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Kansas City Southern (NYSE:KSU)

Q2 2013 Earnings Call

July 19, 2013 8:45 am ET

Executives

David L. Starling - Chief Executive Officer, President, Director, Chief Executive Officer of The Kansas City Southern Railway Company and President of The Kansas City Southern Railway Company

David R. Ebbrecht - Chief Operating Officer, Executive Vice President, Chief Operating Officer of The Kansas City Southern Railway Company and Executive Vice President of The Kansas City Southern Railway Company

Patrick J. Ottensmeyer - Executive Vice President of Sales & Marketing

Michael W. Upchurch - Chief Financial Officer and Executive Vice President

José L. Zozaya - President of KCSM

Analysts

William J. Greene - Morgan Stanley, Research Division

Christian Wetherbee - Citigroup Inc, Research Division

Scott H. Group - Wolfe Research, LLC

Allison M. Landry - Crédit Suisse AG, Research Division

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

Matthew Troy - Susquehanna Financial Group, LLLP, Research Division

Brandon R. Oglenski - Barclays Capital, Research Division

Jason H. Seidl - Cowen Securities LLC, Research Division

Ken Hoexter - BofA Merrill Lynch, Research Division

Justin Long - Stephens Inc., Research Division

Anthony P. Gallo - Wells Fargo Securities, LLC, Research Division

Keith Schoonmaker - Morningstar Inc., Research Division

Patrick Tyler Brown - Raymond James & Associates, Inc., Research Division

Jeffrey Asher Kauffman - The Buckingham Research Group Incorporated

Operator

Greetings, and welcome to the Kansas City Southern Second Quarter 2013 Earnings Call. [Operator Instructions] As a reminder, this conference is being recorded.

This presentation includes statements concerning potential future events involving the company, which could materially differ from the events that actually occur. The differences could be caused by a number of factors, including those factors identified in the Risk Factors section of the company's Form 10-K for the year end December 31, 2013 filed with the SEC. The company is not obligated to update any forward-looking statements in this presentation to reflect future events or developments. All reconciliations to GAAP can be found on the KCS website, www.kcsouthern.com.

It is now my pleasure to introduce your host, David Starling, President and Chief Executive Officer for Kansas City Southern. Mr. Starling, you may begin.

David L. Starling

Good morning, and welcome to the Kansas City Southern second quarter earnings conference call. Presenting with me this morning will be Executive Vice President and Chief Operating Officer, Dave Ebbrecht; Executive Vice President, Sales and Marketing, Pat Ottensmeyer; and Executive Vice President and Chief Financial Officer, Mike Upchurch. Also joining us by telephone from Mexico is Executive Representative and KCSM President, Jose Zozaya.

Special announcement to make this morning, Bill Galligan is not with us. His daughter is getting married in Connecticut. Apparently, she did not get the memo that this was an earnings release date. Well, Bill, we're going to try to correct that in the future, but we wish you and your family all the best. The rehearsal dinner will be over about 10, so Bill will be available for calls tonight if you need to call him.

So I'll kick off the presentation by saying that we're very pleased with our second quarter results, especially in light of having to manage the revenue impacts of one of the worst droughts in U.S. history. On the whole, KCS hit its targets for the quarter and remains on a solid growth trajectory.

Second quarter revenues came in at a little over 6%. While absolutely no apology is necessary for 6% growth, the fact is, if not for the drop at our grain traffic due to the drought, our revenue growth would have been around 11%.

True, you can't take that to the bank, but it does give us considerable confidence that we could see strong revenue growth during the second half of the year, after the crop is harvested.

Moving on, the combined revenues from our key strategic growth areas of crude oil, cross border intermodal, automotive, frac sand and business out of Lázaro Cárdenas grew 28% and represented 19% of KCS' total freight revenues. Our company is positioned well when commodities that represent about 20% of total revenues are growing at nearly 30%, and we're -- there's an expectation the growth rates for these segments should continue at very high levels.

Just as solid as the revenue growth was KCS' operating performance. Dave will get into some of the specifics, but the bottom line is the efficient operation helped us maximize the benefits of good revenue growth and contributed to KCS' recording of 69 operating ratio over the quarter, a 150-basis-point improvement over where we were a year ago.

Without question, a major highlight of this past quarter was our highly successful refinancing of approximately $1.2 billion of KCS corporate debt.

A lot of credit goes to our CFO, Mike Upchurch, and his finance team, who were relentless in keeping the rating agencies continually briefed on KCS. For over 3 years, Mike and his team were on a mission to obtain investment-grade status.

In March, with an upgrade from the S&P, KCS achieved investment grade. On Friday, April 19, we released our first quarter financials. On Tuesday, April 23, we went to market. Clearly, we were ready when our moment arrived.

Being prepared and having done a lot of work over a long period of time paid off for us. As a result of accessing the debt market on a particularly good day, KCS was able to lower its weighted average coupon to 3.7%, the lowest among the Class 1 railroads. We were also able to extend the weighted average maturity of KCS' debt to 14.2 years, almost twice longer than where we were at the end of 2012.

There's an old adage in sports that it's funny how the luckiest players always seem to be those who practice and prepare the hardest. The same held true in our case. Our luck in hitting the market at a time when the rates were at historic lows was a result of a multiyear process that entailed a lot of work by a lot of people.

In the end, that work resulted in a major refinancing that will materially benefit the company and its investors for many years to come.

The second quarter results, I only have a few points to make on this busy chart, listing some of KCS' second quarter highlights. First, I want to remind you that the second quarter 2012 reported operating ratio of 62.6% was significantly benefited by the elimination of a net deferred liability resulting from an organizational restructuring.

On adjusted basis, our second quarter 2012 OR was 70.5%. Therefore, on a more apples-to-apples basis, KCS' second quarter 2013 OR of 69% came in considerably better than last year.

Similarly, it is really more relevant to look at our adjusted diluted earnings per share number of $0.96 for the second quarter of 2013 compared with the adjusted number of 2012 of $0.88. The adjusted 2013 EPS takes out the debt retirement cost related to the $1.2 billion refinancing and the adjusted 2012 EPS. Adjust out the onetime net deferred liability benefit and the foreign exchange impact in the quarter.

Again, looking at it from a more apples-to-apples perspective, KCS adjusted second quarter 2013 EPS improved 9% from a year ago.

Turning to the next chart, second quarter results pretty much fall within the guidance we've laid out for the year, and we're tracking well to meet our 2013 targets.

Volume grew by 3%, which is a bit below our mid-single-digit guidance. It's important to understand there's absolutely nothing wrong with our carloadings. If you neutralize the impact of the drought on our Ag & Min volumes, KCS' second quarter carloadings grew by approximately 4% from a year ago.

While year-to-date carloadings are only up 2%, we believe that with a good corn crop this summer, the comps will benefit us later in the year.

With this potential tailwind, coupled with other business opportunities, we are extremely confident in our mid-single-digit volume guidance for 2013.

Pricing remained in the mid-single-digit range we've previously guided to.

Despite our significantly reduced export grain business, KCS' second quarter revenue growth of 6% also landed in the mid-single-digit range we guided to. Because of a lower than anticipated first quarter revenues, KCS' year-to-date revenue increase of 4% is at the lower band of our mid-single-digit guidance. Again, we think that we have the opportunity to continue to bring that number up in the second half of the year.

Finally, as I've already discussed, KCS' 69% operating ratio for the second quarter came in 150 basis points better than last year.

At midyear, our OR is tracking 1 point better than it was for the first half of 2012. This sets us up well to achieve the target of improving our operating ratio for the year.

I'm now going to turn the presentation over to Dave Ebbrecht, but will return to provide some final thoughts before opening the call up for questions. Dave?

David R. Ebbrecht

Okay. Thanks, Dave, and good morning. Turning to Slide 9, this chart continues to represent our ability to control costs quarter-after-quarter and year-after-year.

Looking at the significant decline we experienced in our grain business, especially the long-haul cross-border unit trains, the operations team has done a great job of repurposing locomotives, grain cars and T&E personnel to ensure we had minimal stranded costs on both sides of the border.

We have also had minimal disruptions due to weather this quarter. Our connecting lines experienced some delays, but we were able to make up cycle time, deficits and remain nimble during periods of surges of traffic. We continue to remain very confident that we will continue to -- the portrayed trend and remain relatively flat as we accommodate the increased volumes projected for the third and fourth quarter.

On Slide 10, our headcount controls continue to remain solid despite in-sourcing contracted services in Mexico upon exploration of their service term. This in-sourcing has allowed our industry-leading trends, but the onboarding of these activities saves us $5 million a year in contracted expense.

We also continued to not cut back forces in areas where we know the grain volumes will return in order to avoid future hiring and training costs.

The return of the coal volumes on some of those areas has helped to parade possible furlough scenarios also. We will see seasonal variations in carloads and shipped from quarter-to-quarter, and we will hire to accommodate our high-growth profile, but the trend will continue to remain very positive as we scale below the growth by managing our forces judiciously.

On Slide 11, our operating metrics for the second quarter were very good. Velocity continues to improve at record-setting levels, reflecting that our capacity initiatives and service design are producing the desired results.

Dwell and car efficiency continue to be well-positioned in the range we need them for the execution of our transportation service plan. And the maintenance of way slow order miles simply fluctuate depending upon the amount of disturbed track involved in the maintenance of way curfew activity, keeping our main lines strong and durable.

Operations will continue to form well, and we look forward to accommodating the significant growth projections ahead of us. Now I'll turn it over to Pat for the sales marketing update.

Patrick J. Ottensmeyer

Good morning, everyone. I will begin my comments on Slide 13. And as Dave has certainly mentioned earlier, revenues in the second quarter were $579.3 million, which was a record for any quarter and 6% higher than last year.

Volumes grew by 3% from last year. Foreign exchange had a positive impact on revenues in the quarter of about $8.6 million. So excluding the impact of foreign exchange, our revenue growth would have been 4.7%.

I will touch briefly on some of the individual business units represented on this page. Chemical & Petroleum revenues increased by 11%, driven largely by a 9% increase in revenue per unit.

Two areas that stood out during the quarter were petroleum and plastic shipments in Mexico, which represents about 2/3 of the revenue growth in this segment.

You may recall that this business unit was not particularly strong in the first quarter. And back in April, we reported that we did not see this as a cyclical turning point in this business, which has historically been one of the most reliable leading indicators in our business.

As we expected at that time, we saw a pick-up during the quarter. And sequential volumes and revenue were higher by about 5% and 7%, respectively, from the first quarter.

Revenues in our Industrial & Consumer business grew by 4% on volumes that were basically flat to last year. The main drivers here were pricing, mix and foreign exchange benefit.

We saw a pretty decent volume growth in metals and scrap, particularly in the U.S., which was 6.9% higher, and pulp and paper mostly in Mexico, which was about 6% higher. And these are 2 of our larger commodity groups, but the volume growth there was essentially offset by decline in appliances, lumber and plywood and other, which is primarily military shipments.

We did see strong growth in cross-border shipments of paper rolls during the quarter, which is very encouraging.

For Ag & Minerals, as was the case in the first quarter, this group continued to be weak, although we did see some sequential improvements from the first quarter, with revenues and volume each improving by about 7% from the first quarter of 2013.

We talked a lot about this area in the first quarter, and there really is not much new or different to add at this time. The problem, as Dave Starling mentioned, is the continued impact of the drought from last year. Growing conditions are certainly better than last year in our key origination regions, and we still feel good at this point about the new crop.

Our order book for the fourth quarter is quite strong in some of our larger customers. So again, assuming that we have a decent crop, and I'll probably say that at least 2 more times in this presentation, the end of the third quarter and the fourth quarter should be very strong.

Going to our energy business, results were very strongly due to a 17% increase in unit utility coal from last year. The 12% increase in RPU was a function of increased length of haul and fuel surcharge revenue in our coal -- unit coal business.

The 12% volume growth was driven by growth in pet coke and crude oil shipments. As you may remember, our utility coal business was very weak in the second quarter of 2012, so the comps here will probably get tougher for the rest of the year. I'll talk more about the outlook for 2013 in a few minutes.

Revenues in our intermodal business grew by 13% on volume gains of 5%. The 8% revenue per unit growth was driven by strong growth in cross-border business, which generated 85% volume growth and 78% revenue growth from last year.

As we have mentioned in the past, cross-border business has a longer length of haul and a higher RPU than the rest of our intermodal business.

Lázaro Cárdenas revenues grew by 4% on a 6% decline in volume from last year. The main driver here was the loss of some aluminum pellet shipments that we had in the second quarter of 2012 that is running at a much reduced level this year. The impact of this aluminum business was a negative swing of about 7,000 units from last year. So adjusting for this one piece of business, Lázaro volume would have been about 8% higher than last year.

Sequentially, Lázaro revenues and volumes did improve from first quarter levels by about 8% and 3%, respectively.

Finally, our automotive business continued to produce solid results, with revenue increasing by 20% and volumes growing by 7% from last year.

Foreign exchange was a contributor to the revenue per unit growth here, with more than half or about half of the total increase in RPU being attributed to foreign exchange.

Volumes were negatively affected in the quarter by a General Motors plant shutdown in Mexico due to a model changeover. All of our auto plants are currently running and we do not expect any significant impact from plant closures in the third quarter.

Moving to Slide 14, we show the impact of lower grain shipments, which is pretty self-explanatory. Dave mentioned this. You can see the numbers here with adjusting for the weakness in grain revenues in the quarter would have been up 11% on 4% volume growth.

We are expecting grain to show continued double-digit year-over-year declines in July and August, but expect that the comps will turn positive in September and then turn to a fairly strong positive versus last year in the fourth quarter.

And once again, our outlook is dependent on the weather and growing conditions for the rest of the season, which, at the moment, certainly look better than this time last year.

Moving to Slide 15, you can see the cross-border revenue return to a positive year-over-year trajectory and -- year-over-year and sequential growth in spite of continued weakness in export grain.

Cross-border shipments in our Ag & Minerals business fell by 23% from last year. And you may remember, this is the largest cross-border commodity group for us.

Eliminating the impact of lower grain and food products business, our cross-border revenue would have been 14.5% higher than last year. This positive trend should continue, again, if the grain business meets our expectations in the fourth quarter.

As for some of the other areas I'll highlight, we saw strong growth in chemicals and petroleum cross-border, which was 16.9% higher than last year.

Industrial & Consumer grew by 11.6%. And, of course, I mentioned earlier, intermodal was up by 78%.

Moving to Slide 16, we highlight our 5 strategic growth areas that Dave mentioned earlier in the quarter. The total growth here was 28% over last year. And again, this represents 19% of our total portfolio. With the exception of Lázaro Cárdenas, each of these businesses grew at a much higher rate than our overall portfolio.

As I mentioned earlier, Lázaro results were heavily influenced by a negative swing in aluminum shipments. And adjusting for this decline in business, Lázaro would have been in the solid double-digit range.

Moving on to the market outlook commentary on Slide 17. Here we show the full year guidance at this point in the year versus what we expected in April, and what we communicated to you on our first quarter earnings call. As you can see, the only change we made since April was to increase the full year outlook in the energy business from a high-single-digit outlook to double-digit line haul revenue growth. This is driven by the strong coal shipments we experienced in the second quarter, as well as our outlook for continued strong growth in crude oil and pet coke for the rest of the year.

While the utility coal comps are going to get a little tougher in the second half, we are experiencing very warm weather in much of our service region. So the burn rates are high at the moment and stockpiles are at normal level.

When you put all this together, on a consolidated basis, we are still comfortable with the guidance we gave back in April, as restated earlier today by Dave, for full year mid-single-digit volume and revenue growth for 2013.

In fact, we did make up some ground toward that full year target from the first quarter of this year. As you can see, our outlook is slightly more positive than it was at that time.

As I said earlier, we are expecting Ag & Minerals comps to be pretty good beginning in September and into the fourth quarter. So we will certainly make up some ground there versus where we are now on a year-to-date basis.

If you look at our year-to-date numbers in all of the other business units, we are essentially running at levels that support this current outlook.

The only other area that merits a comment is automotive, and the double-digit revenue growth outlook will be dependent on the foreign exchange rate for the rest of the year. If the peso stays where it is or strengthens further in the second half, we could possibly see growth rates in the high-single digits as opposed to the double digits.

Moving to Slide 18, I'll touch briefly on some of these points. Of course, our business is dependent on the help of the overall company. And at this moment, it looks like -- it looks to us like we should continue to see slow but positive growth in both the U.S. and Mexico for the rest of the year.

As Dave mentioned earlier, the pricing environment continues to be positive, and we are comfortable reiterating our mid-single-digit guidance for the rest of the year. I've already talked a lot about grain, so I feel like that story is pretty well understood. However, the USDA, on Monday, released their weekly update, which showed that 66% of the corn crop was rated good to excellent, which compares to only 31% at this time last year. And again, the only additional comment I'll make is that the 2 new shuttle loading facilities we have talked about in the past are either finished or nearing completion. And in fact, on Wednesday of this week, we loaded and departed the first 100 car train from the new Bartlett grain facility in Jacksonville, Illinois, and it was headed for Mexico.

Our long-term business pipeline continues to be strong. We've talked in the past about the impact of the new auto plants. Those are just around the corner, opening in either late 2013 or early 2014. The trends for Mexico nearshoring continue to be very positive. And the factors underlying those trends, we don't see any change in that outlook for the near future.

Intermodal, again, we're experiencing very high growth in our cross-border intermodal. And there is tremendous market share gains to be gained over the coming years in that area.

And then finally, we've talked a little bit about the ethane and propane production capacity that's coming onstream that has been announced over the past year or so. There have been several announcements of new ethane, propane cracker facilities, refineries, in our service region, basically extending from Corpus Christi to New Orleans. That will produce good revenue gains for us beginning in sort of the 2015, 2016 and beyond.

And finally, I'll mention Port Arthur. I'll say here the crude oil opportunity still look promising. Move over to Slide 19, I'm sure there's a lot of curiosity about the status of our negotiations toward a long-term agreement, so I will tell you where things stand today.

We are still moving forward in exclusive negotiations and due diligence with our potential partner to build a crude oil terminal in Port Arthur, but we are not in a position to announce a definitive agreement at this time. We can say confidently that there has been no loss of interest or enthusiasm for this project on the part of either KCS or our partner. However, as we were moving to conclude negotiations on what could be a very long-term agreement involving substantial commitments on both sides, it became clear that additional due diligence was required, particularly around environmental and use permits.

In the meantime, and to demonstrate our confidence that we will eventually conclude this agreement, KCS has entered into a purchase agreement to acquire an adjacent piece of property shown on Slide 19 here on the inset on the right that has an existing dock and permits to operate a barge-loading facility. We believe this dock could shorten the time to commercial operations and facilitate the development of this crude oil terminal. So our message is this: we are moving forward and subject to completion of due diligence and permitting, we continue to believe that we will reach agreement and develop a crude oil terminal on the property that we own in Port Arthur.

However, even if there are further delays, there are other options in the Port Arthur area that will allow our crude oil business to grow. So we don't want to convey that there is anything that will tap our growth or limit our growth for the near term while we continue to work on the Port Arthur Crude Terminal.

On Slide 20, we have a photograph of a new crude oil terminal in Beaumont, Texas, which as you can see on the photo on the left, is also very well-positioned to serve the Port Arthur market. In fact, it's about 10 miles away from the site that we're developing on our own property. This facility is owned by the Port of Beaumont.

The rail loop track and connection to KCS mainline was completed just earlier this week. The rail track structure would have the capacity to handle and unload one 120-car-unit train per day. However, at this time, they do not have sufficient storage to efficiently operate at that level. The Port of Beaumont is currently building storage tanks and expect to have capacity for 1 million barrels by the end of 2013, increasing to 2 million barrels by the end of 2014. This will obviously increase the capacity for the rail unloading as they complete those projects.

In addition, they're going to be adding steaming capabilities in 2014, which will allow this site to handle both the Bakken sweet crude, light crude, and the Canadian heavy crude.

The only other comment I'll make here is just to reiterate that the real source of strength here for KCS, our strategic position here, is driven by the market, not by any one facility or particular transaction. And as you remember, we've talked about the number of refineries in this market, the fact that Port Arthur imports 1.5 to 2 million barrels a day of crude oil, and they want to bring crude by rail from both the Bakken region and Western Canada.

So we still feel very optimistic about our position here and the future growth of crude by rail.

With that, I will turn it over to Mike Upchurch.

Michael W. Upchurch

Thanks, Pat, and good morning, everyone. I'm going to start my comments on Slide 22. Our second quarter adjusted operating income increased nearly $19 million, or 12%. The operating ratio for the quarter was 69% compared to an adjusted operating ratio of 70.5% a year ago. That was the quarter we recognized the $43 million onetime credit operating expenses from the elimination of the deferred statutory profit-sharing liability.

Foreign currency positively impacted revenues by approximately $8 million and negatively impacted operating expenses by a similar amount, thus creating no significant impact on operating income during the quarter.

Incremental margins were strong at 54%, and that's despite incurring the burden of fixed equipment costs related to our grain business that suffered significant year-over-year declines in revenue, as Pat previously reviewed.

Interest expense decreased by $6 million, largely the result of our recent refinancing. And I'll spend a few more minutes on that. This refinancing also resulted in a $111 million charge to earnings as a result of debt retirement costs, primarily premiums to retire existing notes, along with other transaction fees and expenses.

As a result of a very volatile peso during the quarter, we saw the currency devalue from 12.35 at the end of the first quarter to 13.02 at the end of the second quarter, which resulted in foreign exchange losses of $22 million.

We have provided more details in the appendix to allow you to see the various components of foreign exchange along with the resulting tax impact. And we hope you find that information valuable in updating your models and understanding our adjusted EPS results. It is important to note that despite recording losses in the current period, on a full year basis, we continue to expect our FX hedge to provide offsetting impact to the other foreign exchange risks, including our tax positions.

And just as an interesting data point, despite the deterioration in the second quarter of the peso, as of yesterday, the forward rate was at 12.65. So all of those losses that you see in the quarter have recovered and were actually back to a $7 million gain on our hedge. So that volatility clearly indicated it was prudent to hedge those risks.

Income tax expense declined $14.2 million, largely the result of lower pretax income levels that are the result of the previously mentioned debt retirement charges.

Our reported effective rate was 47.5%, and I'll walk you through the rate reconciliation in a couple of slides. But we do have further details in the appendix to help you get back to an adjusted rate of 35%, which is consistent with the guidance that we had provided.

Finally, on this slide, reported EPS was $0.14 in the quarter, while adjusted was $0.96. Now I'll provide a few more details on Slide 23.

Shifting to the next slide, debt retirement costs impacted EPS by $0.70 in the quarter, we also had a $0.14 loss in the quarter from the impact of the weakening peso, which represents a loss in our hedge and a loss on our peso net monetary assets.

We did experience a $0.02 benefit to income taxes as a result of our U.S.-denominated debt in Mexico. So accordingly, we saw an $0.08 increase, or 9% year-over-year, in our adjusted EPS.

On Slide 24, you can see a reconciliation of our statutory rate to our effective income tax rate for both the quarter and what we expect for the full year.

During the quarter, we had 2 notable impacts to the effective tax rate. First, as the 12/31/2013 forward rate weakened from 12.6 to 13.1, as you can see in the table to the right, we were required to true up income taxes for the first quarter so that actually helped lower our effective tax rate by 7.7%.

Additionally, our second quarter reported effective tax rate of 47.5% reflects the reversal of a previously recognized tax benefit from 2010, and that's the result of a Mexican Supreme Court decision. So that increased our income tax expense in the quarter by $4 million, or $0.04 per share. And again, we've provided more details on the reported and adjusted tax rates in the appendix.

And for the full year, we still expect to be in that range of 35% to 37%.

Moving to operating expenses on Slide 25, we saw adjusted operating expense increase 4% in the quarter as foreign exchange and personal injuries added $16 million combined to our expenses.

I might point that exclusive of foreign exchange, our expenses increased 2%, which we think is evidence of continued strong cost controls during the quarter.

We saw an 8 -- or a $6 million increase in higher depreciation, resulting from an increased fixed asset base. Fuel prices contributed to another $4 million increase. And then offsetting those increases were $2 million in reduction from maintenance timing, a $2 million benefit from a contract in-sourcing, another $2 million from onetime contract rebates and $2 million lower equipment expenses as a result of our lease buyouts that we executed during the quarter.

Shifting to compensation expense on Slide 26. Compensation expense increased $4 million, or 4%, mainly due to higher headcount, wage inflation and foreign currency. As you can see on the bar chart, headcount did go up 96 FTE, or 1.6%. However, 56 of those FTE related to an in-sourcing of a vendor contract that Dave has discussed earlier, and that will contribute $5 million of overall savings in 2013.

The offsetting expense savings is in purchase services, which I'll cover on the next slide.

So excluding that in-sourcing headcount, our overall average FTE went up less than 1%, well below our 3% volume increase. And it's clear our operations team is managing costs extremely well.

On Slide 27, we experienced a $9 million increase year-over-year -- or decline, I'm sorry, in purchase services expenses. You can see in the table to the right the various components of that, a couple of those that I previously discussed. I think maybe the most important point to make on this slide is going forward, in the third and fourth quarter, is we would expect the average purchase service expense to be about $55 million a quarter.

On Slide 28, fuel expense increased $6 million, largely due to price. Prices increased from $2.78 a gallon a year ago to $3.04. That's really a phenomenon of relatively flat fuel prices in the U.S., but Mexico increasing their fuel prices fairly substantially on a year-over-year basis to get closer to world market prices.

FX also negatively impacted fuel expense by $3 million. And offsetting those increases were efficiency gains that we received in operating our train operations.

On Slide 29, materials and other increased $11 million over second quarter, primarily the result of higher and personal injury related to claims this quarter, and an actuarial credit that we had a year ago.

Despite those increases, the overall number of claims has dropped more than 50% since the end of 2009, reflecting an extremely strong safety record.

Additionally, concession fee payments increased $2 million year-over-year. And this will be the last quarter of a notable negative impact from the increasing rate that we pay the government in Mexico. That increased from 50 basis points to 125 basis points, July 1, 2012.

Shifting to Slide 30, we continue to focus on reinvesting our operating cash flows back into the business to maximize our growth opportunities. During the quarter, we did make decisions to continue to invest in new locomotives and placed an order for 25 new units, which will be delivered by the end of 2013.

This will continue to support our growth in the area that Pat discussed earlier, and allow us to take advantage of tax benefits related to bonus depreciation, which we do not believe will continue in 2014.

In aggregate, we expect CapEx for the year to be 25% now. That's up 1% from the first quarter guidance that we provided.

During the quarter, as Dave noted earlier, we did complete a balance sheet recapitalization by raising almost $1.2 billion of new debt, which funded the retirement of older and higher interest rate notes, along with funding the purchase of $155 million of locomotives that we acquired under lease agreements.

As previously reported, we completed the financing at very attractive rates, which lowered our weighted average coupon to 3.7 and extended our debt maturities to 14 years.

We currently expect the interest expense to be just under $80 million for 2013. And overall, we expect the recapitalization to be $0.15 accretive compared to 2012 EPS.

Finally, our Board of Directors approved a second quarter dividend of $0.215 per share, which was nearly $24 million in the quarter, or about $95 million on an annual basis.

Finally, on Slide 31, we wanted to show to you the impact of the recapitalization on our maturity schedule. Again, we doubled the maturities from 7 to 14 years, so now close to industry average. And our weighted average coupon dropped from 5.4% to 3.7%, which is significantly better than the rest of the class one industry.

Now I'll turn the call back to Dave for final comments.

David L. Starling

Thanks, Mike. Before opening up for questions, I'd just like to reemphasize Pat's message that the KCS growth story is very much intact, and that we're looking forward to a strong finish for the year.

When we laid out the top line forecast for 2013, we stated that the back half of the year would be stronger than the first. That's exactly how it's playing out. As we finish what we refer to as a bridge year, we're expecting to see growing momentum in the months ahead.

So far, and I repeat, so far it looks like there will be a good corn crop. KCS will probably have another 2 months of difficult year-over-year comps, but then things should change dramatically.

Automotive and intermodal look solid over the next months. And as more terminations facilities open in the Gulf region, we expect our crude traffic to continue to grow.

As Pat discussed, KCS is no less committed to the Port Arthur Crude Terminal than we've been discussing for the last year. And we're no less certain that it will eventually be constructed. The need is there and the commitment remains on the part of KCS and our partner to have it built on our property.

It just makes sense to continue the due diligence and environmental permitting process before rolling out the final deal.

Finally, again, as we look ahead, you should expect KCS' operating expenses to remain controlled. And the positive impact of refinancing of our debt will definitely be felt on the bottom line for years to come.

All in all, when you consider the business growth opportunities developing right now, the positive pricing environment and the control we have over expenses, KCS has the opportunity to deliver some attractive results over the next 2 quarters and beyond.

Now with that, I'm going to open it up for questions. Again, one question and one follow-up. I'm open for questions.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question today is coming from Bill Greene from Morgan Stanley.

William J. Greene - Morgan Stanley, Research Division

Dave or Pat, I'm wondering if I could ask you a little bit about the 2014 outlook. So we know this is the bridge year. And next year, a lot of this growth should come in the form of new plant openings and whatnot. Normally, we think about kind of growth on the revenue side leading to much better margins. But actually, with just modest revenue growth, you actually delivered really good margins this quarter. So do we need to keep in mind as the growth ramps up that perhaps you've got to start hiring in a faster way? Or there's going to be a cost element to this that means the margin trend next year, not from a guidance perspective, but just keeping in mind how this growth will need to be funded, if you will, do we need to keep that in mind when we think about margins next year, 2014 being the bigger growth year?

David L. Starling

Well, I'll take it. This is Dave. I'll take a shot at it. Either Dave or Pat can comment. A lot of our network is about length of haul. And I think for the remainder of the year and for 2014, we have a good corn crop this year, the length of haul is definitely going to help us on our overall margins. Coal is something that it's -- we heard that our friends in Omaha said we're high-fiving because it was in the 90s. Well, it's in the 90s in Kansas City as well. And it's been blazing hot in Texas for quite some time. So coal is something that could be a positive surprise for us, and that certainly helps us on the margin side. I don't see any big changes in the cost control. We've been on a steady march of being able to match our crews to trains. So I don't really see any surprises out there, Bill, if that answers your question. And, Pat, you have any more comment?

Patrick J. Ottensmeyer

No, not really. I mean, Intermodal growth, certainly, we have train capacity. We have the ability to grow Intermodal without adding a lot of cost at this point. Obviously, we would expect, again, if we have the kind of grain crop and it looks like we could, corn crop, that the comps and the growth in the first and second quarter of next year and cross-border grain will be very strong, and that will involve new trains. But the margins on that shouldn't cause us any deterioration.

David L. Starling

Just a comment, Bill. We will consolidate our Automotive and Intermodal trains. So when we run those north out of Mexico, we try to take advantage of the efficiencies, consolidate Automotive and Intermodal as much as we can. It helps us fill our trains out, and it also helps us with our density to create more services.

William J. Greene - Morgan Stanley, Research Division

That's very helpful. Just one, then follow up along these lines. You had to gear up for the growth, should we expect the CapEx can come down longer-term, maybe '14, '15, '16, from the levels we're seeing today?

David L. Starling

I think, at some point, you'll see our CapEx come down, but I don't see it for the foreseeable future. As long as we are growing at the rate we are and the opportunities that we have before us, I don't -- and I don't see that. I think you're going to see us continue to spend the CapEx on the growth. Our physical plant is very stable. We don't have any major issues that we have to address on the physical plant. Right now, we spend about 10% on ties, rail and ballast. Three years from now, 4 years from now, that number might come down to 9% because of work we've done, but the rest of that CapEx requirement would be for growth.

Michael W. Upchurch

Bill, this is Mike Upchurch. Just remember a lot of that is equipment to handle this increased volume, locomotives and freight cars to support the auto business. We invested in some new grain hopper cars so it's directly tied to increases in business opportunities.

Operator

Our next question is today is coming from Chris Wetherbee from Citigroup.

Christian Wetherbee - Citigroup Inc, Research Division

Pat, maybe a quick question for you on Port Arthur. I guess, I just wanted to get maybe a rough sense. Can you give us or handicap the potential timing of when you might be prepared to announce an agreement going forward? And then, I guess, in the interim, with the barge facility that you guys have purchased recently, is it fair to assume that post-announcement, you can start moving crude maybe a bit earlier than what we were thinking before you don't necessarily need the kind of 12 to 18 months to build the new facility before stuff starts to move?

Patrick J. Ottensmeyer

Chris, that's exactly why we're kind of in the position we're in because it just became clear that the due diligence here, particularly when you're involving things like environmental work and the Army Corps of Engineer work and all of that, it's just going to take longer to really understand all of that and put it into a specific time frame for when we can start and how long it's going to be to finish. So the good news is, we and our partner are both fully engaged in moving forward as quickly as we can, but these things just take time. I know that's not maybe the most satisfying answer we can give you, but that's just the reality of it.

David L. Starling

Yes, and unfortunately, they're out of our control. You should sit it on a conference call with the Corps of Engineers.

Patrick J. Ottensmeyer

Yes. The other thing I'll mention, Chris, and, again, we've drawn a lot of attention to this new facility and this new terminal, but you just also don't lose sight of the fact that there is other -- there are other facilities. There are other ways for us to move crude oil to Port Arthur. We're doing that. This new Port of Beaumont facility is going to be very helpful in the interim. And so this -- if there are delays in the new terminal on our site, we will still have the ability to grow and move crude oil to Port Arthur during that development period.

David L. Starling

And then another thing, Chris, is fortunately, we're in Texas. We're in the industrial oil patch. It's not that they don't want this business. They do. So it's not -- if you're going to get the permit, it's just how long it takes. So it's just a matter of being tenacious and continuing to work on these permits.

Christian Wetherbee - Citigroup Inc, Research Division

Okay, that's very helpful. And then, I guess, just the follow-up to that and I think you kind of touched on it, but with Beaumont and the potential barge facility, I guess, how do we think about maybe the potential ramp rate of crude in the interim, while you're trying to kind of get the Port Arthur terminal completed or agreed to?

David L. Starling

Well, I think our -- again, you probably see our growth rates as we start to lapse some of the early growth in this. And you saw this quarter, our growth rates are coming down, but still don't feel too bad about 169% growth. And keep in mind, this new facility, once they build the tank, you're just going to have the capacity here very shortly to handle 1 train a day. We're still only handling maybe 2 trains a week or somewhere between 1.5 and 2 trains a week. So we have the capacity to grow still fairly nicely here over the next couple of years, while we're working through the permits and the construction of our own site.

Operator

Our next question is coming from Scott Group from Wolfe Research.

Scott H. Group - Wolfe Research, LLC

So I don't say a lot on calls like this, but great work with the balance sheet over the past couple of years, and congrats there. Mike, help us think -- where do you go from here with the balance sheet? Are there any -- from now that you're investment-grade, are there any leverage metrics or ratios you're targeting or any minimum kind of cash balances we should think about going forward in the years ahead?

Michael W. Upchurch

Well, I think that -- to use the old saying, "The heavy lifting is behind us." I think that's very true and they aren't going to be significant opportunities ahead to refinance other debt, given an average, weighted average coupon of 3.7% in our portfolio. But we have from time to time talked about, even in this quarter, I mentioned some continued buyout of equipment on leases. There'll be some incremental opportunities there, but we are going to continue to invest in our business and drive this revenue growth opportunity that we have, and, of course, continue to look at our dividend on an annual basis. So that's what you should expect from us in terms of the use of cash.

Scott H. Group - Wolfe Research, LLC

Okay. And then one for Pat on Lázaro. So it feels like the past few quarters, there's been -- there were timing issues, there were some customer issues. Is there just something -- or is Lázaro just maturing in the growth rate there just isn't going to be as strong any much -- as strong anymore, and it's more now the cross-border and some of the other parts of the business that are really going to carry the growth going forward? Or do you view this, really, as just a temporary thing and Lázaro can get back to kind of a solid double-digit growth rate going forward?

Patrick J. Ottensmeyer

I think the growth rates, certainly, are going to get -- the comps are going to get tougher because it has -- it's been growing at 30-plus percent for the last 4 years. I do feel like we can continue to grow at double-digit rates there, even given the base has gotten so much larger as we work through some of these -- but you can see the impact of one piece of business. We have this very strong surge of these aluminum pellets coming in from Asia that was driven by a new plant that was stockpiling inventory. So that obviously had a big impact on the comps. But I think with the investment that's going in at the Hutchison facility today, and APM Terminals building out their new facility, and APM has talked very publicly and that we've also been working with them on developing that cross-border, I still think we can still see from double-digit from Lázaro Cárdenas, not 30%, 40% growth, but 10% to 20%. Something more in that range, I think, is reasonable.

Operator

Our next question is coming from Allison Landry from Crédit Suisse.

Allison M. Landry - Crédit Suisse AG, Research Division

I just wanted to ask about the ethylene crackers that are coming online over the next 3 to 5 years. And I guess, how do we think about the destination opportunities for the plastic pellets or other end products? Will it be primarily for domestic use or for export?

Patrick J. Ottensmeyer

We don't really have great visibility on that at this point, Allison. But I think the answer will be both. But some of the companies, the customers that we have talked to are looking at using these facilities for North America, but we've also had and, in fact, we've been talking about some test loads already for moving some of these products through Mexico and exporting through Lázaro Cárdenas to go to Asia. A couple of the companies that are building facilities are also looking at Mexico as a source of demand. So some of these products -- in fact, one of the announcements, the company involved mentioned to us that it was important for them to locate their facility on the KCS network because it fit in to their supply chain and logistics to serve Mexico. So I think it's both. With natural gas prices being low, and that's kind of the driver of all of this activity. The fact is, the United States is now a low-cost producer of these products, and some of these companies are looking to satisfy export demand with this new capacity. But it's still a little too early. I think there's still some word on the street that maybe all of the facilities that have been announced ultimately won't be built. If you kind of do the research and look at the specifics and the announcements, it all adds up to a lot of new capacity. So maybe some of these get combined or joint ventured or some of them don't eventually get built, but it's going to be a big deal for us in the next several years.

Allison M. Landry - Crédit Suisse AG, Research Division

Great. Sounds great and it sounds like it would be a really good backhaul opportunity for you guys. Maybe just switching gears a little bit and thinking about the strategy to convert some of the equipment lease contracts. Is there any way to handicap how we can think about the potential margin improvement in 2014 from this strategy?

David R. Ebbrecht

No, there really isn't, Allison. As you can probably appreciate, there are so many leases with many different lessors that it becomes a negotiation by lease agreement and until we really get through that process, there's not an ability for us to give you any kind of guidance on that, but there are opportunities.

Operator

Our next question is coming from Tom Wadewitz from JPMorgan Chase & Co.

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

I wanted to ask you on the Beaumont terminals. That sounds like that provides a nice ramping capacity, a potential ramp in volumes and, I guess, a bridge to when you eventually get the Port Arthur, that's obviously going to be a source of bigger volume growth. What's your competitive position look like at the Beaumont terminal? Do you expect to capture a large portion of that, let's say it's a train a day at some point in 2014? Or is that something where BN and UP are going to get a piece of that business and we should think about it as maybe being less than a train a day?

David L. Starling

This is Dave, Tom. We'll all be competing for it. We definitely have had a lot of conversations with the operator. We're a natural for the Canadian, as far as a gateway coming down over the CP from Kansas City or the Jackson with the CN. So we feel like we've got a really good opportunity there. We can be competitive rate-wise. So we're going to have to compete for it, but we don't have a problem with that.

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

So it probably depends on the mix of what goes in there. If a lot of it's heavy oil, you might win. If a lot of it's Bakken, then maybe BN would win, or something like that?

David L. Starling

Some of the Bakken could still come off with a CP, but I would say we definitely have an advantage over the heavy -- over the Canadian.

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

Okay. All right. Great. And then I guess the second topic. As you look to 2014, how do you think we ought to think about your coal business? Is this a -- because, obviously, coal was a lot better in the second quarter. Is coal, when you look out to 2014, 2015, kind of a flattish business for you after you maybe get some rebound second half of this year? Or how should we think about that in terms of forecasting a kind of a multi-year basis?

David R. Ebbrecht

I think flattish is a good way to describe it. We -- there are only 9 coal plants on our network and we serve 8 of them. So the opportunity for new plants -- of course, that's not just with us, but the opportunity for new plants just isn't that bright. So I think flattish is a good way to describe it, Tom. It should be -- certainly, it shouldn't be as bad as we saw in the spring and early summer of last year. We think that was really the depth of the coal business. We did get some good news. You probably may have seen this that AEP did get permission and authority from the Arkansas regulatory agencies to put scrubbers in their flint creek plant, so -- and that's one that we serve. So that is a bit of good news on our coal as far as our coal portfolio is concerned.

David L. Starling

And, Tom, there's always chatter about export coal through Port Arthur. We're not working on anything definitive right now, but that's an opportunity that's out there.

Operator

Our next question is coming from Matt Troy from Susquehanna International.

Matthew Troy - Susquehanna Financial Group, LLLP, Research Division

To your earlier point about the grain length of haul being significant in fourth quarter to next year, I just wanted to ask more broadly. You've talked in the past about extending some of your northern-bound traffic and the reach in which you handle it into the U.S. I'm wondering what are some of the commercial milestones there and how the other railroads and IMCs. Has their behavior change in terms of commercial willingness? And since you seem to be holding a pretty attractive growth business, how would you prioritize or basically allocate that opportunity? I don't want to put all your eggs in one basket with one IMC or the other, but how do you approach that and how is the other partner's flexibility towards you changed over the course of 2 or 3 years? What's the roadmap look like??

David R. Ebbrecht

I think I'll answer your question or try to answer your question, but as far as the -- the underlying strength here is the fact that this is a very large market. You've heard us talk about that. The characteristics of the market, nearly 3 million trucks a year cross the U.S. and Mexico border that go to markets that we serve directly or we are developing interline service with other rail carriers. The good news is everyone has kind of seen that and realized that, that market is there and it's ready for conversion. And the investments that we have made on our network have really made it possible to convert. So our rail partners, we feel, are very engaged. Our trucking partners are very engaged. What we're going to focus on is continue to develop the capacity and the network, the terminals, the line capacity and improve the train service, and, hopefully, grow with as many partners as we can, rail partners and IMCs and trucking partners.

David L. Starling

And to answer your question on grain, the 2 new origins, Jacksonville and Corder, do give us more link of haul on that grain movement and they make it on all-KCS move, where before, we would bring that down out of Council Bluffs on the haulage and then handle that in Kansas City. So we did extend our length of haul when these 2 new facilities opened.

Matthew Troy - Susquehanna Financial Group, LLLP, Research Division

Okay. And I guess, the follow-up would be just to clarify. I guess, what I was referring to is just if we will go back 5, 10 years, the other railroads might have been a bit more skeptical about your Mexican transporter strategy. And today, it seems they may be more beating a path to your Corder partner. If I think about how that commercially evolves over the next 2 years, is it fair to say you're just going to be opportunistic on a, perhaps, OD pair or lane basis as opposed to expecting kind of big partnership-type announcements to accomplish that end?

David L. Starling

Yes. I think we discovered a few years ago that we are better off working with all of the railroads. It's what we call getting singles and doubles and, occasionally, a triple. And we might knock one out of the park, but we like to work with all of our connecting carriers. There's some connecting carriers that are a no-brainer. They're absolutely end-to-end. So it's real easy for us to engage with them. There are no conflicts, and that's what we're doing. I mean, we've got a great partnership with E&S over the speedway. And we certainly work with them on a regular basis. But we also work with CSX over St. Louis. So -- and we work with the 2 Canadians equally. CP needs us to get to the Gulf. CN already has Gulf destinations, but they need us to get to Mexico. So I think you're finding the rail industries working very well together to meet the customers' needs and to take advantage of the growth. I've read a consultant study the other day that said that the rail traffic in the U.S. will grow 88% by 2035. So I think you're going to see the railroads working better and better together where it makes sense for both companies.

Operator

Our next question is coming from Brandon Oglenski from Barclays.

Brandon R. Oglenski - Barclays Capital, Research Division

I wanted to come to the auto business in 2014. Is it possible to get an update on the ramp in production at existing facilities and even the new facilities that potentially could come online next year, and where those contract discussions are, if you guys can provide any updates on the auto side?

Patrick J. Ottensmeyer

Yes. The Nissan plant's going to open this year, then their production will ramp up. Obviously, these new plants when they open aren't going to go to full production levels immediately. But the combination of Nissan, Mazda and Honda, those 3 plants alone, I think, in terms of the capacity that they have stated, is about 700,000 vehicles, 750,000 vehicles. And again, it will take some time for that to ramp up. So you're not going to see that -- all of that capacity be used initially. We've gotten some indications from all 3 of those as to the awards -- the transportation awards. We feel we are, as we've said in the past and we won't be specific about the market share percentages, but we are getting our fair share or more than our fair share because, again, those vehicles in a lot of cases, 70% to 80% of those vehicles that they're producing are going into the U.S. and Canada. And they want to move over the Laredo gateway. They want to move the most efficient way to get into the population centers in the Southeast and the East. So again, we're not going to be very specific about individual customer ramp-ups or market share or volume projections on a plant-by-plant basis, but when Dave's described 2013 as a bridge year to the new auto plants, I think it's safe to say we're expecting our growth rates in some of those areas to be higher next year than they are this year. And remember, it's not just finished vehicles. What we call Automotive when you break out our business units is just primarily finished vehicles. This will also drive growth in Intermodal with auto parts, drive growth in steel and plastics and all of the other things that are related to finished vehicles.

Brandon R. Oglenski - Barclays Capital, Research Division

Okay. And along similar lines on the Intermodal business, we've heard your peer yesterday talking about developing a new Mexico gateway, which is across the Mexican border to convert more highway traffic from Mexico to Intermodal service in the U.S. Is that a long-term competitive threat in developing maybe a second major border crossing? Or is that not something that you're too concerned about relative to Laredo?

Patrick J. Ottensmeyer

We're not terribly concerned about it relative to Laredo. We will compete for some of that traffic. But I think, as you heard from their comments, it's a big market. It's good to hear them talking about the market opportunity with the same kind of level of enthusiasm that we are. And we will compete for some of that business. They will win some, we will win some, but there's enough to keep us both happy and probably keep us both pretty excited for some time to come.

David L. Starling

A lot of this traffic just geographically goes in to their network. So some of these crossings would be west of our network. So we're all going to need to improve our velocity and have more access into Mexico. I mean, it's just such a growth opportunity. And we interchange a lot of traffic to the Union Pacific at Laredo, and we work with the UP to make that more efficient because we want to handle that business that we can't handle in the U.S. What we can't handle in Mexico that interchanges to the UP, we also will work with the BN. So we're a neutral country. We want to work with anybody where we have a freight opportunity, and that's the best thing for our franchise.

Operator

Our next question is coming from Jason Seidl from Cowen Securities.

Jason H. Seidl - Cowen Securities LLC, Research Division

I'll just keep it to one here since we're running a little bit long. Getting back to coal, you had some of those plants come back online, have they been taking a decent amount of business from you? Or are they fully up and running down in Texas now?

David L. Starling

They're -- yes and yes, they're taking good business. We've seen a strong growth -- actually, quite frankly, stronger than we expected in the second quarter. You may have seen that in some of the trade press that Luminant did file their required regulatory notice that they may close down 2 units at Monticello beginning in October. What they've told us is that and what our understanding of that is that they have to file that notice if they want to keep their option open to close. But they -- ultimately, the decision to shut those units down will depend on weather, natural gas prices, et cetera, et cetera. So the fact that they filed that notice doesn't mean that they will close those plants, but they can only close them if they file it. If they file it, they don't have to, but they can't close them if they don't file. So -- if that makes any sense. But the answer to your question is yes. We saw a big surge in the recovery in our coal business as those plants came up back online. And we are praying every day for hot weather in the South.

Jason H. Seidl - Cowen Securities LLC, Research Division

You can have some of ours up here, I can tell you that much.

David L. Starling

And rain in the corn belt.

Patrick J. Ottensmeyer

Rain in the corn belt.

Jason H. Seidl - Cowen Securities LLC, Research Division

Yes, exactly. Pat, in terms of the length of haul on that business to those plants, is that sort of about average with the rest of your coal business?

Patrick J. Ottensmeyer

No, it's longer. And that's one of the reasons I mentioned in my comments that the RPU in energy was up 12%, and it was driven by the 2 long haul plants that we have both experiencing larger -- higher growth than the other plants. So we had a mix shift where more of our business was long haul.

Jason H. Seidl - Cowen Securities LLC, Research Division

So as long as they don't close those plants in October, then we should still see that RPU increase in the second half of the year?

Patrick J. Ottensmeyer

Is that your third question?

Jason H. Seidl - Cowen Securities LLC, Research Division

Yes. No, it's still the same one, it's just a, b and c.

Patrick J. Ottensmeyer

Oh, okay. Yes.

Operator

Our next question is coming from Ken Hoexter from Merrill Lynch.

Ken Hoexter - BofA Merrill Lynch, Research Division

On the grain contracts that you've got coming online, are you seeing that -- is the timing still on target in terms of launching that business in the -- over the summer here?

Patrick J. Ottensmeyer

Yes, in fact, a little bit ahead, actually. We, as I mentioned, we departed and loaded and departed the first 100-car train from the one in Jacksonville, Illinois Wednesday. And we've got a grand opening events scheduled for both of them here in the next few weeks, so they will both be up and active by the time the harvest hits Missouri and Illinois.

David L. Starling

We were talking yesterday, grain prices are pretty high. If you've got a big harvest coming in or record harvest, there may be some improvements here in the next couple of months to start to clean out some of the country elevators to get ready for the new harvest. So you could actually see somewhat of a blip as speculators that have been hanging onto their corn waiting to try to squeeze the best price out of it. It might cause a little bit of a surge, we're hoping.

Ken Hoexter - BofA Merrill Lynch, Research Division

And then just a follow-up on the -- Mike, you've talked a lot about switching over some of the leasing contracts. I'm not sure if this is what you were addressing before. But in terms of getting additional cost savings, is that still a large potential in terms of the locomotive and car contracts that you had in Mexico? Or is that already been in process and converted?

Michael W. Upchurch

No, there's still a good opportunity for us going forward. And as we've talked in some of the conferences, our estimates may be 200 to 250 basis points, but that's going to be over a 5- to 8-year period as these leases expire.

David L. Starling

I think we've talked in the past that we're about 80% leased, 20% ownership. Our first move would maybe to get that needle over to 50-50, a little closer to the industry. So we currently own now, I think, about 80% of our locomotives and only have 20% left on lease. So we have a lot of opportunities. And, again, hard to give you a solid number in a win because it's all about negotiating with these leaseholders on the conversion.

Operator

Our next question is coming from Justin Long from Stephens.

Justin Long - Stephens Inc., Research Division

Any update on the rail line that's being built to give your network access to the Port of Veracruz? I believe that you said before this is something that should be completed in 2014. So if that's still the case, how should we think about the timing related to any new contract wins at this port? And are these conversations you're having today or would you say it's still 1 year or 2 away from happening?

Patrick J. Ottensmeyer

Well we have ongoing conversations about Veracruz. So keep in mind, we have access to Port of Veracruz today. It's not great access, but it's access. The bypass rail connection that the port is building will improve that. And that is still being constructed, and what we're hearing is that it's going to be completed in the back half or fourth quarter of next year. We're actually going to go down. Dave Ebbrecht and Dave Starling and I are going be down at Veracruz next week to meet with the Port Authority to kind of get their latest update. So we do have access to Veracruz today. It's not great access, but -- and our market share isn't great. But one of the reasons that we struggle to compete with Veracruz, quite honestly, is because it's very close to Mexico City by truck. So a lot of the vehicles and intermodal containers and the business that comes to -- in and out of the port, we just have more difficulty competing with truck. The grades are difficult, moving from Veracruz to Mexico City. And then the final thing that we just want to get an update and get an understanding of in terms of assessing the market there is this rail access or this rail connection will improve our ability to serve Veracruz. But the growth at Veracruz and what the port is talking about will depend on a lot of private capital coming in, in the form of concession operators who will commit to build the new auto terminals and intermodal terminals and other things that they are planning. So it's unclear where they stand on -- regarding progress on that investment, attracting those concession operators and attracting that capital. So we'll hope to get more information about that when we visit with them. But it's all -- as you can tell from some of those comments, it's hard to predict. It's hard for us to really assess the long-term opportunity and timing because there are so many questions about where that capital is going to come from and when it's going to be invested.

Operator

Our next question is coming from Anthony Gallo from Wells Fargo.

Anthony P. Gallo - Wells Fargo Securities, LLC, Research Division

As the auto business ramps in late 2013, '14 with -- in Mexico, are there any noteworthy changes in either length of haul or the type of equipment that you're going to use that will either change the RPU dynamics of your auto business or the profitability of your auto business?

Patrick J. Ottensmeyer

There will be some. The new plants that we're serving and the contracts we're talking about, we are gaining new cross-border opportunities from all of those plants. But I don't think you'll see a meaningful or sort of significant jump in RPU immediately because the vast majority of our business is still under contract in Mexico with some of the established manufacturers. On the equipment side, we are buying equipment, so some of our CapEx -- we bought 150 new AutoMaxes and we very well could buy more as that business grows, so we will have some capital requirement since they're not going to be step function-type capital requirements. It's all going to be incremental and fit in to our overall targets. But we have invested and we will continue to invest in equipment to support that business. But as far as length of haul or any significant big jumps in CapEx to support that business, we just don't see it.

David L. Starling

We are improving our length of haul into the U.S. on a lot of this business. But we'll move on the KCS franchise to the gateways in Kansas City and various other points. So we did win more cross-border.

Anthony P. Gallo - Wells Fargo Securities, LLC, Research Division

So initially, it's volume and then eventually, it could be RPU as well.

David L. Starling

Correct.

Operator

Our next question is coming from Keith Schoonmaker from Morningstar.

Keith Schoonmaker - Morningstar Inc., Research Division

So clearly, the cross-border and the motor is going incredibly well and you mentioned significant auto plant development in Mexico network. Maybe, José, can you identify other plant builds in the next several years as we think about near shoring that my add incremental volume as well?

José L. Zozaya

There are -- in the automobile industry, there are other companies that are now making the practice [ph] to come to Mexico also, not from Japan, but from Europe, and they are having serious talks on establishing it in Mexico also. So we see that as a very interesting future investment. And also, the foreign investment -- direct foreign investment coming into Mexico, it is suspected to be doubling next year. They are talking about $40,000 billion coming to Mexico as direct foreign investment in plants and manufacturing especially, mainly in manufacturing.

Keith Schoonmaker - Morningstar Inc., Research Division

And then, José, is it principally in certain verticals? Or is it just diversified manufacturing in general you're seeing?

José L. Zozaya

It's diversified. Of course, some will be auto parts manufacturing companies and also electronics.

Keith Schoonmaker - Morningstar Inc., Research Division

Great. And just one quick follow-up. Given your Panama operation, can you share any expectations for traffic shifts or are there still many unknowns at this point regarding the expansion, like actual tolls, that you're just taking a wait-and-see at this time?

David L. Starling

This is Dave. Since that was my former project, I'll answer that one. We do not think that the widening and opening of the canal will have any negative effect on Panama Canal Railway. In fact, we think the ships, of course, are going to get larger. There's discussions about another new port on the Pacific side, which would give you 2 on the Pacific and 3 on the Atlantic. So we see the opportunity for more transshipment. And we know the canal rates, the transits, will increase. And since the Panama Canal is a cost-avoidance model and also makes Panama look like one port, we think we will be advantaged by the opening of the new canal.

Operator

Our next question is coming from Tyler Brown from Raymond James.

Patrick Tyler Brown - Raymond James & Associates, Inc., Research Division

Just a quick question on grain. Can you guys break down the mix of your grain franchise, maybe between that local feed grain and the exports? And then any color on how much each of those franchises were down?

Patrick J. Ottensmeyer

Well, the export grain, the cross-border grain was certainly down most. As far as breaking down, again, based on the depressed levels of grain, it might be more accurate and more meaningful to kind of give you some feel for what it should be in a normal course. And our cross-border grain, as a percentage of our grain business, is going to be more than 50%. But...

Patrick Tyler Brown - Raymond James & Associates, Inc., Research Division

That's very helpful. So when we think about it from a yield perspective, is there any help you can give us on the magnitude of the RPU difference between the 2 franchises? I mean, is it safe to assume that, that export piece is maybe double the length of haul?

Patrick J. Ottensmeyer

Yes, that's certainly safe. And if you look at the rest of our grain business outside of the cross-border, it's really -- it's a lot of manifest service. It's a lot of short-haul destinations. It's a very diverse, shall we say, portfolio.

Patrick Tyler Brown - Raymond James & Associates, Inc., Research Division

Okay. So in aggregate, did the length of haul of the whole railroad fall this quarter? Or was coal and Intermodal enough to offset the export grain?

Patrick J. Ottensmeyer

Sorry, can you...

Patrick Tyler Brown - Raymond James & Associates, Inc., Research Division

Just the length of haul of the whole railroad in aggregate?

Patrick J. Ottensmeyer

No, no.

Patrick Tyler Brown - Raymond James & Associates, Inc., Research Division

It didn't fall?

Patrick J. Ottensmeyer

No. I mean, the big impact would have been in the cross-border grain. Our coal -- our length of haul in coal was actually up, and that drove the RPU increase. Our length of haul in Intermodal was up so our length of haul particularly as we started to see a reversal and started to see a growth trajectory in all of our cross-border businesses, excluding grain, length of haul is going to go higher.

David L. Starling

Tyler, we don't have that number in front of us, but we can validate that, and Allison can probably help you with that later. But we don't think it did.

Patrick J. Ottensmeyer

It didn't.

Operator

Our next question is coming from Jeff Kauffman from Buckingham Research.

Jeffrey Asher Kauffman - The Buckingham Research Group Incorporated

For Pat and José, can you differentiate -- if I was to look at the Mexican economy and try and segregate it between the business that's being driven to be exported into the U.S. up in the northern part versus what's actually going on domestically within the Mexican economy, where we talk about Lázaro slowing, industrial production kind of flattish, what is going on? I know there's some talk that maybe things just slowed down around the election, and then the changeover in the government, but how is the Mexican economy x the export part of that doing?

José L. Zozaya

If you want, Patrick, I can give just a general concept on that, and then you can follow up on that?

Jeffrey Asher Kauffman - The Buckingham Research Group Incorporated

Sure.

José L. Zozaya

Regarding your question, the first half of the year, it was attribute to the new government that withhold a lot of the expenditure in order to put some order, as they call it, on the budgets. They are making the new -- the plans for the investments from the government, and that made -- this was told to me by a banker here in Mexico, that made a big stop on the economy because of the government expenditure. They suspected that in the second semester, the government will start making all this public investments, and the budget will start flowing and the economy will run again as it was planned. Pat, you want to follow on that?

Michael W. Upchurch

This is Mike Upchurch. Let me just make a quick comment. We follow about a dozen different economic indicators that have various degrees of correlation to our carload volumes. And there are 2, in particular, the basic basket index and the PMI export numbers that have very high correlations to our carloads. And I guess, you're right, there's been some flatness over the last 6 months. But the good news is we've seen some recent tick-ups, and that would give us an encouraging sign for the back half of the year that our carload volumes will accelerate. Plus, I would comment that we've seen an acceleration in the first half of July over second quarter on our volumes.

Jeffrey Asher Kauffman - The Buckingham Research Group Incorporated

That's very helpful. So the point is that it appears to be turning at this point?

Michael W. Upchurch

Yes. That would be our early indication, yes.

Operator

We have reached the end of our Q&A session. Mr. Starling, I'd like to turn the floor back over to you for closing comments.

David L. Starling

Thank you. I know the call has gone long, but a lot of great questions. And we look forward to seeing you next quarter. And, Bill, if you're out there, congratulations to you and your daughter and the family, and don't drink too much wine before you make your remarks at the wedding, okay? Have a nice time.

Operator

Thank you. This does conclude today's teleconference. You may disconnect your lines at this time, and have a wonderful day. We thank you for your participation today.

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