickly and our approach where we started off working with primarily marketers, we've now expanded that to producers and transloaders to make those markets. So it's likely that in the Eastern market, in the Western market, they'll start to attract the light and the Gulf will attract the heavy, but it's really hard for me to predict in terms of where that market's going to go over the long term. We do know that in terms of what we've seen so far is that we've been able to obviously establish and build that market out into the U.S. Northeast and obviously, we're going to start to move that as we think about expansion to the Gulf. So you are going to see movement around in the average revenue per car. I think that again, when we look at that overall, with the model in terms of modeling that, what you're going to have to do is basically, we'll give you certainty reliance on how the volumes will move, we'll provide you visibility in terms of what the next major parts are with working with our customers and how it evolves and that will give you a better representation in terms of how you can start to model those distances and basically how average revenue per car will move in each of the markets.

Steven P. Hansen - Raymond James Ltd., Research Division

Just as a follow-up to that, there has been -- it seems conspicuously absent at least thus far that the Canadian majors of the large premium heavy oil producers has not really fully embraced the model as yet. There's been indications in the press by one of your competitors, they seem to be evaluating the model pretty seriously. I just wanted to get a sense whether or not you can provide any color on just the broader sort of large cap universe in Canada whether or not they are starting to embrace this model.

Jane A. O’Hagan

Well, what I would say to you is that I think it's fair to say that obviously, the marketers, the transloaders came faster to the market than the major producers but when you look at the dynamics of heavy crude and how important it is to get that product either to a point at export, which I expect will evolve over time, because getting it to tidewater obviously gets you the global price. I think the other thing that we are really having to know obviously intense dialogue a lot of it being confidential is that producers are obviously looking for end markets because refiners need this product. So I expect that you need to watch our progress as we move forward but I think it's safe to say that the next generation of developments that you're going to see we'll be dealing with producers and refiners as we expand that marketing opportunity beyond the point at which we started lies largely around the resource that was in the market.

Operator

Your next question comes from Scott Group with Wolfe Trahan.

Scott H. Group - Wolfe Trahan & Co.

So I wanted to start just a couple of things on the cash flow side. CapEx was down 13% year-over-year. Maybe if you just have some updated thoughts on CapEx for the year and then along with that, if you have any updates in terms of timing and magnitude of some asset sales you've talked about and Brian, anything in terms of updated thoughts on when we should start thinking about returning some cash.

Brian W. Grassby

Okay. Let me take that. Was that 1 or 3 questions. Scott, let me take them first. CapEx down 13%. Q1 last year, we did take delivery of locomotives in the range of 71%. So we've got it to CapEx of $1 billion for the year and so and over the longer term, $1.1 billion -- sorry we've got to $1.1 billion. So that's just a reflection of the locomotives we purchased Q1 last year. In terms of asset sales, I did on the routine sort of smaller transactions. I did mention $10 million to $15 million from my comments. Part of what Keith and Hunter are going to be doing in the whiteboard session is really looking at the yards as well and so that's something that over time, will give you more color in terms of sort of the larger surplus land sales that we've talked about and I guess, finally returning cash. I mean our first priority and Hunter and I have both said it is investing in the core franchise. Second priority is strengthening the balance sheet, improving the credit metrics, moving to mid-investment grade. And then finally, we're looking forward to the discussion with the board on other possibilities in terms of returning cash to shareholders around dividends, share buybacks, all that. I think we're looking forward to that conversation but our first 2 priorities are investing in the franchise and improving our balance sheet strength.

E. Hunter Harrison

You might comment on just where we are with DM&E and the expressions of interest there and so forth I am sure they're...

Brian W. Grassby

Yes, I think from DM&E, we've received -- there's been strong interest, we've received preliminary expressions of interest and we're presently going over them and then in short order, we're going to be deciding next steps and narrowing down the number of people we're going to be talking to. So again on that front, I'll be able to give you more updates as the year unfolds.

Scott H. Group - Wolfe Trahan & Co.

And then just maybe a bigger-picture question. We've talked over the past year at length about kind of structural differences between CP and some of the other rails and Hunter, we've gotten your thoughts over the past few quarters but haven't really heard from Keith on this discussion. So maybe, Keith, if you can give us your thoughts on that and Hunter, if you do have anything to add now that you've been through your first winter at CP just in terms of some structural differences.

Keith E. Creel

I guess, I can bottom line it, there are puts and takes at every railroad. We all have challenges. It's an outdoor sport but I've seen nothing of any meaningful structural differences that should have an adverse impact on our performance. In fact, I see some structural opportunities on some assets, some particular rail lines that previous management, in my mind, are not utilized properly. Case in point, we've got a north line that runs at Addington you can take that route south to Calgary into the coast and it's about 200 miles shorter than the current -- the previous route we were running for some of those potash assets and green assets and eventually will be all assets. So as we convert that structural opportunity, we're going to see cycle times reduced, we're going to see crew savings and we're going to see fleets turn to revenue go to the bottom line. So I'm pretty excited about the structural opportunities, I'm not very concerned at all about the structural challenges.

E. Hunter Harrison

My position has not changed at all. This is a strong franchise. I think over time, you're going to see the seasonality factor a little even more and more and we're always going to have it, we're always going to have winters to deal with. Sometimes they're going to be worse than others. That's part of our job, we'll deal with it, we'll deal with it more effectively and I guess, best case in point is to produce the OR that was produced this first quarter, and I don't make any excuses -- we're not making excuses for the weather but the winter was a little harsher than normal this year and if we can produce those kind of operating results, that gives you some indication of what the potential is on the other 3 quarters, when you don't have that factor involved, so I love the franchise. I don't see any structural issues that we can't deal with.

Operator

Your next question comes from Chris Ceraso with Crédit Suisse.

Christopher J. Ceraso - Crédit Suisse AG, Research Division

I wanted to come back for a second to the discussion about crude and Jane, you mentioned how as the business evolves and more of the growth in coming years, there's going to be the heavy crude in Western Canada and you start to think about destinations for that. How do you feel the CP is positioned in terms of the share of that business over time? I think currently, maybe you're doing a little bit more crude than the other Canadian rail but if we look out over the next 2 or 3 years as the origins and destination pairs shift, how do you think the market share is going to shake out?

Jane A. O’Hagan

Well, I think that first of all, where we come from, we think about heavy crude and how we evolve our market, there's obviously in 2 ways. I mean first of all, you build on the model that you have in terms of manifesting, building that into unit train opportunities and you use that to expand your footprints. Secondly, I think there's obviously there will be probably some inherent advantage that CN may have that gets them up into the North but the models that we're developing now and that we talked about as we grow our volumes, have been basically working with producers, working with marketers, where we are pulling volumes off of pipelines. I think that I've spoken to this before, is that it's one thing to build the manifest facility, it's the next step to build the infrastructure that puts in place loop tracks and other efficiency that builds you the unit train but there's also great opportunities to work with customers on the supply chain basis, develop very, very core and important objectives that they are investing in, certainly our announcement that we have with Hardisty is one that substantiates the ability to work with the customers to find options where you can build into the pipeline and use that as the ability to drive unit train volume on a daily, weekly basis. So when I look at that opportunity, I think that we have a great franchise. I think that we've got certainly to Keith's points, some excellent opportunities with respect to our north mainline. We've got excellent connections and we've proven the quality of our crude-by-rail model in terms of its consistency and reliability and to some of these core markets and I think at the end of the day, those are the things that are going to be able to allow us to build the game plan that we set out for ourselves.

E. Hunter Harrison

Let me comment on that. Let me tell you what bodes well for us. We get certain markets, the competition gets a certain market, this is a competitive world. In the final analysis, it's the people that produce the best service and create the best cycle times. That's who's going to win as we approach crossover date. That's the group that's going to win. The suppliers today are starting to understand and appreciate the cost of rail cars because you're buying it and they understand the power of cycle times and it's the provider that provides the quickest, fastest cycle times in turns on assets that's going to win the business which is a game that we like to be in.

Christopher J. Ceraso - Crédit Suisse AG, Research Division

Okay. And then I guess just to follow up really on the same subject, you've shown that the revenue per unit in this business is very strong. As you go forward, do you think more of the business that you pick up will be competitive where maybe the revenue per unit won't be as strong because it is a competitive bid?

Jane A. O’Hagan

Chris, I think really it boils down to really kind of a combination of what Hunter just indicated. We make our opportunities in this market. We pursue those that make the most sense. Again, we price for the value of the service that we put in to the market and the value of rail to these customers. Again, we partner with customers that are investing in the crude-by-rail model and those who are investing in their own infrastructure to grow it. And so the way that we look at it is that there's many varied factors that cause a customer to think about crude-by-rail and our focus is basically to make sure that we're commanding the value for the service we provide. We mitigate the risk by managing the investment and that we do this in a judicious way where we see other benefit and lift for other business that we want to operate on those corridors. So for me, it's all about sticking to the game plan. We feel we have a good one but it's all about pricing for value and as Hunter said, showing those customers, we don't only build consistent ratable supply chains but we do it in an efficient way where they can manage their assets.

Operator

Your next question comes from the line of Jason Seidl with Cowen Securities.

Jason H. Seidl - Cowen Securities LLC, Research Division

Jane, I want to focus a little bit on coal. You obviously had a decent quarter here in 1Q. You're calling for flat 2Q. It looks like your comps are a little bit easier. I think in your commentary, you mentioned something about some weak thermal numbers in the U.S. Can you give us a little more color behind that and sort of more color behind what you expect out of your met exports in 2Q?

Jane A. O’Hagan

Well, I'd say on the met side obviously, we have really 3 franchises. The first one that we have is obviously our export one. We have a smaller portion that's made up of our U.S. thermal market and then we have the opportunistic side, which we would call our PRB traffic that we move out of Ridley terminals, up at Prince Rupert on a joint line basis. When I look overall and I look at the performance of our team on our supply chain on export, obviously, we model to tech forecast, there's always volatility but when we look at that market, we perform and manage supply chain very, very well. I think obviously on the U.S. thermal side, there's always some volatility or that there could be some softness there given those markets because they're subject to change and I think that the PRB market, is going to depend on the economics. Largely we're available to move that so when I look overall, I think our export is going to be strong. I'm just signaling that I feel that for it to be flat, we ought to anticipate, perhaps, some weakness that we would see in the U.S. market on the thermal side and on the thermal export PRB.

Operator

Your next question comes from Cherilyn Radbourne with TD Securities.

Cherilyn Radbourne - TD Securities Equity Research

If I looked at your expenses in the quarter, it seem to me that labor expense was a little bit higher than I would've expected and the purchased services was a little bit lower than I would have expected. And I know you've talked about in-sourcing jobs as a sort of philosophy. So I just wondered to what extent we were already seeing that kind of a shift in your numbers this quarter?

Brian W. Grassby

Cherilyn, you're seeing them, a partial shift. I mean we did outsource -- or in-source, Hunter talked to it, so there is a small shift from that. Part of that shift would also actually be into materials, as well as because part of it is in-sourcing the work we do around we also -- but it was affected during the quarter, so it would've been sort of a full-quarter impact but yes, you are seeing that. And going down the road, you also see the shift that we talked about from an IT consulting point of view and bringing that stuff in-house. So that's really where you almost have to look at 2 lines in unison and as opposed to just trying to model them separately.

Cherilyn Radbourne - TD Securities Equity Research

And second one, I supposed as someone who wanted to kind of poke holes in the quarter, your safety metrics did compare unfavorably on a year-over-year basis. So I just wondered if you could give us a bit of perspective on severity there.

Keith E. Creel

When you say severity, as far as just overall real numbers?

Cherilyn Radbourne - TD Securities Equity Research

I'm just alluding to the fact that statistics can be misleading, so...

Keith E. Creel

I can tell you real numbers year-over-year, I think we had 2 more reportable derailments that we had last year. Severity is actually less than it was last year, so costs were down. I can tell you that operating safely has been and always will be priority #1 at CP. It's a moral obligation and a commitment to our employees, to customers, communities we operate in and through and that focus is not going to change, and we're going to focus on rules compliance. There's a level of opportunity there that I'm convinced we haven't seized yet, so as we do that and as we continue to change this culture and this evolution, not only are we going to perform well from a service side, we can perform well on the safety side. So there's more progress there to be made.

Operator

Your next question comes from the line of Walter Spracklin with RBC.

Walter Spracklin - RBC Capital Markets, LLC, Research Division

I just wanted to ask you, and Hunter, you had mentioned car ownership and how the incentive was put in the right place when you have some of your customers owning more of your cars. And I know that with a lot of your customers and certainly your larger ones, you do own your own cars -- you own their cars or the cars that you use for them. Are you considering at all or is there an opportunity here for a major switch on some of your larger customers to their own car ownership and drive some of that incentive?

E. Hunter Harrison

Well, I think that in our view that's more up to the customer, I mean, we're a little low on railcars and we get rewarded for that to some degree and there's obviously upfront cost at the same time, if they would prefer and most of them appear to, today, and I'm not sure I understand that but prefer to own their own fleet and control them and so forth. So we're happy to do that. It's just 1 price, if you price your equipment it's another price if we price the equipment. We're effectively indifferent there.

Walter Spracklin - RBC Capital Markets, LLC, Research Division

Okay. So it's not part of your asset sale kind of...

E. Hunter Harrison

No, no. Not at all.

Walter Spracklin - RBC Capital Markets, LLC, Research Division

Second question here is more toward Jane, I guess. Yields, you often got it as on kind of a same-store pricing trends of rather 3%, 3.5% mark. Average yields down this quarter and I'm just curious to what extent mix effect, if that is the reason, I know you've got a lot of moving parts with crude and certainly on potash, varying quite a bit quarter-to-quarter. If when we look out for the rest of the year based on the volume metrics, you kind of been pointing us toward -- should we be modeling therefore, negative average yield despite your same-store sales in the 3%, 3.5% range?

Jane A. O’Hagan

Well, I think first of all, we should go back to just talk about the quarter for a second. You know ARC [ph] was up 8%, and cent per RTM was down 1% and I think the question is, is this weakening. I think first all is that this aggregate price measure's will not go on variation that we see, including some of the mix change. So as I indicated, at a high level, there's a large increase in the long haul volume of traffic such as crude and export potash basically kind of give us consistent with those 2 messages. I think that those were obviously the dominant gains in the quarter and expect some of the differences there really explain that. I think overall as I've said, when we look at ARC I have signaled that the growth and certainly double-digit growth that we're expecting in the IP portfolio specifically from crude is going to move that around but I think that obviously as we look at cents per RTM, when we look at that substitution or that movement into the longer haul market, we're going to see some fluctuations that are largely a result of unit train ship release cars moving in long term lanes. But I think when you look at over all price, our focus is, number one, to achieve our price strategy and again, deliver to that 3% to 4% and per Hunter's comment, is to continuously work on improving the quality of the book, which we have underway so I would not be concerned about that.

Walter Spracklin - RBC Capital Markets, LLC, Research Division

So on a revenue-per-revenue ton mile basis, by the end of the year, do you expect to be up or down generally?

Jane A. O’Hagan

I think we expect it to be up but again but it's certainly an impact as we go through it, as we bring our crude on. As I said before, it comes on faster. I think certainly as I talked about, there's some upside on the export potash side, obviously that's ratable and something that we can see that's sustainable profitable growth, we're going to pursue that, but I would say yes, you could expect it'd be up.

Operator

Your next question comes from the line of Brandon Oglenski with Barclays.

Brandon R. Oglenski - Barclays Capital, Research Division

Congrats, Keith, on joining the team here. And Hunter, with Keith now in place and running the operations, just wanted to ask you a longer-term strategy question. As you realize these efficiencies and cost improvements, you're obviously going to have what supposedly will be better free cash flow in the future. So what are the capital priorities going forward? Are there any acquisitions that could be added into the network or potentially, open you up to new market exposures that you're looking at down the road or does it just become a story about increased repurchases, higher dividend. Where are your priorities looking ahead?

E. Hunter Harrison

Well, I think the priorities are this. Number one, is to be low-cost carrier and provide the best service. And if you do that, you're going to have a lot of opportunities opening up for you. You're going to have opportunities for M&A activity, if you so desire. You're going to be something that others are looking at and learning from. So those opportunities potentially will present themselves to us. At the same time, there's not those opportunities here. This is pretty exciting doing what we're doing here, making money and rewarding shareholders and paying dividends and if we get to that mode, buying stock back and all of the things. I think the key is, is that we don't go in with a booked plan and get locked into it that we maintain our flexibility. And all this, what we're going to focus on is being the low-cost carrier, providing the best service. And as long as we do that, okay, all these other opportunities we'll be in a better position as a result of that.

Operator

Your next question comes from the line of Keith Schoonmaker from Morningstar.

Keith Schoonmaker - Morningstar Inc., Research Division

Longer-term question about Intermodal, historically, your largest and still second highest revenue segment, broadly Canadian U.S. markets were up 4% to 5% Intermodal, yet your quarterly units revenue declined about 4%. Balancing this higher selectivity and sensible business off of your new faster service, can you share current thinking and sort of addressable attractive Intermodal market growth, please?

Jane A. O’Hagan

Yes, I think that what we've been doing and I think it's been pretty clear is that we have basically made some pretty clear choices about needing to tighten up our Intermodal network, basically taking out some of the higher cost low growth segments and within that mix, there was also some contractual adjustments that we needed to make on the international side. When we look at growing that business, the one thing that makes me very pleased about where we are and the direction that we're heading is that we are seeing growth on the domestic side. Clearly, our plans are to grow with market leaders. We have a new retail reality coming into place into Canada and I think that overall, when we look at the U.S. and the cross-border, there's obviously some opportunities that targets new customers and certainly in many respects, this is really about going out to the marketplace with an improved competitive service where quite frankly, we weren't competitive before and showing and demonstrating our consistency and reliability to grow with customers that represent solid prospects that are making choices around, obviously, service. I think there's other lanes, that obviously we're working on as it pertains to trucks, I think as we get more competitive and we renewed our product that we put into the market on our expressway product between Toronto and Montréal and we're seeing that product build up. So I think we've got a lot of strategic initiatives but again it's kind of a dual balancing act for us internally around making sure that we're growing with the right customers, that we're improving the operating income of the book and that the prospects we bring on represent sustainable profitable growth.

Operator

Your next question comes from the line of Benoit Poirier from Desjardins Capital.

Benoit Poirier - Desjardins Securities Inc., Research Division

I'll try to be quick. Jane, just wondering about the spread between the RTM and carload going forward, I understand you'll provide more numbers starting in May but given the outlook provided on the call, should we expect the spread to maintain at the high level in the next few quarters?

Jane A. O’Hagan

I think, I mean, I'm not going to predict obviously given the fact that we don't have our grain crop in and a number of other things for the rest of the year but I can say given some of the growth that we're expecting certainly on our merchandise portfolio that we should expect that given the fact that we're indicating double-digit growth. So that would be a pretty safe assumption.

Benoit Poirier - Desjardins Securities Inc., Research Division

And quickly, given we are entering into the spring season, any color about any potential flood especially close to your DM&E network?

Keith E. Creel

So we're currently, as I mentioned earlier, last week, I guess, it was this past weekend, we lost the railroad at Davenport, Iowa. However, the river's dropped down and we're literally pumping right now. We expect to be back in service tonight, so maybe there's something on the horizon I'm not aware of but at this point, that was our immediate concern and we've dealt with it quite well quite aggressively and I'm pleased with the response, and I don't see any material impact to our service at this time.

Operator

Your next question comes from the line of Jeff Kauffman with Sterne Agee.

Jeffrey A. Kauffman - Sterne Agee & Leach Inc., Research Division

My question's largely been asked so I'll be brief. Brian, following up on Scott Group's question, you're now 2 quarters in with better-than-expected results. As we look at the free cash flow and the free cash flow opportunities, is there a general level of cash that you just kind of want to have in the box before you start considering alternatives or is it more based on the white paper session and kind of where we go this fall?

Brian W. Grassby

Jeff, that's the same question you asked me in December but I'm very pleased with the progress. I mean from a free cash flow point of view, the first quarter's always lower just in terms of we built up inventories for the track season. We also in-sourced some inventories. Again, we talked about in-sourcing some work, as well as good news story is our receivables are up, so that's the draw. And that's why you see in our free cash flow, the increase in uses of working capital but I'm very pleased, we've got $350 million, or close to $350 million cash on the balance sheet and Hunter will, before he jumps in, we will now we have a lazy balance sheet but yes, as I mentioned to you, we've given you our priorities and I'm looking to have that discussion first with the board and then we'll share that with you either later this year or early in the beginning of the next year.

E. Hunter Harrison

Let me answer that. This is a relatively new issue to deal with at CP and we have a board that's had a tremendous amount of turnover. We have, I think, 3 or 4 members now, maybe 5 left from this time last year. So we're trying to develop -- the board is looking. They're looking at constants. Can we produce this on a consistent basis and I think when they see that we can consistently do this and perform this and produce these levels of free cash flow, we'll be in a position to do the appropriate thing as Brian has described earlier.

Operator

Your next question comes from the line of Steven Paget from FirstEnergy.

Steven I. Paget - FirstEnergy Capital Corp., Research Division

My first question is on service improvement. Could you talk about car order fulfillment or switch window compliance for us to put these improvements into perspective?

Keith E. Creel

The car order fulfillment through the first quarter, neighborhood of 92%, 93% depends on the fleet of course, there were some squeezing or some tightening of available capacity on for instance some of the coal customers, we had huge demand ramp up, we have winter affect us a little bit but we pretty much worked through that. So that's not an issue anymore. So those are the neighborhood of the numbers. And what was the other question?

Steven I. Paget - FirstEnergy Capital Corp., Research Division

Switch window compliance but it was either one or the other is fine.

Keith E. Creel

Yes, switch window compliance is not a measure that we've enacted here at CP we've got a lot more to get at before we get to that level of granularity. Right now, as long as we get these trains we scheduled, we talked about this whiteboard exercise, those assets we turned in, those terminal to terminal the walls going down, we'll be meeting our customers' expectation on the switch windows on a day-to-day basis.

Steven I. Paget - FirstEnergy Capital Corp., Research Division

Second, if I may, in Tier 4 locomotives come mandatory, the fuel efficiency of these new locomotives may slip, are you looking at stocking up on I guess Tier 3 locomotives prior to the changeover?

Keith E. Creel

We can tell you now, we've got enough locomotives to carry us through 2017, which are grandfathered for the Tier 4 application that comes into effect in 2015. And to your point about efficiency, we've been very close to the OEMs that to push them and lead them and work with them and partner with them to create locomotives with the Tier 4 compliant that at the same time, don't cause us to lose any fuel efficiencies and that's what the objective is. The leading indicators now are they're going to give us locomotives when we do get back to the market that maintains the level of fuel efficiency that we enjoy today.

Operator

Your next question comes from the line of David Tyerman with Canaccord Genuity.

David Tyerman - Canaccord Genuity, Research Division

My question's on purchased services, they did come in lower in Q1 and especially relative to the second half of last year. I was wondering if you could shed some light on what we should be thinking in terms of modeling going forward on this line.

Brian W. Grassby

I think in terms of purchase area, as I mentioned can be lumpy. So if you look at last quarter, there were some favorable items that we do not expect there was the $9 million, one-time management transition settlements, land sales were a bit higher in Q1. So I would factor out those and but at the same time you can get some lumpiness in terms of, we do have a locomotive overhaul program or whatever but clearly, I would factor out those items and use a higher number for that in the coming quarters.

David Tyerman - Canaccord Genuity, Research Division

So does that translate into something like $220 million to $230 million is a better kind of run rate to think about?

Brian W. Grassby

I think I've given you a lot of them. I'm not going to do your models for you but there are some items that took it down this quarter so that it will trend up in future quarters.

David Tyerman - Canaccord Genuity, Research Division

Can I ask then, what would be the net unusual in Q1 then?

Brian W. Grassby

So if I looked at the sort of a one-time so I would say I guess, I guess you're pinning me down to an answer here but in my comments I gave you that but we have the 12 -- sorry, in terms of the one-time, the $9 million, the wheel recoverables were in the, the land sales, so all added, you're looking at around $20 million.

Operator

Your last question comes from the line of Turan Quettawala from Scotiabank.

Turan Quettawala - Scotiabank Global Banking and Markets, Research Division

Just 1 quick question here for Keith. I was just wondering, Keith, now that you've looked at the network, when we look at the CapEx forecast over the long term for 14% to 16% of revenue, do you think that's enough with the requirement to maintain obviously the network, as well as looking at the book of business growth here over the long term?

Keith E. Creel

Short answer I would say yes it but at the same time if we have compelling book of business opportunities that present themselves that require capital, we won't hesitate to make the right business decision to use our cash to invest in that.

E. Hunter Harrison

Well, thanks very much for joining us. I look forward to talking to you with the second quarter results and talking about, hopefully, a record performance again and we appreciate your patience. This is a little longer than normal but we didn't want to cut anybody off and wanted to give respect to let everybody to have their moment. So thanks for joining us and have a good, safe day.

Operator

Ladies and gentlemen, this concludes today's conference call. You may now disconnect.

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