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

Kansas City Southern (NYSE:KSU)

Q1 FY08 Earnings Call

April 24, 2008, 12:00 PM ET

Executives

Michael R. Haverty - Chairman and CEO

Arthur L. Shoener - President and COO

Patrick J. Ottensmeyer - EVP and CFO

Analysts

David Feinberg - Goldman Sachs

Christian Wetherbee - Merrill Lynch

Randy Cousins - BMO Capital Markets

Scott Nichols - Gilford Securities

Operator

Greetings and welcome to the Kansas City Southern First Quarter Earnings Call. At this time all participants are in listen-only mode. A brief question and answer session will follow the formal presentation. [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 occur. The difference 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 ended December 31, 2007 filed with the SEC. The company will not 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, Michael Haverty, Chairman and CEO for Kansas City Southern. Mr. Haverty, you may begin.

Michael R. Haverty - Chairman and Chief Executive Officer

Thank you very much and welcome to the first quarter earnings presentation. With me today presenting would be Art Shoener, President and COO and Pat Ottensmeyer, Executive VP and CFO.

We are presenting today from our headquarters here in Kansas City. Those of you following on the webcast, if you will turn to slide number four, which shows the first quarter highlights... first quarter '08, up $0.18 over first quarter '07. Our revenue growth was up close to 10%, our operating ratio was down almost 1 point compared to a year ago. Would have been better than that had it not been for our fuel price increase as well as some weather issues that we had that caused us to have to detour some trains in the first quarter.

Next slide on number five, continuing the first quarter highlights. We had strong earnings despite a weak economy and, as I said, higher fuel costs. Our fuel is actually up $15 million over a year ago or 24.6%. I think one of the things that's really helped us this year even though the economy is somewhat soft is the new business that we are generating. And that's new chemical business, that's steel business, additional grain business, and so that has really helped us.

Also I think because we have improved service metrics for the first quarter, our system is fluent and efficient over the... some of those disruptions that I mentioned that we had due to some weather conditions that caused detours. We now have 180 new locomotives and we will have 30 more by the end of the year. So it will take us up to the 210 that we have projected that we would have by the end of 2009. And I'd also point out that our total number of units in our fleet has gone down from around 1200 to about 900 as we have brought on these new locomotives. So we are current back leases and we are also selling locomotives as well.

Panama Canal Railway contributed to the other income to the quarter and Panama Canal is doing very well if we looked at operating ratio for the quarter of 49%.

So with that, I am going to turn it over to Art Shoener, our President and COO who will give you a little more detail on how the quarter went.

Arthur L. Shoener - President and Chief Operating Officer

All right, thanks Mike. If you will turn to the first slide here, the operating ratio, the first quarter comparison, as you can see for the last three years, we've continued to bring the operating ratio down. And as Mike said, we were 81.5% in '08; that's even with the higher fuel cost that we talked about.

Looking at the next slide, you can see the operating ratio trend for the last three years on a q-by-q basis and we are committed to continuing to improve that operating ratio throughout each of the coming quarters.

Let's take a look over at the revenue side, which is... we've grown revenue growth by 9.6. It's led by automotive, intermodal and some chemical and petroleum car loading improvements and we continue to see strong pricing environment across the various business units, some better than others.

Looking at the quarter-over-quarter next slide, revenue growth, you can see that this is quite a leap, particularly when you look at '06, '07 and now in '08 the new business that Mike talked about as well as the pricing. Going on to the improvement revenue is an oil commodity is on the next slide, you can see the improved revenues led by ag 16%, chemical and petroleum with almost 15% and automotive and intermodal with 20% and 9% respectively. Forest and lumber... paper products is a lot less, there is a soft economy like we have heard from other people.

Looking over at the next slide, let's talk about the revenue growth analysis on the waterfall chart. One thing I might mention, our volume actually ex the haulage... lost haulage business that we have talked about before, our volumes are actually up 4.6%. But the mix contributed 1.4% of our increase in revenue, the price 9.2% and the loss haulage areas accounts for that 1%.

Moving on to the carload unit volume growth is 4.6%. You can see chemicals as well as intermodal and automotive led the way. Ag and minerals were affected by the weather in Louisiana, Arkansas, Texas, all the rains that they had in the first quarter. Most... hardly any stone and rock moved. The forest products talked about. And coal is the Intergy [ph] contract that we have mentioned before that we lost for this year; hence... and no export moved over the carload [ph].

So let's look over at the pricing environment. It continues to be favorable, and it varies though by commodity as you can see and it's explained on this chart. And it also... some of the other variances in the pricing is linked to haul. So still a good environment, but in some commodities, a little tougher than others.

Looking over at sort of our pipeline that we have been reporting on. New business progress, the pipeline stands at about $125 million, a conversion rate about 53%. We have added $23 million in the last quarter and we've added another $49 million in new opportunities.

Let's digress over to the operating side here and look at our first quarter operating expenses. On the bar charts, the comp and benefits are up. That's primarily a result of wage increases and new collective bargaining agreements here in the U.S. as well as the statutory profit sharing in Mexico.

The fuel is basically... fuel prices, we are starting to see some offset with our new locomotives, but not nearly enough to overcome the high price increases that we have seen in fuel. And the last area is the material and other. That's up. Part of that is in '07 we had a favorable tax ruling which lowered that comparison number and we had some higher employee expenses as well as some in increase in material and supplies for locomotives at the older fleet that we were working the first quarter as well as getting rid of some engines.

Just to highlight some of the operating highlights. Mike mentioned the metrics that we have, our new metrics that we are providing to everybody. We started in March, include both the U.S. and Mexico. And as you all have followed that, you can see that our velocity is up over 25 mile per hour. Our terminal well was brought down below 20 and locomotive availabilities improved in the U.S. by over 10 points as we mentioned and a couple of points in Mexico. And as we've said, we received 180, and the 210 and will be the last 30 in the second quarter.

With that, I'll turn it over to Pat for the financials.

Patrick J. Ottensmeyer - Executive Vice President and Chief Financial Officer

Okay. Thank you and good morning everyone. Good afternoon wherever you are. I am now looking at slide 19. Just a different cut of the results for the quarter and the income statement.

As you can see, as you've already heard, revenue is up 9.6%, operating expense is up 8.4%, driven largely by fuel increase. Operating income improved to $83.4 million, which was 15% about last year. You should see that we had a small currency profit in the quarter compared to a loss in the first quarter of last year.

Equity earnings were up significantly. We had pretty much equal contribution from the three main equity entities: Southern Capital, Panama Canal Railway and Ferrovia in Mexico, all contributed roughly equally. The comparison to the first quarter of last year was due to a reversal of an accrual at Ferrovia Mexico. Going forward, I would expect the equity earnings to be roughly in line with what we are showing in this quarter.

Just as a comparison, in the fourth quarter of '07, we had $4.2 million in equity earnings for that quarter. Interest expense was down a bit due to the positive effect of some refinancings that we've done. And also included in this is other income, which was increased by some property sales that we had in the quarter.

Our income tax rate was about 29.3%, which is fairly consistent with the first quarter of last year. And as you can see, net income of $37.7 million was up almost 70% from the prior year.

Flipping to page 20, we see a different slide to the earnings per share trend. Again, as you saw, with the operating ratio, you see sort of a sawtooth pattern here where aren't necessarily showing quarter-over-quarter improvements due to seasonality and different seasonality of the business, but clearly, year-over-year showing an improvement of 85.7% and $0.39 a share in the first quarter of '08.

Flipping to page 21, you'll see the same general pattern in operating income. Operating income of 83.4 was 15% above last year's level and then same pattern on page 22. Net income of 37.7 was up almost 70% from the first quarter of '07.

And again flipping to page 23, you'll see EBITDA was $129.5 million for the quarter, which was a 20% increase over the first quarter of last year.

Page 24, we show our cash flow, and again, you can see substantial improvement in net cash provided by operating activities and that was driven by higher net income and improved working capital. Cash CapEx was up significantly. I think we gave guidance in the fourth quarter that our capital program was going to be higher this year due to some strategic projects, growth projects and Victoria-Rosenberg being the best example of that. So our capital program is on track with the guidance that we gave in the fourth quarter and obviously up from the prior year.

Other investing activities was a negative. And included in that if you look down at the very bottom line is $59.3 million of locomotives that we had purchased and paid for during the first quarter that have subsequently been financed. So that is really a timing phenomenon and that will flip, and in fact it has already flipped in April once we completed the financing that will change on the cash flow.

Preferred dividends, our normal quarterly dividend paid. So free cash flow after dividends was a negative 41.1, but if you add back the timing difference of the locomotives that have been purchased, but not yet financed, it would have been a positive 18.2 compared to about $4 million in the prior year.

Flipping to slide 25, we show our liquidity summary. Again, liquidity continues to hang in there in the... just over $200 million. It increased slightly from the fourth quarter, and what we are showing here is in the lighter blue or the top segment of the bar charts, the dollar amount of locomotives that had been purchased yet [ph] and the financing had not been complete. So if you do a comparison of this to our balance sheet, you'll see that our actual cash and unused bank facilities were $149 million at the end of the first quarter. But that was reduced by the fact that we had purchased and paid for locomotives that had not yet been financed. And those financings have substantially been completed, so that liquidity will be restored, and that's the reason we show it this way.

Looking ahead on page 26, I have talked a little bit about the financing plan for the rest of the year. First quarter, our plan was to close on 107 million of secured financing for 60 new locomotives, some delivered in '07, some delivered in '08. We actually have closed on 40 of those at $73 million and the remaining 20 will be financed in the late second or early third quarter.

Also in the second quarter, we completed the lease financing of locomotives delivered in the United States that I talked about on the cash flow chart. We still plan to issue $250 million to $275 million of unsecured debt probably in the next couple of months to replace the 9.5% senior notes that mature later this year. We will be converting the Series C for 4.25% preferred stock in the next few months, although those shares are already counted and have been counted for several quarters in our fully diluted share count.

The final point here is a little bit different from what we have said in the past. We are proceeding, as Art mentioned, full steam ahead with the construction of the Victoria-Rosenberg line. We talked in the past about the fact that we had filed a RRIF loan application to secure financing for that.

We are now planning to proceed with that project and finance it with a bridge and short-term... term out loan facility that would be refinanced at the time the project is completed, and we look at all of our options including going back to the FRA and filing a RRIF loan application once the project is complete. So that still may very well end up the same way we had anticipated that the timing and the sequence is going to be a little bit different. The dollar amount is also a little bit higher because we are including in this financing and in any subsequent refinancing some capital that will be added to this project in 2009.

On page 27, we talked about some of the other financing plans we have for the rest of the year. It's mostly related to equipment, locomotive and rolling stock acquisitions in Mexico. I think we mentioned and highlighted in the fourth quarter presentation that due to the change in tax law in Mexico that was passed earlier this year, written last year, the advantages of purchasing and financing versus leasing are quite compelling. So we have changed our plans with regard to equipment and we will be purchasing and financing equipment deliveries at Kansas City Southern de Mexico.

And finally, looking at page 28, debt maturities, we've shown this slide in the past that you can see this year we have the 9.5% bonds that come due later in the year and our plan again is to refinance those in the second quarter. And the floating rate debt that's shown there is the bank facility that I think I explained in the fourth quarter as a maturity trigger once we complete the refinancing of the 9.5% bonds, the maturity of the bank loans will automatically extend. So we are not going... planning to refinance our bank facility for that reason.

With that, I'll turn it back to Mike to talk about our long range plan update and wrap it up.

Michael R. Haverty - Chairman and Chief Executive Officer

Okay, thank you Pat. If you could turn to the slide that says New Business Opportunities, 2008 to 2010, internally, we refer to this as our bubble chart and we have different bubbles on that, we have different colors. Very busy chart. I am not going to try and go through this. The only thing that I will emphasize to you is that these are all new business opportunities in the next three years including this year. And we are not talking about increased business at... this kind of organic business. These are facilities that will be constructed brand new, or these will be facilities that will be added to existing plants. And there is over 40 bubbles on there and only a handful, maybe 5 or 6 are still in the discussion stages; the rest are actually under construction. So we have a tremendous new business opportunity facing us here this year and over the next two years.

We'll turn to the next slide entitled Long Term Growth Plan Intact. I'll just briefly mention 2007. We had projected about 9% revenue increases. It turned out to be about 5%. Part of that was because the economy was slow and also at the end of the year because of the new tax law that Pat referred to, we saw companies in Mexico that were incented to keep a low inventory at the end of the year. So some of the products were not moving towards the end of the year. But in 2007, what we focused on was improving our profit margins and we'll continue to do that.

Every year we update our five year plans, so let me talk a little bit about '07 versus '08. We still project that our revenue growth for each of these years will be somewhere between 10% to 14%. We were just right at about 10% in the first quarter and historically, the first quarter is our slowest quarter. So we don't see that changing a lot going forward. The one thing that we have done is the total revenue projection of what we had over a five year period, we would move that back from 2011 to 2012 to hit that top line number that we had projected in 2007. Having said that, our operating ratio, we were at 79.2 in '07, and again we have projected that we are going to see increases or improvements in the operating ratio over the next five years to 1 to 2 points. And we don't have any reason to believe any differently.

Cash capital expenditures, as Pat said, they are higher than 2007, driven primarily by the new Mexican tax law where we were incented to purchase rather than lease. Strategic products that are... the projects that are now being financed by KCS, our intermodal facilities that are tied to logistics, parks that we are planning along our railroad. We were actually going to build and finance those ourselves. And the logistics part will be done then with a developer.

Rosenberg-Victoria, we decided that's so important that we need to go ahead and get that started. We will still look at a RRIF loan in the future, but we are going to run ahead we think that's critical to the strategic importance of our route between Mexico and the United States that we have started construction.

If you look at the next slide, five year plan summary. Still the same. Revenues $1.7 billion in '07 and we still look at compound annual growth to be in the 10% to 14% range over the next five years. Operating ratio, as I said, improved 1 to 2 points over the next five years.

Next slide, EBITDA compounded annual growth rate, 17% to 19%. ROCE, 0.5% to 1.5% improvement every year. Our business mix over the five year period is going to change. We've said that last year; we'll say it again. The biggest increase is going to be in intermodal traffic as we focus on the development of the International Intermodal Corridor between the United States and Mexico and also as the Port of Lazaro Cardenas develops. And the Mexican government has said that they intend to put out bids for second concession at Lazaro Cardenas in the third quarter. Hutchison has just finished their first phase of the three plus phases, but there will be another port going in probably starting sometime at the beginning of next year. So we still feel that we are on track with our five year plan.

That concludes our presentation and we'll open it up now to questions.

Question And Answer

Operator

Thank you. Ladies and gentlemen, at this time, we will be conducting a question and answer session. [Operator Instructions]. Our first question comes from the line of David Feinberg with Goldman Sachs.

David Feinberg - Goldman Sachs

Good morning, or I guess good afternoon. Question was actually... my first question was on Lazaro Cardenas. I think last quarter you talked about five different shipping companies calling on that port, and two of them actually in early discussions about international terrific. Can you give us a sense of where you are with those shipping companies if in fact you started moving traffic cross border as well as how many shippers are calling on the port and how things are going?

Arthur L. Shoener - President and Chief Operating Officer

Well there are still five shipping companies: Cosco, Evergreen, Hapag-lloyd, Maersk and APL. One of the shipping companies that we were talking with has decided to stay where they were at. I think they are still talking with another one. But.., and the test... we ran... we run various tests and we are still... we are moving traffic across the border but not at the pace that we want to. One of the big things that we have to do is predicated on getting our Rosenberg terminal open. We've had on it, Brian Bowers, Senior VP of Intermodal & Automotive is with us. He has just returned from Asia, an Asian trip where he talked to the various steamship lines. And there is a lot of interest, and the interest, a lot of it resides around being open in Rosenberg. We are looking to have Rosenberg open in the third quarter of this year.

David Feinberg - Goldman Sachs

Is that what drove the accelerated pace in terms of the capital expenditures there, not waiting for RRIF loan?

Arthur L. Shoener - President and Chief Operating Officer

That was one of them. The other thing is the importance of getting that line open. It cuts off 90 miles of getting off of congested U.P. routes and opens up new business opportunities for us, not only Rosenberg but elsewhere. In fact, that can be justified by the savings that are created by the cost of operating over that line. Also, Mike mentioned it in the first quarter, Maersk, because business was a bit slow, didn't operate as many ships in the Lazaro Cardenas as they had in the past. And Hapag-lloyd, the same, but they have now put those ships back into rotation. And so we are seeing them come into Lazaro Cardenas now in the second quarter where they were a little bit slower in the first.

David Feinberg - Goldman Sachs

And is it to safe to assume that the... if the second concession in terms of the second port that would be built there, in case you would be the only rail serving it or would there... would you have to provide open access?

Arthur L. Shoener - President and Chief Operating Officer

The concession clearly provides that Kansas Southern is the only rail operator to the port of Lazaro Cardenas.

David Feinberg - Goldman Sachs

And then one more question before I turn it over. We heard from some of your competitors about the impact from some of the auto strikes and the slowdown in the U.S. I was wondering if in case you actually benefited from that, given the fact that you support some of the suppliers in Mexico, perhaps bringing parts cross border into the U.S., has that been the case?

Arthur L. Shoener - President and Chief Operating Officer

Yes, we have benefited. Our manufacturing plants with the exception of one in Mexico, have all produced more automobiles in the first quarter of '08 versus the first quarter of '07 to the tune of almost 45,000 more automobiles, about a 12% increase in production in Mexico.

Michael R. Haverty - Chairman and Chief Executive Officer

But I don't know that that's specifically tied to any strikes.

Arthur L. Shoener - President and Chief Operating Officer

No, no, I don't think that's the case. I think what you're just seeing is the automotive production in Mexico is picking up as new facilities have been built down there. But I don't see it being tied to any labor disruption.

Michael R. Haverty - Chairman and Chief Executive Officer

I think probably advantage of the more efficient plants as much as anything.

David Feinberg - Goldman Sachs

Okay.Well, I'll get back in the queue. Thank you.

Operator

Our next question comes from the line of Chris Wetherbee with Merrill Lynch.

Christian Wetherbee - Merrill Lynch

Great. Thanks. Good morning guys. Just touch on a couple of technical issues first. Fuel for the quarter was up about 25%. That's a little bit better performance than some of the other rails in the industry. Just curious, are we seeing a benefit this early from the impact of the new locomotives in the fleet or is there something else from Mexico that might be helping you on that line?

Patrick J. Ottensmeyer - Executive Vice President and Chief Financial Officer

Yes, Chris, this is Pat. I think our fuel increase in the U.S. is probably in line with the other major rails, but we just haven't seen the pricing increases nearly as rapidly in Mexico. So it's obviously with almost half of our business in Mexico, that's been a real plus for us. But your other question, we are starting to see the benefits of the new locomotives as well, but that's not really driving the magnitude of the difference between our fuel performance and the other major railroads.

Michael R. Haverty - Chairman and Chief Executive Officer

Yes. And then also in the first quarter, we didn't really have the benefit of all the locomotives for the entire first quarter as we were still using them on some of the other carriers' routes to pay back some horsepower hours. So we'll have the benefit of the new locomotives throughout all of the second quarter.

Christian Wetherbee - Merrill Lynch

Okay. And then just touching on something, Mike, that you said, your fleet went from roughly 1200 down to 900, and that includes the addition of the 180 locomotives. Did I catch that correct or was I missing something?

Michael R. Haverty - Chairman and Chief Executive Officer

Right. And that number Chris started about and... when we started buying new engines is back starting in '06 just about we had about 1180 engines about in the first part of '06. And since we bought new units and retired them, and that's where we are at now.

Christian Wetherbee - Merrill Lynch

So are you ahead of the pacing you mentioned before, the 350 roughly locomotives coming out with the 2010 coming? It seems like you are on a 400 to 500 locomotive benefit there. Is that right?

Michael R. Haverty - Chairman and Chief Executive Officer

We are about where we want to be. We've got a couple of more to come out, but we're... with the growth opportunities we see, we're going to probably be looking at more new engines as the growth shows up. We are about... we thought we'd be just around the 850, 900 mark. We've got a few more coming out, but that's about it.

Christian Wetherbee - Merrill Lynch

Okay, perfect. I guess two other quick ones. Just on price. I know you mentioned a little north of 9% price increase. How much of that was pure price or contract renewals as opposed to fuel surcharge?

Michael R. Haverty - Chairman and Chief Executive Officer

We've stayed away from... fuel, no doubt, was a part of it. But as we've said all along in the past, we have been in the 4% to 6% range in the U.S. and about 7 plus in Mexico, which is sort of an annual basis. And as you could see by our pricing chart, some of our commodities pricing environment is much better than others. And you look at our pricing improvements. Fuel is no doubt a part of it. Remember, though, it has a lag to it with these high feel prices we're seeing in the U.S. and also some of the fuel surcharges that we've got on the contracts. And we said in the past and it's still true today that we have got about 90% of the contracts covered... that covers about 70% of our fuel increases.

Christian Wetherbee - Merrill Lynch

Okay. I guess just one last one on Victoria-Rosenberg, you had mentioned the need to kind of pull that up. Are you seeing an increase in the cross border traffic or can you quantify that at all and what will be driving that? Obviously, there is interest from the liner companies to get that in place. But just wanted to kind of see what kind of first quarter business looked like on that front.

Michael R. Haverty - Chairman and Chief Executive Officer

Yes, we are seeing increase, Chris, we are seeing increase in the cross border intermodal traffic, particularly going into the southeast. And I think we'll see a big jump once we get Rosenberg open. But we are also seeing other business products increase to cross border appliance business and some steel business. We... as our new SeverCor steel facility opened at Columbus, Mississippi and we are shipping both directions to and from Mexico we are seeing them. And also I think chemicals, more chemicals moving into Mexico and also grain.

Arthur L. Shoener - President and Chief Operating Officer

Right. Grain is very strong.

Christian Wetherbee - Merrill Lynch

Okay. And it had been reflected in your length of haul, are you seeing that increase?

Michael R. Haverty - Chairman and Chief Executive Officer

Yes.We are definitely seeing our length of haul improve and particularly in the ag side and in the chemical side.

Christian Wetherbee - Merrill Lynch

Okay, great. Thanks very much guys.

Operator

Our next question comes from the line of Ed Wolf [ph], private investor.

Unidentified Analyst

Hi, not a private investor, Wolf Research [ph] how are you?

Michael R. Haverty - Chairman and Chief Executive Officer

Hi Ed.

Arthur L. Shoener - President and Chief Operating Officer

Hi Ed.

Unidentified Analyst

A couple of things. First, can you... I know it's been asked, but asked a little differently. Can you talk about the impact of fuel and FX on yields?

Michael R. Haverty - Chairman and Chief Executive Officer

Yes, Pat, you want to talk about the currency and --

Patrick J. Ottensmeyer - Executive Vice President and Chief Financial Officer

Fuel... or the currency on... what's the impact on yields, is that what you are asking Ed?

Unidentified Analyst

I mean if I take the 10.9% mix adjusted yield, how do you break that down between price yield and FX really?

Patrick J. Ottensmeyer - Executive Vice President and Chief Financial Officer

I don't have a breakdown of how the currency has affected the yield. A lot of our business is priced in dollars and most of the currency exposure comes off of our balance sheet exposure. So we've never really broken it out that way. And as far as fuel is concerned, again, Art mentioned, we've also not really broken out specifically fuel in terms of the impact on pricing. Fuel, clearly, revenues were up in the quarter, but as far as overall performance, it was a drag because our fuel expense was up quite a bit more than the revenue.

The other thing that we've talked about in the past and it makes it a little bit more difficult for us to isolate on fuel as a function of price on a quarter-to-quarter basis is as contracts have renewed, we have rebased in a lot of cases for the higher fuel prices. So reduces the reliance on fuel surcharge. So, in other words, if the contract comes up for a renewal that the base rate was previously off of $30 oil, $30 per barrel recognizing that we're probably not going to see that over the life of that new contract, we rebase the rate to reflect higher fuel prices. So it's fairly complicated to strip that out and isolate on a quarterly basis how much of our pricing or rate increases and revenue increases relate specifically to fuel.

Unidentified Analyst

In your slide on slide 12 you said price is 9.2. So should I assume that has some fuel in it and some FX. But it sounds like FX wasn't a big deal?

Patrick J. Ottensmeyer - Executive Vice President and Chief Financial Officer

No, FX was not a big deal.

Unidentified Analyst

Another question. I know this might be more directional than numbers you want to give, but can you talk in terms of OR improvement in U.S. versus Mexico?

Michael R. Haverty - Chairman and Chief Executive Officer

Well we get improvements on both sides, Ed. As we have said, we put them together, because that's how we're running the company and both the U.S. and Mexico improved our operating ratios.

Unidentified Analyst

Is it fair to say there's greater improvement in Mexico still, but U.S. is improving it sounds like?

Michael R. Haverty - Chairman and Chief Executive Officer

I think they are both... both sides are doing a good job. Mexico is a little better, but both sides have really picked up the pace. So we are pleased with where we are going and they both have to pick up the pace to make our numbers this year.

Unidentified Analyst

Also, on the automotive side, which are the OEMS that are driving this and are there any new plants that are driving the growth? Just nobody else is seeing anything but pain in auto than you guys, and it's very interesting to see?

Michael R. Haverty - Chairman and Chief Executive Officer

All of our plants, but one of them in Mexico saw an improvement in the first quarter. We haven't... the new plant at San Luis Potosi will be producing in the second half of the year. And then towards the end of the year, the new Chrysler Daimler plant and Tata [ph], we should see some initial stages of production. And the First Auto Works plant won't be until 2010, but we do expect to see more production as the San Luis plant comes on stream in the second half.

Unidentified Analyst

And then how does it break down between the different OEMs for you guys right now as a percent of revenue?

Michael R. Haverty - Chairman and Chief Executive Officer

I don't know. Brian, Luis as a percent of revenue? I don't have that right --

Unidentified Analyst

As a percent of the total auto; in other words, is Toyota the largest customer now in Mexico, is it Chrysler? How do you --

Michael R. Haverty - Chairman and Chief Executive Officer

I would say it's probably General Motors and Chrysler, the top two. I don't know who is first. I am going to say probably General Motors just looking at the numbers and then Chrysler.

Unidentified Analyst

And both of those are growing with you this quarter, year-over-year?

Michael R. Haverty - Chairman and Chief Executive Officer

Yes.

Unidentified Analyst

Got you. Can you give an update on the Meridian Speedway in terms of how many tracks are open and how much capacity is left and when that's going to be completed?

Michael R. Haverty - Chairman and Chief Executive Officer

It will probably be completed... we have made a lot headway. We've had CTC now all the way across. We're going to spend another... we spent almost 200 million bucks so far. We have got another 60 or 70 on the books for this year. We are probably going to be some timing issues on those. So we are making a lot of progress. We have got the capacity up around 30 trains a day now with all the sidings. We have got the speed. We have cut the running time. It's actually under 12 hours on the intermodal trains running across there. So we've still got some projects, but to close out, they will probably not be this year.

Unidentified Analyst

For perspective, what was 12 hours equivalent to two years ago?

Michael R. Haverty - Chairman and Chief Executive Officer

Probably about 17 or 18 before we started the project. I mean we actually are now running from Shreveport to Jackson with one crew. We had a crew change in the middle of Vicksburg before we started the project and we said we had gotten rid of a crew and how we run the trains.

Unidentified Analyst

And where do you think 12 hours can get to when the project is complete?

Michael R. Haverty - Chairman and Chief Executive Officer

When we completed... well, we're committed to run 12 hours and that's what the commitment was... after we got down spending the money. And like I said, it's actually... we've actually come across turning around 10, 10.5 hours.

Unidentified Analyst

Okay, one last one for Pat. The 9.5% senior notes that you plan to refinance in the second quarter, do you have any rough estimate of what the coupon is going to look like on that?

Patrick J. Ottensmeyer - Executive Vice President and Chief Financial Officer

I think right now, I'd say 8.5 to 9, but the market has improved a bit, but we have got no concerns about our ability to refinance it. But it's clearly going to be more expensive than some of the deals we've done in the past couple of years.

Unidentified Analyst

Makes sense. Thanks a lot for the time everybody.

Operator

Our next question comes from the line of Randy Cousins with BMO Capital Markets.

Randy Cousins - BMO Capital Markets

Good afternoon. I wonder if you guys could walk us through your slide number 14, because I am looking at your chemical arc increases 1.5%. And given what's happened on fuel, I wonder if you could give us some granularity in terms of sort of why the chemical was up so little. Is it an issue of length of haul or what's going on there?

Arthur L. Shoener - President and Chief Operating Officer

Yes, it's primarily, Randy, length of haul. We have got a new movement out of Baton Rouge and it's down to New Orleans to a sit yard at New Orleans. We've renovated our yard at New Orleans and that's the primary driver of that being. The volume has increased and this is a temporary move until our customer at Baton Rouge builds their own sit yard and then it will be a whole different flavor. But one thing about it, the sit yard at New Orleans, we've got a lot of customer interest from other people as well as this customer to do something in the future, but that is the big driver.

Randy Cousins - BMO Capital Markets

Anything for automotive, length of haul?

Arthur L. Shoener - President and Chief Operating Officer

Yes, about length of haul in which plant, the automotives... the automobiles are produced at in Mexico. We have got plants clear down by Mexico City and we've got some up around Monterey. And when they come out of Monterey, it's a length of haul issue. And that's just where they are producing, what you are producing. We think the big cars of General Motors at their Solihull plant as we know the demand for more fuel efficient vehicles has cut the production out of their bigger Escalades type vehicles.

Randy Cousins - BMO Capital Markets

Okay. Slide 15, you've got your conversion rate as 53%. Now the last couple of quarters, you guys have been ringing in a conversion rate that's kind of almost close to 100%. Anything that we should take note of in terms of the change in the conversion rate or should we be sort of looking at this to continue to ramp up?

Arthur L. Shoener - President and Chief Operating Officer

I think we are going to... we've been around that... I didn't realize it was 100. I thought we were more around about 75. We were around... I thought between 60 and 75 in the past but 53 I think is by anybody's standards still pretty good. Now we are not settling for 53. We have got a lot of things. And as Mike said, showed on his slide, there is a lot of vol [ph] in the air. We've got a lot of people we are working with and some pretty big contracts. But much timing and with some of the slowing down, I would mention, people are... well we find people who are a little more cautious on completing some of the things too.

Randy Cousins - BMO Capital Markets

Yes,I realize that the conversion rate was actually... is actually very, very good. I was just wondering... that really is to some extent customer cautiousness that maybe impacting the conversion rate?

Arthur L. Shoener - President and Chief Operating Officer

I think it has a little bit of effect. But we are still seeing is... we are seeing a lot of interest in this type of thing. And yes, 64% is what one of the guys just showed me here is what we've been doing. So anyway... but that being said, it's still... we have still got a lot of opportunities in Mexico. You have heard us talk about them. They are still there, there is a lot of people talking to us about changing distribution patterns and particularly as it relates to stuff to and from the U.S. and Mexico. So still very --

Randy Cousins - BMO Capital Markets

And the Rosenberg project, it sounds like it's got just great economics. I wonder if you could give us a sense of how you are thinking about in terms of either payback or cash return on that investment.

Arthur L. Shoener - President and Chief Operating Officer

I am sorry, on which one?

Randy Cousins - BMO Capital Markets

On the Rosenberg investment. Victoria-Rosenberg?

Patrick J. Ottensmeyer - Executive Vice President and Chief Financial Officer

Yes, Randy, this is Pat. We looked at, as Mike said, the economics just on a replacement or cost avoidance basis of shortening the route from 160 to 90 miles. And all the fuel savings, the equipment cost, the crew savings et cetera is on $100 million project, the returns are in the upper teens. So in 16% to 18% rate, internal rate of return. But clearly, the real value of that is not just to avoid the cost of the longer route; it's to create a superior route for ourselves and be able to drive the growth in the cross border business, particularly into the Houston market.

Randy Cousins - BMO Capital Markets

Okay. Last question and I'll get in queue. Productivity was 1 point... labor productivity was up about 1.4% year-over-year. Union Pacific I think actually had about 4% productivity growth. How should we model sort of productivity growth over the balance of this year? Is 1.4, are you happy with that number or is there a lot more to come?

Arthur L. Shoener - President and Chief Operating Officer

There is more to come. I mean that's the operating ratio. I mean there is going to be... you asked [ph] revenue is a part of it. But with new units and maintenance and the Rosenberg-Victoria as classic example. When that's completed, one crew out of that crew base... one whole crew change comes out of that route where we have got focus on our metrics all across the board to reduce the well time and reduce handling. So we are focused on improving our productivity also.

Randy Cousins - BMO Capital Markets

Okay, great. Thank you.

Operator

Our next question comes from the line of Scott Nichols with Gilford Securities.

Scott Nichols - Gilford Securities

Good afternoon gentleman. My question is... we have seen from the weekly freight statistics that your originated container traffic in Mexico was up sharply. Could you tell us approximately where most of that traffic goes? Is it across border or is it mainly to destinations in Mexico?

Arthur L. Shoener - President and Chief Operating Officer

It's a mainly... Scott, it's Art Shoener... it's basically into Mexico City this is the movement and to Monterey right now. We know that once we get over into Rosenberg, there is a lot of interest based on Brian's trip to go to Rosenberg, but we have to have a place to ground it. So most of our improvement has been in Mexico right now.

Scott Nichols - Gilford Securities

All right, thank you.

Operator

[Operator Instructions]. Seeing as there are no further questions, I'd like to turn the call back to management for any concluding remarks.

Michael R. Haverty - Chairman and Chief Executive Officer

I think we have pretty much covered everything today. We want to thank all of you for either following us on the website or on the telephone and we look forward to seeing some of you back in New York at our next analyst presentation and also having others on the phone and on the website. So anyway, thank you for joining us.

Operator

Ladies and gentlemen, this concludes today's teleconference. Thank you for your participation.

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

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

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

Source: Kansas City Southern Q1 2008 Earnings Call
This Transcript
All Transcripts