Canadian National Railway's CEO Discusses Q2 2011 Results - Earnings Call Transcript

Jul.26.11 | About: Canadian National (CNI)

Canadian National Railway (NYSE:CNI)

Q2 2011 Earnings Call

July 25, 2011 4:30 pm ET

Executives

Jean-Jacques Ruest - Chief Marketing Officer and Executive Vice President

Keith Creel - Chief Operating Officer and Executive Vice President

Claude Mongeau - Chief Executive Officer, President, Director, Chairman of Donations & Sponsorships Committee and Member of Strategic Planning Committee

Luc Jobin - Chief Financial Officer and Executive Vice-president

Robert Noorigian - Vice President of Investor Relations

Analysts

Bascome Majors - Susquehanna Financial Group, LLLP

Walter Spracklin - RBC Capital Markets, LLC

William Greene - Morgan Stanley

David Newman - Cormark Securities Inc.

Turan Quettawala - Scotia Capital Inc.

Garrett Chase - Barclays Capital

Thomas Wadewitz - JP Morgan Chase & Co

Jacob Bout - CIBC World Markets Inc.

Christian Wetherbee - Citigroup Inc

Fadi Chamoun - BMO Capital Markets Canada

David Vernon - Sanford C. Bernstein & Co., Inc.

Steven Sherowski - BofA Merrill Lynch

Scott Group - Wolfe Trahan & Co.

Jason Seidl - Dahlman Rose & Company, LLC

Cherilyn Radbourne - TD Newcrest Capital Inc.

Operator

I would like to remind you that today's remarks contain forward looking statements within the meaning of applicable securities laws. Such statements are based on assumptions that may not materialize and are subject to risks described in CN's second quarter 2011 financial results press release and analyst presentation documents that can be found on CN's website. As such, actual results could differ materially. Reconciliations for any non-GAAP measures are also posted on CN's website at www.cn.ca. Please stand by your call will begin shortly.

Welcome to the CN Second Quarter 2011 Financial Results Conference Call.

I will now like to turn the meeting over to Mr. Robert Noorigian, Vice President, Investor Relations. Ladies and gentlemen, Mr. Noorigian.

Robert Noorigian

Thank you for joining us for CN's second quarter financial results call. I'd like to remind you about the comments that have already been made regarding our forward-looking statements.

With us today is Claude Mongeau, our President and Chief Executive Officer; Luc Jobin, Executive Vice President, Chief Financial Officer; Mr. Keith Creel, Executive Vice President, Chief Operating Officer; and J.J. Ruest, Executive Vice President, Chief Marketing Officer.

After the presentation today, we'll take questions from those of you who are listening on the call. Could you please identify yourself when you're asking the questions. In order to be fair and so we can get through the 30 analysts that are following us at the present time, would you limit yourself to one question.

Thank you very much. And now, it's my pleasure to introduce Claude Mongeau, CN's President and Chief Executive Officer.

Claude Mongeau

Thank you, Bob and thank you, everybody, for joining us on this call. We are going to take you through our second quarter results. These were very good results. I'm particularly pleased, given the adversity we faced, with the solid growth that we were able to deliver across-the-board.

J.J. will give you more details. But adjusting for currency, we have revenue growth of 11% and good growth across all the business units. And I'm very pleased that our supply chain collaboration is working for us. It's working in every segment but in particular in Intermodal sector, we are seeing very, very solid growth on the back of our end-to-end supply-chain approach. So this bodes well in terms of the balance of the year. Not done here, but we'll comment on what we see in terms of the environment. But certainly, our ability to lead the industry in terms of carload growth in the second quarter is a very solid proof point that our strategy is working.

It's working on the top line, but it's also working in terms of operational excellence. I have to say Keith and his operating team did basically a bang-up job. It was an exceptional quarter, protecting the integrity of our network and the reliability of the supply-chain we served. We did face, like every other arrow, significant challenges from flood in the southern part of our network to the western part of the network, even the east, had some exceptional flooding to fires to mudslides, all of this coming and kept coming at us throughout the quarter. But we were able to keep very, very solid operational metrics, and importantly, do so to protect the service and the reliability to our customers. And when you add it all up, this is the key -- one of the key reasons we were able to come in with an operating ratio of 61.3%, which is essentially in line with the performance we achieved last year.

In terms of earnings growth, up 12%. Luc will give you some of the details, but 12% despite the headwinds that we faced based. It's a very solid performance and it was backed up by equally solid free cash flow performance. At midyear, we have delivered $823 million of free cash flow, which is certainly indication of the solid results overall that this team has been able to deliver in the second quarter and in the first half in general.

Keith, with that, can you go over the operating results?

Keith Creel

Sure. Thanks, Claude. Operationally coming out of a challenging weather-related first quarter, our team's agenda was purely focused on taking advantage of what we expected to be the operating conditions that are much more favorable, which would allow us to restore our service and productivity metrics, to now let our performance standards clear any traffic backlogs we had at the time and optimize our network fluidly. But little did we know what mother nature had in store for us. The snow melted but the weather challenges did not abate.

Regardless, I'm happy to report that this team succeeded protecting the integrity of our network for our customers by demonstrating the tenacity and the sense of urgency required to ultimately produce these results.

I'm especially proud of the relentless commitment and the sacrifices, the contribution of the engineering team, who had what I certainly hoped, was an unusual number of severe weather-related disruptions to deal with throughout the quarter. To deliver these acceptable operating metrics in spite of this adversity, protect the integrity of the network and do it while delivering to most what was an unimpeded service is a testament to the key enabler of success that we have at this franchise, and that's the railroaders that we all work with, all 22,000 of them.

Let's take a moment and look at the key metrics. We monitor our success with an interim report to the market on a quarterly basis. So here you got the Q2 year-over-year comparisons for the key operating metrics, which most of you all recognize by now. These metrics reflect some of the biggest economic levers we have on the business. If we manage these things properly, I know that we're delivering good service at low cost.

So starting with the upper left, we're reading across train mode. As we measure in GTM's per train mile, continued to increase in the second quarter versus 2010. This reflects our eco-train strategy, investments we made over the years in starting [ph] extensions and to distributed power, and our ongoing focus on managing the available traffic we have onto our existing service plan. This continues to be one of the most powerful levers we have that reflect maximum utilization of road crews, locomotives and fuel.

From the cars per yard switching hour, essentially, we had a flat performance, while terminal dwell continued its positive trend. This shows that our terminals continue to process well while dealing with the increase merchandise cargo widening of about 5%.

Looking at the bottom row, trailing GTM's per total horsepower, it's off about 6% year-over-year, but this reflects in part our focus on erring on the side of service and revenue generation with both our locomotive and car fleets and in part with the numerous weather-related disruptions we faced this quarter.

Car velocity is up about 2.5% year-over-year or quarter-to-quarter driven mainly by changes in intermodal, train speed is down some tied to the weather-related issues we talked about, plus the focus on clearing our import containers from our ports rapidly.

And on the lumber side, the switch on the [indiscernible] the shorter-haul, Vancouver to Rupert to export flows versus some of the longer hauls that we enjoyed last year.

Train speed finally off a singular amount impacted by the disruptions that I talked about, the noise in the system. Both of these, the last 2 metrics will recover as the weather and the flooding is behind us and our infrastructure work that we're engaged in now in Alberta, Northern Ontario and in the new EJ&E starts to kick in, in late Q2, Q3, Q4.

So rest assured with the weather behind us, we'll do what we do best and that's the relentless pursuit of driving improvements in our operating metrics while we manage our cost in line with the business that J.J.'s team delivers.

Now going to Slide 7. I know you're going to ask the question, what enables CN to produce this level of performance in the face of some of the significant adversities that we continue to deal with, and it continues to be our ability to execute our precision railroading operating model, the foundation of our success in the past that remains at the core of our leadership and our business strategy as we evolve as a company.

It's been key to helping us battle mother nature in both the first and the second quarters, and it will still be the foundation to the service and operating improvements. We expect that to convert and make it through the balance of the year unfolds.

A couple of those examples in the field productivity front, continue process in technology improvements, investments in VP and sidings has allowed us to scratch out another 1% gain in field productivity year-to-date on top of the 7% gain we made over the past 2 years despite the disruptions we faced in the second quarter.

And again, despite the weather workload -- the work-related workload inflation engineering forces year-to date, our engineering OpEx is still within 1% of last year's performance, which is well within wage and material inflation. Our plan to execute, measure and identify improvements and start all over again mindset, which is the foundation of precision railroading, continues to produce additional opportunities, for we can fine tune our reliability, improve service and productivity, a couple of those that we're converting now.

Engine help monitors rail flaw through electronics, investment on our locomotives, which gives us the predictive nature to when the locomotive might fail before we allow it to fail within our network and affect our fluidity. On the same front, rail flaw detectors that we're deploying, leading-edge technology, which we're confident will allow us to identify suspect wheels before they fail in trains, as well affecting our network, improvements in rail flaw detection in our deployment strategies and finally leveraging technology again to drive compliance, helping us on the fuel front on the locomotive policies.

And on the innovation side, myself and our team, as we've talked in the past, we continue to invest time, working with J.J.'s team and our supply-chain partners to integrate our practices -- best practices across the supply-chain. I'm particularly excited about some of the supply chains' visibility tools we developed in key sectors such as export coal, iron ore and most recently potash as we are utilizing in the market.

This partnership approach drives end to end efficiencies and performance for all the supply-chain participants, be it the mines, terminals, the ports, and our franchise. We strongly believe that when we succeed, our customers will succeed. We're convinced these efforts have and will continue to have a long-term benefits for the supply-chains in which we participate.

And now let me turn it over to J.J to hear about how these efforts are paying out, growing our franchise one carload at a time.

Jean-Jacques Ruest

Well, thank you, Keith, and good afternoon to all of you. And I really especially want to thank the engineering forces of CN, who put us back in business very quickly every time we have a bit of a service disruption.

All of our business units posted revenue gain this quarter, the second quarter revenue was up 8% or 11% on the FX-adjusted basis. Breaking this down, the volume was up 4.5%, the RTM increased 5% and the carload increased 4%. The main volume drivers for the last quarter were intermodal, grains field and iron ore.

Same-store price was a solid 4%, in line with the first quarter, but also above last year's run rate. As a reminder, same-store price apply on approximately 3/4 of our book of business after the removal of the fuel revenue.

Fuel surcharge was up 3.5%, mix was basically flat and exchange rate reduced revenue by 3%. The Canadian dollars was $0.06 above the same timeframe last year.

Now looking at the first quarter in detail, I'm on Page 9, and all of my comments are going to be on the FX-adjusted basis. Starting with petroleum and chemicals, which revenue was up 8% and chemicals were handling increased volume across most segments, mostly applied like chemicals. On the petroleum side, we had greater volume of refined products, but largely offset by the loss of condensate to a new pipeline. So therefore, combined P&C volume was especially flat for the quarter.

Metals and minerals revenue was up a strong 21% excluding iron ore. I'm going to talk about iron ore separately. Metals and minerals volumes was up 12% in RTM term and 3% in carload term.

Steel shipment were robust. They were driven by a strong market recovery. We had some market share gains and we also had a recent fleet acquisition.

Steel slabs, steel billets, nuggets and scraps did very well during the quarter. We're still operating at a rate averaged 74%.

The oil and gas sector is a good sector for CN, where a strong frac sand and pipe volume towards -- to the shale gas drilling area, and we will participate in southern pipeline projects and as well as we are attracting new frac sand production capacity in our CN line in Wisconsin.

Despite the permanent closure of 2 smelters in the last year, which resulted in the loss of metal shipments, we benefited from new long-haul zinc and copper concentrate and we gained market share. The net result of this industry restructuring has been positive for CN.

Iron ore revenue was up 25%. We had very strong carload growth and RTM growth in iron ore across our customer base.

The forest product revenue was up 10%, our carload were up 6%, while the RTM were down slightly.

The wheat power export group was 50% in the quarter on the back of new production capacity all in British Columbia. We gained in containerboard volume against the truck. We also had very strong Chinese demand for lumber to the West Coast, which in fact were up 40% from Q1. That was useful to offset the persistent weakness in U.S. housing start.

We have strong global demand for wood pulp, which increased our export volume to Asia. This slight negative RTM in forest product is a result of the industry restructuring itself for the growing market of Asia, which is less RTM for carload than the lumber and pulp market in the United States.

Automotive volume was up 6%. We had a 7% increase in carload reflecting the improved performance of the Big 3. However we did experience a reduction in RTM for the Automotive sector, and that was due to getting less long-haul carload out of Vancouver, which is related to the tsunami and Japan as well as the nonrenewal of the legacy contract out of the Vancouver port.

The coal volume overall in Canada and U.S. was up 8% in revenue. We had good demand for export coal. Our West Coast volume did very well. In fact our West Coast coal volume was up 20% in RTM terms, all that despite the much lower carload on the West Coast, resulting from the new Teck interchange contract.

We also had some new PRB export via Rupert during the quarter. Our U.S. terminal coal suffered low volume from U.S. utilities basically high inventories of coal, cheap natural gas and overall lower burn rate.

The grain and fertilizer revenue was up 16%. We had robust overseas demand for Canadian grain, coupled with strong U.S. corn and soybean export. We also had a Q2 increase in fertilizer, which was reflected by the delayed potash application, basically weather-related. Grain prices are high, and the farmers want to use more fertilizers.

Overseas intermodal was up 16%. We gained volume with our new supply-chain service, where the CN focus starts right from the time the overseas box hit the dock to the time it is picked up in the cities served by CN.

Our volume growth in the West Coast, by that I mean Vancouver and Rupert combined, exceeded the North American West Coast port average. Domestic intermodal volume was up a strong 14%. We were basically up in volume in all segments of the domestic retail.

Our nonrail volume was up 2%. We had a nice increase in the CN Great Lakes vessel lead activities, as well as the CN PL trucking, which was offset by a decrease in our freight-forwarding activities.

Now returning to what's ahead of us, the outlook. I'll go on Page 10 for the Intermodal. Intermodal is the core growth engine of CN. We are refining constantly our port services on all 3 coasts, and we are expanding our network to final destination to bring product into the hinterland from these 3 coasts.

Our merchandise business unit sales force is also helping generate export container business from our merchandise customers, which is giving us a better import-export balance. We will take delivery of roughly 1,400 domestic containers, mostly insulated containers, which we will deploy in the fourth quarter in our domestic service. We will continue to derive our strategic focus to expand our repo program of 44 overseas containers into domestic freight, domestic service.

The fall peak this year, the fall peak will be later this year as reflected by the weaker consumer confidence index and the recent trend in inventory to sales ratio. Nobody wants to gamble on big inventories this fall, it seems. In the meantime, we still expect the transfixed freight volume to be higher than last year. And for CN, we expect to outperform the West Coast average.

Turning to bulk and the outlook on Page 11. The Canadian crop is expected to be more or less in line with the 5-year's average. It is also expected to be a little late. Therefore, the Q3 result for Canadian crop might be a little flat, waiting for the fourth quarter coming in with a new crop.

Also of note, the revenue cap at pricing has been set at 3.5% by the federal government for the coming season. According to U.S. via the latest report the next production of U.S. corn is estimated at roughly 10% above the 5-year's average and the soybean production is estimated slightly below last year.

Demand is strong for offshore coal for Canadian -- for Western Canada. However, mine operation on our line are currently still affected by heavy rain-related issues and flooding in the area. And they are still working their way through that.

U.S. thermal coal for CN might be flat in its third quarter, and we continue to work on expanding our Rupert PRB business, and we hope to add another shipyard during the third quarter.

Finally, manufacturing, not last but least. We have a very strong manufacturing franchise. We continue to see strength in offshore demand for lumber and pulp, as well as significant expansion of wood pulp production coming on line in British Columbia.

Shale gas drilling activities will remain a very strong business for CN. We would also benefit from fracs and production increase capacity in Wisconsin. The IMS -- the ISM, purchasing manager index remain in expansion territory, which is positive, and we have continued some overall positive automotive data. However, of note, inventory level is high for pickup truck at dealer lots, so there's some uncertainty out there.

Canadian manufacturer that are facing -- which are mostly in the East, Canadian manufacturers are facing an ever-rising Canadian dollars, so far in July, roughly $0.08 higher than July of last year at the same time.

Iron ore production in Minnesota and Michigan looks very good for the second half of this year, and our new vessel addition, the great Republic started its sailing last June.

In closing, this is not a marathon. This is a sprint, and neither the sprint nor long-term marathon. So far this quarter, you've seen our carloads, we've had about 5% carload growth so far this quarter. This is led by Intermodal, both overseas and domestic. Also with metals and minerals, good lumber, good fertilizer, good sulfur segment. And the lag is, so far, it's been Canadian coal mine. As I explained earlier, it's because of the short-term production problem related to the heavy rain that we have.

On that, I will pass it on to Luc, and he will cover the financials.

Luc Jobin

Great. Thanks J.J. I think good numbers clearly as Claude and Keith and J.J. pointed out, let me just cover briefly the overview of the financial results.

We are reporting an adjusted diluted EPS of $1.26, which is 12% above last year and on a constant currency basis, that translates to 14% improvement. Our reported EPS will reflect the $40 million deferred income tax item. And so, we will show $1.18 on a reported basis. This relates to changes that have been regulated or passed through in terms of state income taxes during the quarter.

Our operating ratio is a stellar 61.3%, which under the adverse conditions that we have been facing in the quarter, I think is quite an achievement.

Turning over to our operating expenses, we're showing operating expenses at $1.386 billion, which is 8% up versus last year. And on a constant currency basis, this is an increase of 12%.

The biggest story here is the fuel, in terms of fuel, the WTI increased from $78 in the second quarter of last year to an average of $103 during this quarter, so an increase of some 40%. Fortunately, we were able to offset a little bit of that with some productivity improvement of 1%, which probably would have been twice that if the weather had cooperated. In any event, so that's the biggest increase in terms of our expenditures.

Then we have some labor and fringe benefits, which was up 7%. The lion's share of that increase relates to stock-based compensation as the stock price, our stock price increased by some $4 on a relative basis versus last year. The balance is really just labor and fringe benefits inflation.

Then our purchase services and material increased by some 10%. In this case, this was driven by higher volume and more difficult operating conditions, which required a lot more of our maintenance work and repairs to our track and our rolling stock. So this is one, where the temperature and the weather took a bit of a toll.

Last is our casualty and other expense category. In this case, we've shown an improvement of some $30 million, mostly from the fact that we have lower legal, environmental and other expenses versus last year.

On a free cash flow basis, turning to Page 16. We generated $823 million of free cash in the first half of the year. That's $135 million lower than last year and most of the reason for that decrease is attributable to higher income taxes where we paid some cash taxes of $138 million more than last year.

And as well, our capital expenditure program is actually about $600 million in the way, to a total program of $1.7 billion. So in the first half of the year, we're running about $160 million more in terms of capital expenditures than last year. This was partly offset by higher proceeds in the first quarter from sale of our Kingston subdivision versus the disposal last year. So very good free cash flow position in the first half and continuing for the second half.

Turning to our financial outlook. I think we've actually delivered a very solid first half. I mean I think as we stand today, we can see some mixed signals in terms of the second half, in terms of global and North American economic indicators. However, I would say that we are cautiously optimistic, and what we know is that we're well-positioned from an operational and a service standpoint to handle all the business that's going to come our way. So we'll continue to leverage the global and gradual economic recovery, even if it's a bit bumpy, and we continue with our productivity initiatives, as well as our supply chain and service-excellence drive. We're continuing to see some solid mid-single-digit carload growth and pricing above inflation.

We do have a few headwinds to deal with in the second half. It continues to be a bit of a challenge, in terms of the Canadian dollar. It's currently running in a little bit above $1.05. And so clearly, this is a headwind that we'll have to contend with. Fuel is actually fairly well behaved these days, and we'll see how things go moving forward. But we continue to see it between $100 and $110 on the WTI. We also have a higher Canadian cash taxes and higher depreciation.

All of that to say that we continue to be very comfortable with our previous guidance. We see double-digit earnings growth for the year, and we're expecting up to 15% growth over our 2010 adjusted diluted EPS, which stood at $4.20.

From a free cash flow standpoint, again, we continue to see the $1.2 billion of free cash flow to be generated in the year and that's after setting aside a potential additional voluntary pension contribution of some $200 million and fulfilling our capital investment program to the tune of $1.7 billion.

So all in all, I would say that we're well-positioned for the second half, and we continue to be focused on strong shareholder value creation. Claude?

Claude Mongeau

Thank you, Luc, and thank you, team. I think we have indeed a solid first quarter, a solid first half behind us. We're monitoring the direction of the economy, but we're very constructive about the second half, and we have good momentum taken up forward.

So I think, in terms of financial result, we feel good about the 2011 and our ability to finish the year on a very positive note. More broadly in terms of our strategic agenda, I feel very good. I think we are firing on all the cylinders that we have in our game plan. Clearly, we are taking our game to the next level in terms of operational excellence and juggling one more ball in terms of service and supply-chain collaboration. It's paying off in terms of our ability to grow with our customers. Our strategy of delivering sustainable top line growth ahead of the economy is coming through. You can see it in terms of solid volume but also in terms of market share versus trucking versus other gateways that we compete with, and solid pricing, pricing in line with the value of the services that we provide in the marketplace.

So solid top line growth, excellent performance in terms of operating efficiency. That's what you need to do to deliver solid earnings and solid cash flow as we have in the past and plan to continue to do for many, many years to come.

And with that, we'd be happy to take questions from those who are participating on this call.

Question-and-Answer Session

Operator

[Operator Instructions] The first question comes from Cherilyn Radbourne from TD Securities.

Cherilyn Radbourne - TD Newcrest Capital Inc.

Since I'm going first, I guess I'll stay, fairly high-level. At this time last year, as I recall, we were talking about containers whooshing back to Asia in anticipation of the peak and this year you're talking about sort of a later start to the peak as are your peers. Your peers that reported last week seemed to indicate that they felt customer inventory levels were low and would require replenishment by Christmas. I think I heard you say something different in terms of the inventory to sales ratios, can you just elaborate a little bit more on what you're hearing from customers at this point?

Claude Mongeau

Our view is that the customer's inventory are in line to what they need today. We don't see people already trying to build up stock in stipulations of fall. I don't think we're saying something different. What we're saying is that the peak will be late, the peak will be line. As we get closer to the fall, people will kind of hold a decision to the last moment not to be stuck with excess inventories. As much as we believe, there will be an increased year-over-year overseas container, as much as we believe that we will fare well in that transfixed freight rate versus others, yet the fall peak will be later and it will not be as much as what us and the shipping line were hoping for, say, 5 months ago.

Operator

The next question comes from Bill Greene from Morgan Stanley.

William Greene - Morgan Stanley

I'm wondering if you can help us think about where rail inflation is and where it's going to go. CSX mentioned about 4.5%, was a number that they had sort of used as an inflation rate we should think about. How is it for CN?

Claude Mongeau

Bill, before I let Luc comment, we're not going to try to arbitrate between UP and CSX, and we each have our own inflation factors, which probably are closer to the 3%, 3.5% then the 4.5% that was referred to. But, Luc, where would you put it?

Luc Jobin

Yes. I'd probably put it close to 3.5%. It will run between 3% and 4% depending on what types of commodities that we're out securing and where the commodity prices are running. And we know that labor on average is going to be around 2.5% to 3%. And so it's a bit of a moving target, but between 3% and 4% is probably not a bad place.

William Greene - Morgan Stanley

And so when we talk about rail inflation and pricing being above that, is there a scenario whereby Canadian pricing could be better than U.S. pricing? Or is it really just the U.S. has a different dynamic from a regulatory standpoint that won't be the case?

Claude Mongeau

I think we've been trying to consistently price in line with our service. And for many years now, have guided in the range of 4%. And I'm pleased that this is exactly what we're delivering, and this is clearly ahead of inflation. And at the end of the day, pricing is on the basis of the strength of your service and how you are able to help your customers grow. And it's set in the marketplace. It's not related. You can have aspirations to be ahead of inflation but you price in the market, and that's what we've been able to consistently do and do well for many years now.

Operator

The next question comes from Jack Bout from CIBC.

Jacob Bout - CIBC World Markets Inc.

Question for you on the Canadian Wheat Board, looks like it will be going away likely by August 2012. Maybe you can talk a little bit about changes that you could see happening to your network asset utilization? I know there's been some speculation with changes for the Churchill one.

Jean-Jacques Ruest

I think all these green companies are good customers of CN, including the Canadian Wheat Board. And at this point, it's still early to allow -- these things might happen. There's many, many months to go as to how the Wheat Board will look like next year. We're looking at different scenarios. We'll make sure we have a product that's appealing to those customers when those changes are better known.

Claude Mongeau

Just to add to this, Jacob, we have to move the grain no matter what. And the important point from the government standpoint and the policy that needs to take place is to have a framework that all the players, including transportation suppliers can understand. As that framework develops, we'll be more able to give you color on the puts and takes and what that could mean. At this point in time, it would be speculation on our part.

Operator

The next question comes from Tom Wadewitz from JPMorgan.

Thomas Wadewitz - JP Morgan Chase & Co

I wanted to touch base on the volume side. I think that clearly, Claude, you had focused your strategies or have focused your strategies on improving service and attracting incremental volumes, and it seems like you've had some good success with that. I think at the same time, your competitors had some pretty material weather impact, and so maybe that played in your hands a bit as well. Can you make any kind of a guess at how much volume you may have achieved because of some of the competitor issues and weather issues on their network? And is that something that maybe swings back? And perhaps some of the intermodal strengths you had would swing back. And if that's later this year or next year?

Claude Mongeau

Well, let me put it this to you way, I think we've all had extremely difficult weather to contend with, and I am pleased with the way Keith and his team reacted to protect service. And at the end of the day, the water tries to find its level. And if we have good service, then customers would naturally tend to want to move the business with us. And we think it's more than temporary. Clearly CC [ph] had some difficulty with weather over the last couple of quarters and some business may flow back as they improve their service. We're here to serve the customer base. It's actually a good thing we were able to accommodate this business, and we hope to keep it as long as we can. But we will keep it by selling service and doing so going forward.

Thomas Wadewitz - JP Morgan Chase & Co

I mean do you think that impact is material? Or looking out a couple of quarters, we may not be able to see that? That material kind of flow back.

Claude Mongeau

I think some business will naturally flow back quicker. Grain would be an example. But at the end of the day, there's a market out there, and if we all compete on service and if we all innovate to get better, this is what we need to do as an industry to earn the revenues that we need to sustain our high capital investment. And if those carriers that innovate faster and improve service quicker should be rewarded. And that's our game plan, and that's the success we've been having for not just a few quarters now, for several quarters and that's the path we're on.

Jean-Jacques Ruest

That's right. We don't take anything for granted. And our game plan is not based on the weather.

Operator

The next question comes from Walter Spracklin from RBC Capital Markets.

Walter Spracklin - RBC Capital Markets, LLC

So my first question here is just on the pipeline. Claude, you mentioned that the CN pipeline right now, allowing you to grow at an incremental basis above that of competition. And J.J., you mentioned a few specific examples. I wonder if you could sort of prioritize -- not prioritize, but if you could sort of order the ones that you see the most opportunity in? Obviously, you've outlined to us in the past a big, big pipeline, but if you could narrow it down to 3 or 4 that you really consider to be a significant growth opportunity. You mentioned coal up through Ridley. I mean that's brand new. Obviously, intermodal, you mentioned, the engine of growth, Alberta, crude oil is another one, you said you can do 1,000 to what 200,000 BOE a year. And if you can sort of order some of those. And for the magnitude perspective, what gets you most excited?

Jean-Jacques Ruest

I think I would bring you first and foremost on the intermodal service, where there's the overseas import or export, and as well as the domestic service that we have, whether it's Canadian cross-country or northbound movements from United States. That's really, truly is a very strong product, even stronger now than ever. We're investing in that product. We're making the focus on very many aspect the capital investment, the terminal inland, the terminal of the coast that we work with them. We have a-- we've beefed up quite a bit of our customer service group and intermodal. So that's definitely an area for us, with good midterm, where we're going to have a lot of legroom. On the bulk side, you ride what's strong. So if potash and coal and grain sells well, we want to ride that very hard and get this product to market before these markets fade away on you because they are commodity market. They will go up and down. And that's what we need to ride. You need to be there when the market is there because if you wait afterwards, it's too late. Merchandise, quite excited about the potential in M&M, in metals and minerals, whether it's a steel product, debt [ph] recovery, which might be choppy from time to time, construction materials. The oil sand is a great story. I think the oil sand is a long-term story. It hasn't really fully -- nowhere near fully developed yet. It's back with major investments, that means, first and foremost, construction material. And then we hope one day, we can have a first terminal set up somewhere near Fort McMurray to do pipeline on rail but that's yet to be anywhere near conclusion on that.

Walter Spracklin - RBC Capital Markets, LLC

Nothing commercial on that I guess yet?

Keith Creel

Yes. If I could add one comment in line with J.J.'s comments on the steel side. Some of the approaches we've taken this year, providing more flexibility in our car fleet strategically storing them, I mean the market has recognized that value. They certainly reward that value, and we pick up additional carloads as a result. So anywhere, we have an opportunity to execute that strategy. We'll continue to squeeze additional revenue carloads out of this marketplace.

Walter Spracklin - RBC Capital Markets, LLC

So is mid-single digits doable for the foreseeable future? Is that where -- with everything that you've got lined up, is that where we should get our head around here on the volume growth side?

Claude Mongeau

I think, Walter, it all depends on the economy. We want to grow faster than the economy and the first quarter has had still some fairly solid rebound from the economy in general. So our goal is to grow a little faster than the economy from a volume side and price a little faster than inflation from the rate standpoint. If we do both, we will deliver it to the bottom line at low incremental cost.

Operator

The next question comes from Ken Hoexter from BOA Merrill Lynch.

Steven Sherowski - BofA Merrill Lynch

This is Steve Sherowski, in for Ken Hoexter. On the coal side, it looks like your volumes are impacted by -- you mentioned the new Teck interchange contract, but your average revenue per carload was up fairly significantly. Is that just a reflection of your lower carloads? And if so, is this a good run rate going forward?

Jean-Jacques Ruest

We look at the West Coast coal because some of our Canadian's coal also now have some PRB coming to us over the gateway. The volume was up 20% in RTM terms. But it was down in carload terms. So this is where there's a significant shift here in our Canadian coal business because we did move more coal in terms of revenue ton miles that we've moved, that's called in terms of carloads and that's in effect of the short-haul malt -- short-haul move that we used to do in large quantities for Teck out of Kamloops. We still do that but at a much lower run rate. And the Kamloops volume, I can't remember, it's only 270 miles, so that's a big shift in our mix. But price on coal is up. The business is robust, but there's a shift in length of haul because of what we move today versus yesterday.

Steven Sherowski - BofA Merrill Lynch

Okay. And you mentioned the frac sand opportunity in Wisconsin, is that a natural gas or is that primarily liquid?

Jean-Jacques Ruest

The frac sand is all going for shale gas. So what we have in Wisconsin, where we're sitting very near the deposit of the right quality sand and we have more and more of the sand producers who are using CN to ship their sand, either they come in, set up on us, so they have reload on CN. So we're practically on the frac sand business from the origin, from the destination market, the biggest destination market that we serve is British Columbia. So we serve the big, growing frac sand producing area in Wisconsin and that's what I was referencing to.

Steven Sherowski - BofA Merrill Lynch

And can you just quantify what production growth you're supporting on your network?

Jean-Jacques Ruest

That will be a good strong double digit. It's been a good strong double digit now for quite a while, and some of that production is visibly yet to come. We're talking with people who are building track and building plans right now.

Operator

The next question comes from Scott Group from Wolfe Trahan.

Scott Group - Wolfe Trahan & Co.

First, Luc, just wanted to clarify your comments on casualty and other, was there something unusual about the number this quarter? Or should we be thinking about somewhere in the $60 million range going forward?

Luc Jobin

Well I think what happened is that we had some higher -- much higher level in the last year. Going forward, I would still look at a higher number than the $60 million. I mean I think it's probably going to be somewhere in the $80 million, $85 million range. Historically, I kind of used about $90 million as a benchmark, but with the Canadian dollar helping a little bit, that's honing it down a bit. So that's where, I think, things are heading.

Scott Group - Wolfe Trahan & Co.

Okay, that's helpful. And then also can you just talk about where we are in the hiring cycle? So headcount is up 5% year-over-year in the quarter. Should we expect that trend and that growth rate to continue? Or does that moderate going forward as maybe hiring levels level off or attrition starts to kick in?

Keith Creel

As we said in the past, effectively, we're looking at an attrition curve that's going to be lasting for the next 3 to 4 years at the pace it is now. You could expect similar numbers to that. There's some double count there of course, since we hire conductors, we have to take conductors out to train to become engineers, so there's some overlap that once we get past this attrition bubble, you'll see that come back down. But on a go-forward basis in the near future, I would expect something similar.

Claude Mongeau

I think, Scott, the key is you don't want to be short crewed. But it's an easy call when the economy is rebounding. When you have, like we do at the moment, a bit of a pause and the macro-environment that's a little bit more uncertain, we want to make sure that we calibrate. And the good news is, if we're a little long in terms of headcount, we have enough attrition that it takes only a few months to correct our target and get right back in line.

Scott Group - Wolfe Trahan & Co.

You have a target for where you're expecting headcount at the end of the year?

Claude Mongeau

We will hire in line with volume growth. And we've been -- from where we are at the moment, I would not suspect significant increase on a sequential basis. But we will hire as we see people retire from our workforce.

Operator

The next question comes from Turan Quettawala from Scotia Capital.

Turan Quettawala - Scotia Capital Inc.

I guess my question was just on the fuel productivity line. And obviously this quarter you had some problems with the flooding and so on and so forth. Just wondering, in the past you've guided to about 1% to 2% improvement on an annualized basis. Is that still so the target for the year?

Keith Creel

That certainly still is the objective. Some of the nuisance we experienced in the first quarter impeded our ability to deliver that 2%. But I fully expect to get that run rate for the balance of the year.

Turan Quettawala - Scotia Capital Inc.

So should this be on an annualized basis, Keith, or just for the second half?

Keith Creel

The second half certainly. I mean, if you do the math, if I can deliver 2%, it's going to be somewhere close to 2% between 1.7%, 1.7% and 1.6% and 2%.

Turan Quettawala - Scotia Capital Inc.

And I'm sorry, that's the full year number you're talking about, right?

Keith Creel

Right.

Operator

The next question comes from David Vernon from Bernstein.

David Vernon - Sanford C. Bernstein & Co., Inc.

Just one quick clarification on the income tax item. Is that -- the jump of $50 million or $46 million or so, is that a nonrecurring item, then?

Luc Jobin

Yes, that's a nonrecurring item.

David Vernon - Sanford C. Bernstein & Co., Inc.

Okay. And then just one question on the intermodal piece, it looks like there was a little bit of a shift towards some shorter-haul domestic. Is that -- am I reading that right? Or could you maybe comment on that a little bit?

Jean-Jacques Ruest

On the domestic side, we have gained some business. The average gain for the business we have may have been shorter than the historical length of haul, which is will make sense because as we compete with truck in some cases, we have pretty much all the long haul business already because of our cost, so where we compete with truck is increasingly on slightly shorter distance.

David Vernon - Sanford C. Bernstein & Co., Inc.

And is that in more of truck competition versus any type of weakness in the international container freight?

Jean-Jacques Ruest

For example, when you look at one of the business, that's where we have strong success last 12 months in the northbound business from United States. It may not be the same length of haul, say, as a Vancouver to Toronto, for example, that's domestic freight.

David Vernon - Sanford C. Bernstein & Co., Inc.

Yes. So it does not -- it's less reflective of weakness in the international and more reflective of being more competitive over shorter domestic?

Jean-Jacques Ruest

Both international and the domestic have been very strong in the second quarter. So both of them had double-digit growth in volume.

Claude Mongeau

Very much so. And we move our containers that there's a less overlap between our domestic and our overseas business. The domestic business, we move is domestic and both segments have been growing.

Operator

The next question comes from Garry Chase from Barclays Capital.

Garrett Chase - Barclays Capital

Wondered if I could ask you to maybe elaborate a bit more on some of the gains that you think are now evident on the intermodal side. You mentioned, J.J. mentioned some data points on volume growth versus western ports. Wondering if you think it's helping on the price side, and more importantly if there are efficiency gains that are coming out of this as well. And just was curious if you could give us a few data points just to help us get our head around what the impacts might be outside of volume, if any.

Claude Mongeau

Let me give you a few there. Clearly, when you take a mindset of end-to-end supply chain, you start looking at all of the pieces from the time a container lands at the terminal, to at the terminal on the dock to the time that we get it off the ramp in our own terminal inland and put it on a truck to get to the destination. We're measuring every piece of the supply-chain. We're doing so on a daily basis with our partners. And we are seeing significant improvements that are benefiting the customer in terms of end-to-end transit time, whether it's shorter dwell time at the dock, whether it's more tight connection with our trains, whether it's better inland performance. But we're also seeing, at the same time, more throughput out of the terminal and better efficiency in our train service. Our slot utilization with the terminal partners we deal with, for instance, on the West Coast, has improved on a year-over-year basis in a range of 3% to 4%. So if you can get slot utilization out of Vancouver, for instance, to improve, that's 4% of trains, which are now filled with a box is helping us getting more efficiencies. So we're being more nimble. We have more -- better car supply. We have a train service, which is aligned with growth. And we're getting rewarded with higher volume growth and train efficiency. And that's the true win-win nature of our supply-chain collaboration approach.

Garrett Chase - Barclays Capital

Do you think it be fair to say that, Claude, the efficiency side of it rivals what you're getting out of the incremental volume?

Claude Mongeau

I think it's a good balance of both. And I firmly believe that we're just beginning on this journey, and as the opportunity to line up and execute from an end-to-end standpoint, to the benefit of all stakeholders, we're just scratching that opportunity in my view.

Operator

The next question comes from David Newman from Cormark Securities.

David Newman - Cormark Securities Inc.

Just in terms of pricing once again, not to beat a dead horse, but obviously, the customers are taking fuel surcharges at these levels and as fuel rises, there's been an impact there, and some of the volume metrics have softened to a certain degree. How much can you -- do you use pricing I guess in negotiations? And the sort of service trump that in terms of the offering that you have and protects your pricing?

Jean-Jacques Ruest

Well we got to go, as we said, for inflation plus pricing. We recognize the fact that when the fuel goes up, it is a price increase tied right to the customers, and that's how a TARP is done. And by the way we have no exception to this TARP, everybody is paying it. That's why we have a way to basically edge against that, and then you have the service offering. In some cases, we do -- customers are shopping, they're trying probably get the best deal possible. Some of our customers are losing money right now. They're in a tough-luck market, which are very difficult. So they would like to get a better price but that's not what we're all about. We're about offering a good product. We're about representing the rail industry, where our market condition are -- is the market that we're in, transportation over rail. And in some cases, we may lose an account, if they can get a better price somewhere else.

David Newman - Cormark Securities Inc.

It sounds like, J.J., you really stick to the pricing plan? And you really don't use pricing as sort of an opportunistic lever at all in any circumstances to sort of win volume share if you can?

Jean-Jacques Ruest

No, we don't, because in the long run, that would back spiral on us. In the end, what really makes sense, as Claude said, is the marathon, is you have to have sustainable pricing. You have to have fuel surcharge coverage across-the-board without discount. And if you have that as a backbone, and good service and a good operating ratio, the price you put out should be able to be good enough for the marketplace. And there's a point where you got to withdraw from the table and leave that one.

Operator

The next question comes from Fadi Chamoun from BMO Capital Markets.

Fadi Chamoun - BMO Capital Markets Canada

I just have a question. You've been doing sort of trying to leverage this good railroading part of your customer win for a while. I was just wondering if you can give us some color whether there are some specific area you're seeing more success in the strategy than others? And along the same lines, I wanted to see whether you had more discussions or more contact with Canpotex with respect to the future of that business after having some successes in Q1. Have you followed up with them? Have you sort of started to look at how you can position CN for that business in the future?

Claude Mongeau

I think that, Fadi, where we are getting benefit is really across our whole book of business. And as discussed for instance, the example of supply-chain approach end-to-end in the intermodal sector. Keith mentioned in the bulk sector, our new bulk supply-chain visibility approach, to use an example with Ridley in coal, is transformational. We're collecting and sharing information that allows us to see from mine to ship what is happening for all of the customers that are feeding that facility. We're engaging daily, and we have seen Ridley terminal hit new records in terms of its through-put capability. Because we are now looking at the end-to-end performance, and we are willing to trade off the way we are bringing the trains, if we can address bottlenecks at the terminal, which is the bottleneck to the overall throughput of the supply-chain. And it's helping us grow with the PRB coal customers. It's helping us grow with our Canadian met coal customers. We're rolling that concept of potash. We're scheduling our service like we did in grain. And it's helping us gaining market share. And as it relates to Canpotex, we believe that, that service offering, the need for Canpotex to have diversity in its supply-chain as it becomes a larger and larger export producer will bring them to the view that they should have CN in their mix of transportation suppliers. We're certainly determined to convince them of that opportunity. And like we do in every other business segment, we will sell service, sell the value of our supply-chain approach, and we are confident they will come to the view that having CN or a chunk -- a small chunk of it, perhaps initially of this business in Vancouver is the right thing to do for Canpotex. And as they grow, perhaps they will build on CN's services in Rupert so that we can become a full-fledged partner over time. We will do this based on service and based on the strength of our supply-chain collaboration approach.

Fadi Chamoun - BMO Capital Markets Canada

Good. Maybe I can just fill in one more question to Luc. The cost inflation, excluding fuel and FX year-on-year was a little bit higher than volume. I think about 5.5% roughly. Should we think about this moderating as we go on to the second half towards where the volume increase is at?

Luc Jobin

Well actually, If you were to just strip out the variance that was attributable to fuel and to the fuel price, I mean I think you'd find that our costs were actually up just slightly above 4%. And we had 5% RTM growth. So in the scheme of things, I would expect that we had to deal with some higher cost as it relates to dealing with weather in the first half of the year. That will hopefully alleviate as we look to the back end of the year. And generally I think our costs continue to be well managed and well behaved, so probably more of the same.

Operator

The next question comes from Chris Wetherbee from Citigroup.

Christian Wetherbee - Citigroup Inc

I was just wondering on the coal side, how much volume are you doing of PRB through Rupert right now? And how do you think about that opportunity as you move forward to continue to grow that volume?

Jean-Jacques Ruest

This is not a huge amount of volume at this point. As I said, we're hoping to add another account this summer. We're looking at what could be done in 2012 and beyond. I think what's good for Rupert is this terminal is expanding and has a vision of expanding capital which is doing this year and in some further capital in 2012, 2013. And the northern B.C -- mine also expanding. So our program objective is basically to keep the terminal busy, make sure the terminal has enough business that it never stops investing capital to expand itself. It will be mostly over the next 5 to 6 years, our Canadian terminals from Canadian mine. However, there is room for us to try bringing in on a permanent basis, a couple of million tons of PRB coal. And that's what we're working on.

Christian Wetherbee - Citigroup Inc

Okay, that's very helpful. And then one quick follow-up on a separate note. Just the tax rate going forward, what's your best estimate for that? I apologize if I missed that.

Luc Jobin

No, I mean it continues to be around 29%.

Christian Wetherbee - Citigroup Inc

Okay. You know you've done a little bit better than that the last couple of quarters?

Luc Jobin

Yes.

Operator

The next question comes from Jason Seidl from Dahlmann Rose.

Jason Seidl - Dahlman Rose & Company, LLC

Quick question, you talked a little bit about the weather impacts in the quarter, could you quantify both from a revenue and cost perspective? I don't think I caught that if you said it.

Claude Mongeau

Railroading is an outdoor sport, and we like to think of CN as one that can prevail and do well for its customers and shareholders whether the weather is good or bad. So I would hesitate to give you an exact number because I would just be focusing on the negative and whining about weather. We're here to please our customers and our shareholders in all weather.

Jason Seidl - Dahlman Rose & Company, LLC

But you haven't seen any carryover thus far into 3Q, have you?

Claude Mongeau

I guess [ph], Jason?.

Fadi Chamoun - BMO Capital Markets Canada

No have you seen any carryover from the weather into 3Q at all?

Claude Mongeau

No, I think we're remarkably current on the revenue side because Keith was able to step up and protect the integrity of the supply-chains we serve. So we don't see much carryover from Q2 into Q3 in terms of revenues. And we certainly don't see a carryover from an operational standpoint unless we have a few events, but it's starting to be in the middle of summer now, other than sun [ph] and termites, we're gearing up for next winter.

Jason Seidl - Dahlman Rose & Company, LLC

Really quickly tack on another coal question, could you maybe quantify sort of how big the PRB export market could be for Rupert?

Jean-Jacques Ruest

As I said earlier, we want to keep step with our partner, the coal terminal in Rupert. They have an expansion plan. Some are very well known, very well defined. Some could be coming into play in 2 or 3 years from now. And our game plan is to make sure that we bring enough business to keep pace. There is a number of mine expansion in B.C. We think most of them will come into play. And Rupert is very logical a shorter distance terminal for that. But there is room for coal from PRB to come either, or Vancouver or the Edmonton interchange. And I would say a couple of million tons.

Operator

The next question comes from Matt Troy from the Susquehanna Financial.

Bascome Majors - Susquehanna Financial Group, LLLP

This is Bascome Majors, in for Matt Troy. Earlier I believe you said you were driving outbound intermodal volumes with some of your merchandise marketing teams. I was wondering if you could talk a little bit about what the balance is in your intermodal business there between out and in, and sort of where you think you can take that over time.

Jean-Jacques Ruest

I was referring to the overseas container, the 44th [ph] where we focus on trying to balance the import and export as much as we can because we know -- for the shipping line, we're always talking about the import. But the shipping line, now losing money, and they need some ways to get back to the port of the least cost possible over some revenue, where that's called an [indiscernible] export. That's also called a domestic repo. So what the merchandise sales force does, it talks to our pulp customer, our lumber customer, our steel customers, our grain customers and try to find -- they can try to do a matchmaking between them and what we call the CN friendly shipping line and find ways for the CN friendly shipping line to get some freight for their return back. And ideally that this rate is what we call source loading, where you get the export, not from the port of Vancouver where you get it inland where you basically have the ways to pay for the return volumes of these containers. And the other way we help the shipping lines to balance their return is domestic repo, take a 40-foot container from Chicago, you move it with domestic freight into Winnipeg or Calgary, and that's also helpful. And so we're not 100% balanced. We're balanced going East, for example, Halifax Montréal is fairly balanced. In fact, Montreal -- Halifax is more export than import. But we're working on to generate more export for the West Coast. And we have very great traction with that. Our merchandise sales force know how to merchandise, can even merchandise customers better than anybody else. And we are able to create some positive upside for the shipping line of business for us.

Claude Mongeau

We call it selling one CN.

Operator

I would like to turn back the meeting over to Mr. Mongeau.

Claude Mongeau

Thank you, Matthew, and thank you for all of you who have listened to this call. As you heard, we're very constructive about our game plan and how our strategic agenda is unfolding. We think the first half is setting us up well to finish the year on a very positive note. And with that, we'll look forward to meet you again on the third quarter call, with hopefully with just as good results.

Operator

Thank you. The conference has now ended. Please disconnect your lines at this time. We thank you for your participation.

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