Operator:

Greetings, and welcome to the Union Pacific Second 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 and the slides for today’s presentation are available on Union Pacific’s website. It is now my pleasure to introduce your host, Mr. Jim Vena, Chief Executive Officer for Union Pacific. Thank you, Mr. Vena. You may now begin.

Jennifer Hamann:

Thanks, Jim, and good morning, everyone. Let’s start on Slide 5 with a walk-down of our second quarter income statement, where operating revenue of $6 billion increased 1% versus last year on slightly positive volume. As Kenny will highlight, this strong topline performance was supported by solid pricing gains and business wins against the backdrop of weak coal demand. Second quarter freight revenue totaled $5.6 billion, a 1% gain. Digging into the revenue components, strong core pricing gains partially offset by an unfavorable business mix added 150 basis points to freight revenue. Double-digit growth in international intermodal volume was the primary contributor to the negative mix dynamic and further compounded by an overall decline in our higher average revenue per car industrial business. Slightly positive volumes in the quarter added 50 basis points to freight revenue. And lastly, fuel surcharge revenue of $669 million declined 5% as lower fuel prices impacted freight revenue 75 basis points. Excluding fuel surcharge, freight revenue grew 2% as the team continues to pace revenue growth faster than volume. Wrapping up the topline, other revenue declined 6% as a result of lower intermodal accessorials and less demand for auto parts shipments at our Loup subsidiary. Switching to expenses, second quarter operating expense of $3.6 billion decreased $152 million versus 2023 as we drove productivity across most cost categories. We have more details in the appendix, but let me highlight some of the performance drivers. Compensation and benefits expense declined 6% versus last year as we reduced headcount 5% and generated positive productivity. Although our training pipeline is significantly reduced compared to 2023, train service employees increased 1% as we continue to carry more train service employees as a buffer for our operations and to offset the impact of new labor agreements. The remainder of the workforce decreased 9% as we continue to focus on delayering and pushing work down in the organization. And, as you’ll recall, last year’s expenses included a $67 million one-time ratification payment. Following up on an item we highlighted at our first quarter report, last month we completed the transfer of around 350 mechanical employees to Metro in Chicago. Going forward, this transfer will lower both other revenue and our expenses by roughly $15 million a quarter. Excluding last year’s one-time labor payment, cost per employee in the second quarter increased 4% as we continue to drive for better overall efficiency. Fuel expense in the quarter declined 6% on a 5% decrease in fuel prices from $2.86 per gallon to $2.73 per gallon. We overcame a challenging operating environment and less fuel efficient freight mix to improve our fuel consumption rate 1% largely by locomotive productivity. Equipment and other rents declined 12%, reflecting improved cycle times and lower lease expense, partially offset by business mix. Finally, other expense decreased 4% as we recorded a couple of one-time items in the quarter. On the positive side, we added a $46 million gain from an intermodal equipment sale. Conversely, we recognized $23 million of additional environmental expense at a legacy California remediation site. Second quarter operating income of $2.4 billion increased 9% versus last year. Below the line, other income increased 11% as a result of interest received on tax refund claims, while interest expense declined 6% on lower average debt levels. Second quarter net income of $1.7 billion and earnings per share of $2.74 both improved 7% versus 2023. Our quarterly operating ratio of 60% improved 300 basis points year-over-year. As I just discussed, there were several puts and takes in the quarter. Key here is that our core operations drove 160 basis points of OR improvement and $0.21 of EPS growth year-over-year. This is a great continuation of the momentum we’ve created these past three quarters. Turning to shareholder returns in the balance sheet on Slide 6, second quarter cash from operations totaled $4 billion up $175 million versus last year. Growth in operating income and 2023 labor agreement payments partially offset by higher income tax payments resulted in the increase in cash from operations and our free cash flow improvement, up 43% to $853 million. As stated back in April, we restarted share repurchases late in the second quarter. Although we plan to ramp up repurchases through the year, we started slowly with just over $100 million repurchased in June. Combined with our dividend payments, we’ve returned $1.7 billion to shareholders year-to-date. Finally, our adjusted debt to EBITDA ratio finished the quarter at 2.8 times and we continue to be A rated by our three credit rating agencies. Wrapping up on Slide 7, as we’ve reached the midway point of 2024, there remains some uncertainty about the second half recovery that many were forecasting. As Kenny will detail, there are definitely markets where we’re seeing growth and much of that growth is being driven by our business development efforts. There also are some challenge markets, particularly coal. Operationally, the team is making great progress towards our long-term goals to be the best in safety, service and operational excellence. This is reflected in the progress in our safety and performance metrics, including our margins. Importantly, we believe the trend is indicative of where we can get to long-term and each successive quarter is a step on our way to winning. We are highly confident in our ability to generate price dollars in excess of inflation dollars and still expect freight revenue to pace ahead of volume in 2024. We also remain committed to our long-term capital allocation strategy. This includes last week’s announcement of a 3% increase in our dividend as we drive higher returns to our owners. This increase represents the 18th year in a row of annual dividend increases. With share repurchases, we expect to repurchase around $1.5 billion in 2024 as we maintain our current leverage. Before I turn it over to Kenny, I’d summarize our second quarter financial performance as strong and our confidence in the future stronger as we continue to unlock the potential of our great franchise. We’re excited to execute on our strategy in the second half and lay out more of our long-term thoughts at our Investor Day in September. Kenny?

Eric Gehringer:

Thank you, Kenny, and good morning. Moving to Slide 12. As you heard from Jim, Mother Nature delivered many powerful weather events throughout the quarter as we experienced impactful flooding across both our northern and southern regions. But, we’re not here to make excuses. Leveraging our intense focus on operational excellence and detailed contingency plans the team quickly acted to mitigate the impact by adjusting trip plans and deploying temporary buffer resources to safely restore operations. I’m very proud of our frontline employees who worked tirelessly to repair our infrastructure to minimize the customer impact. There are countless examples highlighting their efforts as they repaired miles of damaged track, restored bridges and cleared countless trees and debris. That being said, versus 2023, service levels and network performance for the second quarter remained strong, demonstrating our recoverability in the wake of major weather disruptions. Starting with our foundation of safety, we continue to drive improvements building on the momentum of the first quarter. For the second quarter, both derailment and personal injury rates improved year-over-year. While I am proud of the team for making this progress, we will not rest until every employee goes home safe to their loved ones every day. Freight car velocity was flat in the second quarter compared to 2023 as improvements in terminal dwell were offset by weather impacted train speeds. The opportunity here is to drive even stronger terminal dwell performance by removing unnecessary car touches across the network. On the service front, intermodal SPI improved four points as manifest and auto SPI remained flat. Although we worked hard to minimize impact on weather on our service product, we know customers felt the impact, particularly those located in the affected areas. Now, let’s review our key efficiency metrics on Slide 13. The team remains highly focused on cost control, leveraging technology and other investments to drive productivity throughout our operation. As I mentioned last quarter, it is imperative to our strategy as it enables Kenny and the team to compete in the marketplace. Similar to the first quarter, we saw year-over-year improvements across all of our metrics. Locomotive productivity improved 6% compared to second quarter 2023 driven by improved network fluidity and asset utilization. Throughout the year, we have been able to efficiently flex our locomotive fleet with units readily available to adjust to varying volume levels. Workforce productivity, which does include all employees, improved 5% versus 2023. While overall employee levels decreased, our active train, engine and yard employees increased as we implement new labor agreements. Train length improved 2% compared to second quarter 2023 and 3% sequentially due to increased intermodal volume combined with the usage of safety technologies like Precision Train Builder. In fact, our second quarter result was a quarterly record and June marked the first month ever with train length over 9,600 feet. This is a remarkable achievement by the team as they continue to generate mainline capacity for future growth. Wrapping up, it’s important to note, as we continue to implement new technology throughout our operation, we are also building new processes. These processes powered by automation and real-time analytics open new capabilities for Union Pacific and our customers. I’m looking forward to sharing such examples at our Investor Day in September. So with that, I’ll turn it back to, Jim.

Operator:

Thank you. We’ll now be conducting a question-and-answer session. [Operator Instructions] Thank you. And, the first question today is from the line of Brandon Oglenski with Barclays. Please proceed with your question.

Brandon Oglenski:

Hey, good morning. Good morning, and thanks for taking the question. So, Jim, if I recall, it was almost a year ago that you got appointed CEO and I think you said publicly like give me a year then let’s look back and judge how things went. I think you just clearly articulated the coal headwinds in the quarter. But I guess, how would you look at the past year in terms of operational improvement, network performance? And then maybe most importantly customer growth, which I think you were alluding to?

Brandon Oglenski:

Appreciate the answer, Jim. Thanks.

Operator:

Our next question is from the line of Scott Group with Wolfe Research. Please proceed with your question.

Scott Group:

Hey, thanks. Good morning. So, I know, Jennifer, mix can swing on you positive negative. Any thoughts on mix based on your volume outlook in the back half of the year? And then, I just want to bigger picture, right? Even if I adjust for mix, the yield growth is still relatively muted in the context of higher inflation. And so, I know I’ve asked this before, I keep asking because I just think it’s so critical like when do you guys think we truly get back to inflation plus pricing? And, I don’t mean like dollars versus dollars, I mean like margin accretive inflation plus pricing because I think that’s sort of like the, in my opinion, the key to like having confidence in like sustained margin improvement. So, I don’t know, any thoughts? Thank you.

Scott Group:

Thank you.

Operator:

Our next question is from the line of Jason Seidl with TD Cowen. Please proceed with your question.

Kenny Rocker:

Yes, Jason, you’re right, on. We’ve seen some NLG products down in the Gulf that have been delayed or slow roll. And, a lot of it also is just overall demand and we haven’t had the best weather, haven’t seen that in that second quarter. So yes, it is. I will tell you this though, Jason, Eric’s team is doing everything they can to capture the volume that is out there. We’re looking at adding every car to every train that we can to maximize efficiency. So, as the opportunities are there we’re taking advantage of it.

Kenny Rocker:

I think, it’s wait and see. It’s hard for us to go out and forecast what a lot of the customers will do and how the contractors will play out. Our best bet is just to be prepared, which we are.

Jim Vena:

Thanks for the question.

Jon Chappell:

Thank you. Good morning. Jim, do we get to a point in your new tenure here where some of these productivity improvements that you’ve made start to hit a ceiling without volume? And, clearly what you’ve been able to do on locomotives and workforce, in a flat volume environment and of course we understand what’s happening with coal, is pretty impressive, but do you hit the ceiling without a volume tailwind at some point?

Jon Chappell:

Great. Thanks, Jim.

Operator:

Our next question comes from the line of Stephanie Moore with Jefferies. Please proceed with your question.

Jim Vena:

Good morning.

Jim Vena:

Stephanie, listen, I just sort of answered overall on the high level what I see, but I’m going to pass this off to, Kenny. Kenny, you talked about margin, how we’re looking at pricing, how we move ahead.

Stephanie Moore:

So, I guess just a follow-up, really nothing from a seasonality standpoint to really call out as we think about performance as the year progresses?

Jim Vena:

Thanks, Stephanie.

Jim Vena:

Good morning, Brian.

Kenny Rocker:

Yes, let me take this, the first one on international intermodal. So first of all, yes, we’ve seen some very strong growth on the international intermodal side and yes, we have seen some of that spillover on the domestic intermodal side. And, I want to touch on the fact that our product development, meaning the investment that we’ve made efficient investments in places like Inland Empire helping us to grow. Here recently, even though it’s a short-term phenomenon because of the labor issues up in Canada. We’re not going to just take that volume in the short-term. We’re doing everything we can to get it permanently. We won a piece of business into our Twin Cities Inland Intermodal Terminal and that’s the way we can take advantage again of the product development that’s out there. So, that’s the international intermodal. I talked a little bit about the fact that yes, we are seeing quite a bit that’s being transloaded that’s showing up on the domestic side and our products are helping grow. In fact, when we look at our domestic business, year-over-year in the quarter it was up and we feel pretty good about where it started off here in this quarter. So, that’s some real specific feedback for you.

Brian Ossenbeck:

Okay, understood. Thank you.

Operator:

Our next question is from the line of Ken Hoexter with Bank of America. Please proceed with your question.

Ken Hoexter:

Good morning. So, service was challenged by the weather in the quarter. You’re showing an ability to recover. Jim, you just noted we should continue to see operating ratio improvement going forward. Should we see that improved car velocity going forward now you don’t have storms and being the cost benefit then I guess I’ll ask kind of Stephanie’s question a little differently. Given the hazy economic outlook, can operating ratio improve sequentially?

Ken Hoexter:

Thanks, Jim.

Operator:

Our next question is from the line of Tom Wadewitz with UBS. Please proceed with your question.

Jim Vena:

Good morning.

Kenny Rocker:

Yes. Thank you, Tom. So, you’ve got a few macroeconomic indicators like, industrial production, not strong, housing starts aren’t helping us either and then you know where natural gas prices are. So, we don’t get the rollover and play dead, because coal is not where it needs to be. The commercial team is out there hustling and getting more business. Let me talk about some of the areas that I feel good about from a business development perspective. Renewable diesel, I’ll start with that. That’s an emerging market. I’ve been really excited that the team has been out there growing origin points and destination points. It allows us to pitch and catch. On the petrochemical side in the Gulf, we talked about the investments there and the wins that we’ve been able to get in that petrochemical market. And then, on the Premium side, I’ll talk about it from a couple of angles. One is Mexico will continue to be a market over the near-term and long-term. And, you’ve seen that Eric side has put up some really good products up against it as we talk about that north south quarter getting into the Midwest and products in terms of getting into the Southeast and then bought quite a few new products coming out of Houston, going into Phoenix, setting up our ramp and expanding in different areas. So, in some cases, we have to create our own markets to make the pie larger and that’s exactly what you’re seeing.

Kenny Rocker:

Both domestic and our international intermodal.

Kenny Rocker:

It’s still very unclear for us. I’m not in a position to forecast where it is. All I’m telling you is that we’re going to go out and make our own markets where we can and we’re doing that through the product development that I mentioned and working with customers.

Jim Vena:

Thanks, Tom.

Jim Vena:

Good morning, Chris.

Kenny Rocker:

The short answer is yes. The long answer is that every contract is unique, every customer is unique, every discussion is unique. We’re mixing that with what’s happening on the service side. A stronger service product is helping us. We’ve always been very price disciplined as a company. What you’re seeing is that now we’re able to take a little bit more risk as we’re talking to our customers because of the inflationary pressures that are out there.

Jim Vena:

Thanks, Chris.

Walter Spracklin :

Thanks very much, operator. So, Jim, you mentioned before your sabbatical there, you were able to achieve an operating ratio as low I think in one quarter it’s 55.1%. And there’s been a lot of talk in about how this time is different and that might not be an achievable number. So, not asking you a target, just rather asking you, are things different -- are there factors that are really limiting you that weren’t there before either cyclical like volume or structural like the work rules? Just trying to get an apples-to-apples compare of what kind of what is the new 55%, not asking you that, but more asking you are there those factors are they meaningful enough to kind of put it in permanent impairment on that on an objective or any comparing it to any prior level of operating ratio achievement?

Walter Spracklin:

Appreciate it. Okay, thanks for the color, Jim.

Ben Nolan :

Yes, thanks. I was interested to see that the average train length, I think you’d said, was the highest that it’s ever been. It was curious if, as you think about that going forward, maybe there were some puts and takes, like more international intermodal, I assume is helpful to that, but maybe coal is detrimental. Do you think there’s more room to go there? Can we continue to see, the train lengths improve? And then, obviously, that is beneficial to everything across the board, but OR in particular.

Eric Gehringer:

Ben, to be very clear, the answer to your question is yes, we can continue to grow it. Now let’s make sure we’re all on the same page, 2% improvement in the quarter, 3% sequential improvement. To your comment, best quarter we’ve ever had and June was the highest month in the history of Union Pacific at 9,600 feet. And we want to give a lot of credit to our team. That’s hard work to do that. Now when we have conversations about TrainLink, we also got to remind ourselves that since 2019, our mainline derailments are down 42%, while our TrainLink has been up 20%. That’s because we continue to invest in technology and science. And that’s really going to be the continued foundation of how we keep building this out. Yes, to your point, mix makes a difference, but what makes more of a difference is getting more volume on the railroad like we’re seeing with intermodal, that’s been a tailwind for us, but also using our Precision Train Builder software as well as other things that continue to identify opportunities for us to do it. And then on a day to day just fundamentally how we run the railroad and we’ve talked about this before, we still see opportunities to combo trains largely on the bulk side. So yes, there is more opportunity, the team is up against that. I’m looking forward to their continued gains.

Operator:

Our next question comes from the line of Jordan Alliger with Goldman Sachs. Please proceed with your question.

Kenny Rocker:

Yes. I’ll start with coal first and then work my way back. And again, coal is a natural gas prices are all over the place. If you look at April, they were the lowest on record for a few years and as we move throughout the quarter by June they had bounced back up. It’s very difficult to go out and forecast based on that. We talked about preparedness. We’re talking with Eric’s team daily to make sure we can capture the demand that’s out there. I’ve been very encouraged that our commercial team is talking to each coal customer, each coal receiver one by one to see when they can add in set. So, we’re doing everything we can to influence the demand there. So, overall demand, let’s just talk about a few things. One, on the international, intermodal side, that’s been a strength for us. I think that will stay with us at least for the quarter. I can’t see out further than that. I talked about a little bit earlier the positives we’re seeing from that on the domestic side and the products that we have up against it to go out there and grow. Grain, you had a question about grain. Hey, look, the crop looks great right now as it stands today. The demand looks what I call stable. We’ll see what happens on the export market. But while we are waiting for the export market, our commercial team is engaging those domestic receivers. And Mexico is also an area from a business development perspective that we want. So, we can’t just wait around for some of these markets to help us out. We’re doing something about it and making something happen. Automotive, same thing. We talked about the wins. What I hadn’t talked about is that we’ve had some products where Eric has helped us out where we’ve had land bridge opportunities. So, again very specific actions up against the service and the product to really help overcome some of these other macroeconomic challenges on the housing and industrial side.

Jim Vena:

Thank you. Thanks for the question.

A – Jim Vena:

Good morning, Bascome.

Jennifer Hamann:

Yes, thanks for the question, Bascome. So, coming into the year, we said that we thought our full-year inflation would be around 5% or so. I think we’re probably tracking pretty close to that. We’re seeing some wins in some of the purchased service categories, seeing a little bit greater acceptance in the marketplace, few more people coming into bid. So, that’s encouraging and certainly that’s an opportunity for us to get a little bit better pricing on that purchase services side of the world. Same with materials to a certain extent, obviously that plays more into our CapEx spend than it does the OE, but both are very important to us, right. We’re looking to control costs at every turn. Comp and benefits certainly is a big piece of our expenses. That inflation, I would say, is still probably running around that 5% level that we talked to coming into the year. I think as you all know, we’ve got a 4.5% wage increase that became effective. The last one in this round of negotiations became effective July 1 for our craft professionals. So, I don’t see a lot changing there. It’s just some moving pieces and parts and we’re trying to find areas where we can try to mitigate that either through our productivity, through our purchasing and how we’re just running the railroad in general. And obviously, that’s the task that we have up against Kenny and his team is, these are the inflationary pressures that we’re facing, this is what’s going into the cost structure and we need to go out there, have those tough conversations and the team is doing that and I feel very confident about that.

Jennifer Hamann:

Yes. I mean, it’s too soon to say, Bascome, at this point. But boy, my hope is that we’re talking about a number that’s less than 5% next year as we move in. It seems like all of those indicators are moving in the right direction, but we’ll look at that. I think to your point though, when I look back historically, we used to talk about an inflation rate that was around 2%. I don’t think we’re going to get back to those levels, but certainly, we’re going to work to push it down below 5%.

Bascome Majors:

Thank you both.

Operator:

Our next question is from the line of Ravi Shanker with Morgan Stanley. Please proceed with your question.

Christyne McGarvey:

Hey, good morning. This is Christyne McGarvey on for Ravi. Thanks for the question. I wanted to circle back to the business development conversation and maybe ask the question in a slightly different way. Just curious if you guys have seen any notable changes in terms of the makeup of the pipeline or maybe even more particularly customer behavior. Just as think about pipeline conversion, is there anything out there with macro or political development that kind of leaving shippers with some decision paralysis that wears off in the coming months and that could start to see conversion accelerate, but just be curious on that angle how you guys are thinking about things?

Jim Vena:

Thanks for the question.

Operator:

Our next question is from the line of Daniel Imbro with Stephens. Please proceed with your question.

Daniel Imbro:

Yes. Hey, good morning, everybody. Thanks for taking our questions. Maybe one from a capital efficiency standpoint. So, Jim, how do you feel about the assets you guys have today? I think you all mentioned in the prepared remarks you could flex the fleet up and down. Utilization probably always go up, but obviously there’s longer term savings. So, how do you balance the need to refresh some of the fleet? How do you think about capital spending in this environment just potentially ahead of more volume growth as we look forward from here?

Jennifer Hamann:

No, you hit it just right.

Daniel Imbro:

And so, share repurchases would be expected use of excess free cash flow, if cash flow came in stronger, Jim, is that the right way to interpret that comment?

Daniel Imbro:

Great. Thanks so much. Best of luck.

Operator:

Thank you. Our last question is from the line of David Vernon with Bernstein. Please proceed with you question.

Kenny Rocker:

David, Jim, I’ll take the first one. So look, we’ve been 18 months now, a little bit over 18 months where domestic intermodal pricing has either been going down or just staying at the bottom. And, I’m not going to sit here today and try to forecast when it’s going to move up, which I’m highlighting the 18 months because it’s been quite a time here and so we’ll see what happens. Here is the key thing I want you to focus on is that I mentioned here recently we’ve been able to see some year-over-year growth on domestic intermodal. We’ve got a group of private asset providers that give us a lot of add backs, a lot of options and we’ve been really as a company doubling down on our product development. So, that when things change, and they will change, but I’m not going to forecast it, we’ll be prepared.

Kenny Rocker:

I’m ready. You bet you, Jim.

Operator:

Thank you. This concludes the question-and-answer session. I’ll now turn the call back over to Jim Vena for closing comments.

Operator:

This will conclude today’s conference. Thanks for your participation. You may now disconnect your lines and have a wonderful day.

Operator:

Greetings, and welcome to the Union Pacific First Quarter 2024 Conference Call. [Operator Instructions] A brief question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded, and the slides for today's presentation are available on Union Pacific's website.

Vincenzo Vena:

Thanks, Rob, and good morning to everyone. Beautiful day in Omaha, 60 degrees, a little bit of rain. It is absolutely perfect for railroading. So why don't we get started? And thank you for joining us today to discuss Union Pacific's first quarter results.

Kenny Rocker:

Thank you, Jennifer, and good morning. As Jennifer mentioned, freight revenues totaled $5.6 billion for the quarter, which was down 1% as core pricing was offset by lower fuel surcharges and a 1% drop in volume.

Eric Gehringer:

Thank you, Kenny, and good morning. Moving to Slide 12. We exited 2023 with strong operational momentum across the board. And while weather quickly presented its challenges, the team rose to the task. The speed with which our service product recovered is a testament to our strategy and the resiliency of our network. We continue to see meaningful year-over-year improvements in our metrics. This is a direct result of our steadfast focus on providing industry-leading safety, service and operational excellence.

Vincenzo Vena:

Thank you, Eric. Turning now to Slide 15. Before we get to your questions, I'd like to quickly summarize what you've heard from our team. First, as you heard from Jennifer and Kenny, our volume outlook in some markets continues to be challenged. We are mitigating those challenges by driving efficiency in the network, which is driving stronger financial returns, and this provides confidence to start repurchasing shares in the second quarter.

Operator:

[Operator Instructions] And our first question comes from the line of David Vernon with Bernstein.

Vincenzo Vena:

You bet. David, thanks for the question. And I'll just summarize real quick what we're doing. And then, Kenny, maybe you want to get into a little bit more of the specifics, okay? So if we look at what we're doing on the railroad side, and that's very important in how we're going to be able to grow and grow with our customers is our customers -- some customers we have expect speed and resiliency in the model. And others, it is -- speed is less of a concern. It is consistency in the model. So if you take a look at what we're doing, we are building the fundamental blocks that we are able to provide a service like no one else. We can go from and we're out there selling it. So in the high-speed market to market, we have a service that operates very high speed, 2,000 miles in less than 2 days, that makes us competitive against other modes of transportation.

David Vernon:

All right. If I could maybe squeak one quick follow-up. How is the FXE performing with the extra volume? I know south of the border, there's been a lot that shipped over onto that. And then, are you thinking about sort of expanding capacity over the Eagle Pass Gateway to maybe accommodate future growth out of Mexico?

Justin Long:

So it was good to see the OR improve a little bit sequentially despite the typical seasonality that you see. And in the outlook, you talked about profitability gaining momentum. But can you help us translate that into how you're expecting the OR to trend over the balance of the year? It seems like we're tracking towards the sub-60 the rest of 2024, but is there anything on the horizon that could prevent that from happening?

Amit Mehrotra:

Congrats on the strong results. Eric, obviously, you and the team have done a phenomenal job with the operations and the metrics. We've kind of been stuck in this 155,000-ish 7-day carload number. I will be curious to get your confidence and perspective on how much more you can handle when Kenny gives you that to handle. How you feel comfortable about moving 5,000, 10,000 more carloads per week, if you can talk about that?

Eric Gehringer:

Good. I'll start with it, Amit. Thank you very much for that question. Now I want to be really clear right off the bat. We have the capacity to be able to handle more than 155,000 carloads. What brings us tremendous confidence is when you think about the 5 critical resources that we have. We clearly have enough terminal capacity. We clearly have enough mainline capacity. More specifically, we've talked about in the past and continue to maintain a buffer in our crew base. We have a couple of hundred extra crews based across the system that are available. As to your point, when that volume comes on, we have the crews.

Vincenzo Vena:

So, Amit, the only thing I would add is, and you know, I've never given guidance on operating ratio because it's a result of how you operate the railroad, and that's really important. But ex-fuel, a 60.1% last quarter with where the volumes were, what we did with price and what we did with efficiency on the railroad, that's a pretty good number. It's okay in the way I look at the world. Some people would say it's excellent. I go, it's pretty good.

Jonathan Chappell:

Jim, I was going to ask just kind of where you left off. In January, you kind of admitted somewhat modestly that it would be difficult to improve the margin without a volume tailwind. And here you are with 200 basis points of core improvement with volumes down year-over-year. So what was the, I guess, change in the last couple of months? Eric touched on a lot of things, but how are you able to make such a huge improvement in such a short period of time? And what's your comfort in the sustainability of that when you actually do get a volume tailwind in the network?

Ken Hoexter:

Congrats for the team on some great results in a tough volume environment. But I wanted to dig into, maybe flipping Amit's question a little bit on the other side. You've been focused on these operations for 8 months now. I want to understand the more room to run, right? So you're getting service to where you want, but -- maybe is there a continued ability to pull out locomotives and cars as you continue to get more efficient? Maybe just give kind of some examples of -- Eric talked about increasing train life. Isn't there ability to go further before the volumes come online? But just -- PSR typically is, you focus on improving the service and then you get the ability to pull out the equipment and employees as you move forward, so maybe just talk about the opportunity to keep doing that.

Kenny Rocker:

I mean we talked about the efficiency. It shows up in the product development that we talked about. It shows up in all these small discrete things like adding more cars right at the customer's plant and asking for more business by customer, by plant.

Ravi Shanker:

So the 3.5% price/mix number in 1Q, kind of how do you think about that over the course of the year? And obviously, puts and takes on the macro, truck pricing, et cetera, and some movements in the mix side as well. So how do we think the number evolves?

Kenny Rocker:

Yes. I've been very encouraged and proud of the commercial team and the conversations that they're having with customers on price, articulating the inflationary pressures that are there and working with those customers to price to the market, taking a little bit more risk to price that business. And at the end of the day, our service product has improved, as you can see in the results, and we're talking to our customers about that and aligning that with the capital investments we're making. So it is not a coincidence or by luck, we are having very deliberate conversations with our customers.

Jennifer Hamann:

Those are 2 different ones, Ravi.

Brian Ossenbeck:

Just wanted to kind of follow up on that last question from Ravi. In terms of just the mix, it sounds like it's getting better from here. Maybe, Kenny, you can give us some color in terms of the pace of renewals as it was always going to take a bit of time to touch through the rest of the business and services helping with that momentum. So it would be helpful to hear that.

Kenny Rocker:

Yes, I'll start off. Thanks for the question. I said that back in January, it's not like we woke up January 1 and started deciding that we needed to have these deliberate conversations with customers. These started well early last year. And we've shared this. We can touch close to half of our price annually. The other half is in multiyear deals. I touched on it a little bit, about the deliberate conversations that we're having, the risk that's out there. And then I'll talk about a couple of markets.

Jordan Alliger:

You've alluded to this a few times this morning, but productive and cost takeout, certainly seem better than we would have had in our model, particularly in areas such as PT, which you have alluded to as well as the rents. Can you maybe talk to some of the sustainability of the current trend line? Because it was quite a bit of a delta versus what we've seen lately as we move forward from here.

Eric Morgan:

This is actually Eric Morgan on for Brandon. I just wanted to ask another one about mix. I appreciate the detail on the impact to yields, but I was just curious if you could speak to any effects on margins just because with coal being down, big drag on volumes right now in international intermodal as well. Should we be thinking these sort of mix swings helped to drive the strong OR in the quarter? Or is it really just an RPU impact?

Vincenzo Vena:

You bet. And just to sort of -- why don't I summarize the way I look at the quarter and what we see moving forward? First of all, if you look -- if you take a look at our results, our industrial, and that's what I love about Union Pacific is our industrial originations, the Mexico product that is non-intermodal, which gives us a different level of return and price capability, is strong. And that's what we want to see. And that was -- that's what helped us in the first quarter, and I can't see that changing, except I just don't know where the macro items are going to be in the short term in the U.S.

Jeffrey Kauffman:

Congratulations, this quarter, a tremendous result. I wanted to take a step back, a question for Kenny. What are you seeing in terms of customer commitments to near-shoring or rebasing manufacturing? And then in terms of coming back to the rail, your service metrics are up. And clearly, there's a flywheel effect there, but what are your customers telling you they need to see, those that maybe took business away before they would bring that business back?

Thomas Wadewitz:

Nice performance on the OR and the network and everything, so congratulations on that. I wanted to just get a little more color, I think, Jennifer or whoever else wants to jump in on the expense side, I know you've got a couple of questions, but comp and benefits, how do we think about that going forward? Is headcount stable? Did that go down a little bit?

Jennifer Hamann:

You bet, Tom. So let me start with the purchased services. So I think I did say that the one-time item there accounted for about half of the year-over-year decrease. So you should set that aside when you're thinking about rolling that forward. But again, as you heard me talk on another question, we still obviously think we have opportunities there.

Jennifer Hamann:

Yes. I mean, obviously, if there's a significant change up or down from a volume perspective, that can have an impact, but I think we feel like we're in a pretty good place right now.

Bascome Majors:

The owners of your Western competitor made some very public comments about really wanting more margin and profitability out of that business just a few months ago. Can you speak to if you've seen anything different in either how they approach the market or operate their business? And is or can that create opportunities for you to grow in the midterm?

Scott Group:

So Jennifer, Kenny sounded a bit better on price. I know last quarter, you talked about price/cost is a margin headwind for the year. I'm just wondering, are we getting any closer to that becoming a tailwind, right, if we can combine some of the productivity stuff with price/cost that the margins could get pretty good. I just don't know if we're getting closer to that inflection yet. And then can you just clarify that if we've seen the full impact of the coal RPU headwind from lower nat gas, or if there's another step-down coming there?

Kenny Rocker:

Yes. I just want to reiterate what Jennifer said, we'll exceed our inflationary dollars. On this coal question that you have, we're looking at the same things. You're looking at in terms of the natural gas futures, and we're talking to our customers, similar to my comments around domestic intermodal. Yes, I think we're at the trough levels, when they will come up is yet to be seen. They're still depressed. We'll see if we get some seasonal lift here going into the spring and the summer. I want a hot, muggy summer so we can move more business. But if that doesn't happen, we'll see what Eric and the team to do for us to efficiently move the coal business. Thank you for the question.

Stephanie Benjamin Moore:

So, Jim, really nice progress here across safety and service. So in terms of customer engagement post these improvements, what are you hearing from customers? Are you seeing engagement accelerate at all? Kind of what's the opportunity from here? And then maybe on the flip side, I'd love to hear, have you noticed any challenges to the network, maybe revenue holds looking to fill that, that were maybe less apparent? I'd love to get your thoughts.

Operator:

Our next question is from the line of Elliot Alper with TD Cowen.

Kenny Rocker:

Elliot, thanks for the question. So a few things here. Let's set aside the contract loss you referenced. It's been strong. International intermodal has been strong for us, a little bit of a pleasant surprise for us that we've been able to capitalize on it. We're seeing more IPI business or business that's going into our network increase by a few points. We are aware that there has been a small impact on the positive side because of some of the challenges with the Panama Canal. We'll see what happens if some of the BCOs are a little bit more concerned with any labor issues on the East Coast.

Walter Spracklin:

So I want to take a little bit of a bigger picture on the competitive environment and how you interact with your competitors, both East and West. When we were at -- we were attending a recent session with the -- with Southern campaign, they called out the CP, KCS, CSX as a natural alliance. Just curious whether you see yourself as naturally being able to cooperate, coordinate operations to bring a more effective, higher service product to your customers.

Vincenzo Vena:

Walter, I appreciate the question. You have to think about it that 40% of the traffic that we either originate or receive starts somewhere else. So when you put that number in perspective, we can't be choosy and say that we'd rather partner with one Eastern railroad or one Canadian. I guess, I can't call CP or CN Canadian railroads anymore. I apologize to both of them, but international railroads. And what we need to do -- and all the short lines that we touch. The way I look at it is what is the best and the fastest and the quickest. So if we're all efficient, we all have good service, we all are smart in running a very fluid railroad that has buffer to be able to handle the ups and downs that naturally occur, Walter, we all win. So I don't have a preference.

Operator:

Our final question is from the line of Ben Nolan from Stifel.

Kenny Rocker:

Yes. Thanks for the question. You heard my comments around our petroleum markets and business development wins there. And it's a type of oil that we're moving that we're excited about, and it's moving right now domestically. We've seen some strength. Eric's team has been able to help us grow a little bit of that business and get as much of it as we can. So we don't see that kind of traditional crude by rail that we saw 10 years ago, but we're seeing another emerging commodity in the market that we're excited to be moving, and it's going great for us.

Operator:

Greetings. Welcome to the Union Pacific Fourth 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, and the slides for today's presentation are available on Union Pacific's website. It is now my pleasure to introduce your host, Mr. Jim Vena, Chief Executive Officer for Union Pacific. Mr. Vena, you may now begin.

Jennifer Hamann:

Thanks, Jim, and good morning. Let's begin by walking through our fourth quarter income statement on Slide 5. Starting with the top line. Operating revenue of $6.2 billion was flat versus 2022 on a 3% volume increase. Breaking it down further, freight revenue totaled $5.8 billion, up 1%. The biggest driver of freight revenue in the quarter was fuel. Lower year-over-year fuel prices reduced fuel surcharge revenue and impacted freight revenue 375 basis points as fuel surcharges declined $180 million versus 2022 to $795 million. Volume growth in the quarter contributed positively, adding 350 basis points to freight revenue, and the combination of price and mix also was positive, increasing freight revenue, 75 basis points as solid core pricing gains were mostly offset by an unfavorable business mix. Intermodal shipments up 5% contributed heavily to the mix dynamic. Wrapping up the top line, other revenue decreased 13%, driven by lower accessorial and subsidiary revenue. Switching to expenses, we provided expense details for both fourth quarter and full year in our appendix slides. But let me hit some of the highlights. Against our 3% volume growth, operating expense of $3.8 million was flat. Digging deeper into a few of the expense lines, compensation and benefits expense was flat compared to 2022. Fourth quarter workforce levels decreased 2%, while our active TE&Y workforce was flat against the 3% volume growth. This solid level of workforce productivity mostly offset wage inflation as cost per employee only increased 1% in the fourth quarter. Fuel expense in the quarter decreased 11% on a 15% decrease in fuel prices from $3.70 per gallon to $3.16. Our fuel consumption rate deteriorated 3% as we moved a less fuel-efficient business mix with increased intermodal shipments and fewer coal moves. Finally, other expense grew 20% as a result of higher casualty costs and the comparison to 2022, which included insurance recoveries. Coming out of COVID, we had a sizable case backlog that we largely worked through the last couple of years. Importantly, we do not see these elevated expenses as a reflection of a long-term trend, particularly with our intense focus on improving safety. Fourth quarter operating income was flat at $2.4 billion. Below the line, other income increased $16 million due to higher real estate gains. Fourth quarter net income of $1.7 billion and earnings per share of $2.71, both improved 1% versus 2022. Our operating ratio of 60.9% improved 10 basis points year-over-year and 250 basis points sequentially. Moving to Slide 6 with a quick recap of full year 2023 results. Revenue of $24.1 billion declined 3% driven by reduced fuel surcharges, business mix and lower volumes, partially offset by core pricing gains. Operating income totaled $9.1 billion and our full year operating ratio of 62.3% deteriorated 220 basis points. Earnings per share of $10.45 decreased 7% versus 2022 and then reflecting the impact of our overall financial results, return on invested capital declined 180 basis points to 15.5%. Turning to shareholder returns and the balance sheet on Slide 7. Full year 2023 cash from operations totaled $8.4 billion, down roughly $1 billion from 2022. The combination of lower net income and nearly $450 million of labor agreement payments were the main drivers. Free cash flow and our cash flow conversion rate also reflected those impacts. We returned $3.9 billion to shareholders in 2023 through dividends and share repurchases. Our adjusted debt-to-EBITDA ratio finished the year at three times as we continue to prioritize a strong balance sheet and be A rated by our 3 credit agencies. While 2023 was a difficult year, I'm pleased with the progress we've made over the last several months to improve our service and productivity. We believe this performance marks an inflection point as efforts to improve the efficiency of our railroad through safety, service and operational excellence is starting to be reflected in our financials. With that, I'm going to turn it over to Kenny to provide some comments on 2023 and kick off our commentary on 2024.

Eric Gehringer:

Thank you, Kenny, and good morning. Moving to Slide 13. To start, I want to express my appreciation to the team for their relentless focus on improving our service product and driving network efficiency. It's thanks to their efforts that our network showed tremendous fluidity and reliability during the fourth quarter. Freight car velocity improved 14% to 217 miles per day compared to fourth quarter 2022. Increased train velocity and a reduction in terminal dwell drove that performance. Service was strong during the quarter as we saw a significant 12-point improvement in both intermodal and manifest and auto trip plan compliance. In addition to trip plan compliance, we have hundreds of customer-specific performance metrics that also showed great improvement throughout the quarter. Most importantly, we are delivering the service we sold to our customers, which is critical to our long-term growth strategy. While winter is here and has certainly brought its challenges, the railroad overall is very healthy, and I'm confident the team will continue its positive momentum. Safety continues to be the foundation of everything we do. During the quarter, we delivered improved derailment performance through our investments in technology and process. We remain focused on the critical actions that drive real change. So everyone goes home safely each day. Now let's review our key efficiency metrics for the quarter on Slide 14. During the fourth quarter, we saw year-over-year improvement across all of our efficiency metrics. Locomotive productivity improved 14% versus fourth quarter 2022 and 9% sequentially as we continue to identify and execute on opportunities to utilize the fleet more efficiently. Throughout the second half of 2023, we stored nearly 500 units from our operable fleet. Workforce productivity improved 4% compared to fourth quarter 2022. With a strong crew base, we are focused on effectively managing workforce levels to the demands of the business. However, challenges do remain from scheduled work agreements that in the near term, require additional employees. Train length improved 2% compared to fourth quarter 2022 as we continue to remove car touch points from the system. In total, throughout 2023, we were successful in extending train length as improvements in the second half more than offset the declines in intermodal shipments. We remain persistent in our focus on train length to drive productivity while providing a better service product to our customers. As we move into 2024, we will continue to transform our railroad through a variety of technology initiatives and targeted capital investments designed to further improve safety, improve our service product, enhance resource utilization and ultimately lower our cost structure. So to wrap up, let's review our capital outlook for 2024 on Slide 15. We are targeting capital spending of $3.4 billion in 2024. Similar to 2023, we will support safe and productive operations by investing in our infrastructure and renewing our older assets. This includes modernizing locomotives and acquiring freight cars to support replacement and growth opportunities. We are also investing in technology and terminal and mainline capacity projects to improve productivity. Specific to our technology investments, we recently cut over NetControl, replacing our 50-year-old transportation management system. This cutover positions us to use real-time analytics to open new capabilities for Union Pacific and our customers. Great work led by our technology team. On the growth front, we will continue to invest in projects that expand our intermodal footprint and support business development in targeted high-growth areas such as Inland Empire, Kansas City and Phoenix to name a few. So with that, I'll turn it back to Jennifer to lay out our initial financial thoughts for 2024.

Jim Vena:

Thank you, Jennifer. Let's turn to Slide 19. Before we get to your questions, I'd like to quickly summarize what you've heard from our team. Kenny outlined our view on the upcoming year. Our volume outlook today reflects headwinds from lost business, coal demand and relatively soft economic forecast. Much of that is out of our control. We are mitigating these impacts through business development and value creation by providing great service to our customers. Eric described the progress we've made to return our service levels to industry best, while there's work to do, the team made consistent improvement through the quarter to exit in a very fluid state. Obviously, winter is here, but that's part of railroading. I judge our success by how we minimize the impact on our customers and how quickly we recover the network. So far, we've grown - we've shown great resiliency. Finally, as Jennifer laid out, our productivity and pricing gains will be key to overcoming ongoing inflationary pressures in 2024 as well as the soft economy. While many unknowns remain, I'm confident we'll succeed in the areas we control. We've got plenty of opportunities this year to improve safety, service and operational excellence. As you heard me say in October, I came back to Union Pacific to win. My vision and the opportunity I see for this company has not changed. We have the right team and strategy in place to grow this railroad long term, and I'm very confident we'll see a better Union Pacific in the future. We're now ready to take your questions. Rob?

Chris Wetherbee:

Thanks. Good morning. Maybe if I could ask just sort of the outlook for 2024. As you sit here, it sounds like a muted macro environment is keeping you cautious. But I guess when you think about the opportunities that you have, can volume be up this year? I know some of the macro indicators that you highlighted are muted, but they are still positive. So curious about volume growth. And I guess, in that context, with pricing maybe not necessarily being accretive to margin. Is there enough in that volume and some of the cost efficiencies that you guys are working on to get margin expansion?

Kenny Rocker:

I talked about it in my opening comments, there's a mixed bag of opportunities that are in front of us. We feel really good about the biofuels market. That market is growing. Demand is growing. We're capturing business in those markets. On the industrial side, we've had some record year on the construction side, still be a strong year. But as we are coming out of the gate with weather, that's going to be a little bit challenged for us. We feel really good about our petrochem business and wins that we've had from a business development perspective. On the petroleum and LPG side, those are all positive for us. On our premium business, again, those are really economic driven. And so we'll be looking to see what happens with demand overall. I talked about the international intermodal side and the loss there. We feel really encouraged by our ability to win on the auto side. And you heard us talk about Volkswagen [ph] win in last quarter. And so as there's a lot of demand there and the forecast for growth there, we really feel good about that market.

Jennifer Hamann:

I'm sorry?

Chris Wetherbee:

Anything on the margins?

Chris Wetherbee:

Got it. Thanks for the time. I appreciate it.

Chris Wetherbee:

Okay, that's helpful. Thanks. Appreciate it.

Walter Spracklin:

Yes. Thanks very much, operator. Good morning, everyone. On the intermodal side, I know there was a business loss there. And - but looking at some of the statistics in LA Long Beach, there seems to be a really good uptick in volumes into those regions or that region. Red Sea impact, perhaps East Coast is down. Kenny, are you seeing that there is new business coming that way? And could that be a nice offset to any business loss? Or could it create an opportunity for a business - more business wins as more volume shifts to LA Long Beach and perhaps the fluidity of LA Long Beach is that keeping pace with the new volume mix coming its way?

Jim Vena:

That' true, Kenny as we think about that because to your point, you can't predict the future with entire clarity. It's another reminder, Walter of the fact that when we talk about having a buffer and you look at what we did in the fourth quarter, we generated the ability to make sure we have that buffer. That buffer in locomotives, that buffer in railcars positioned in LA. So in the event the volume is there, we've supported Kenny's team to be able to actually capture it.

Kenny Rocker:

Very fluid. As you saw in the fourth quarter, 14% improvement in car velocity doesn't come unless you've got very fluid operations. Now to Jim's point, are there opportunities? Of course, there are. In fact, I'll talk about those as we go through this. But overall, right now, yes, very fluid.

Operator:

Our next question is from the line of Scott Group with Wolfe Research. Please proceed with your question.

Kenny Rocker:

Thanks, Scott, I got both of those. Thank you. So first of all, you're exactly right. Prices are controllable. And let me make this clear. It's not like we are jumped up here and waited till January 1 to look at price. We've been going down this path here for a few months. You've heard Jennifer and I say that we have a set amount, call it, almost half that we can touch from a pricing standpoint. Our commercial team has really been very effective sitting down with customers, talking to them about the improved service product, talking to them about our increased inflationary pressures that we saw from the labor side and how Eric is leveraging that to improve the service products that we give them. They're seeing the same input. They're seeing the same increases. I've been meeting with customers. And so they know that. So yes, we control a portion of that, and so we've been very focused on articulating that story. I think you had a question on the international side. And yes, you're correct. We lost some of that earlier in the year, last year. The bulk of that will still be working through in 2024.

Kenny Rocker:

Yes. I mean with the service product, when the investments that you heard Eric talk about this morning, the margins have to be acceptable to be on the network.

Scott Group:

Thank you.

Tom Wadewitz:

Yeah, good morning. So Jim, you've seen - you realized a very fast and positive response in terms of the rail network operations since you've been at UP. Where do you think you're at in terms of kind of further improvements? So I don't know if you want to look at like locomotives, what the active fleet is and where it can go to. Maybe if you could comment a little bit on headcount. I think that the headcount was down pretty meaningfully sequentially. So I guess I'm just trying to get a sense of kind of are we at the stable level now after that really quick improvement? Or our headcount and active locomotive fleet going to have further steps down as we go into '24?

Tom Wadewitz:

Can you offer a thought on how that translates to headcount? Do we think headcount goes down further? Or is it kind of stable at current level?

Tom Wadewitz:

Great. Thank you.

Operator:

Our next question is from the line of Jon Chappell with Evercore ISI. Please proceed with your question.

Jim Vena:

Yes. In the - in 2024, we have dates of implementation for the agreements that we have not implemented completely. And those are pressures on the number of people that we would need to operate. So that will be through 2024, and that's why I've always talked about this is a - I see this as a 2-year adjustment to the railroad to be able to get there. But we do have programs in place as we implement, we run into things if we operate as efficiently as I think we can, we'll mitigate that. You mitigate it by running less trains, having more cars on the same trains. We grow. We put more cars on the same trains instead of starting more. We use the people and the facilities that we have more efficiently. So - but it's a 2024 headwind for us that we are going to overcome just like we did in the fourth quarter.

Jim Vena:

Correct.

Jim Vena:

You're welcome.

Jim Vena:

Good morning.

Jennifer Hamann:

Yes. No. I mean, you've got that exactly right, Amit. The 5% is the gross number. So that's our challenge, right, and opportunity is to offset that with productivity. And so that's where you heard Jim talk, you heard Eric mention, we have those opportunities in virtually every cost category, I'll put depreciation aside, that's kind of fixed for the year. But we absolutely have opportunities to offset that in terms of how we run the railroad. And I think just think about wage inflation and think about fourth quarter. So we had wage inflation first half of this year. Our wages are going to be up 4%. For our Union Personnel [ph] it's going to go to 4.5% in the second half, but our cost per employee was only up 1% in the fourth quarter. So that's productivity that's enabling us to offset some of that. And so that's the task of this management team, and that's those controllables that we talked about, and that's where we're very much focused.

Jennifer Hamann:

You also know, Amit, that the volumes play a role in that in terms of how we're able to leverage and build longer trains and have more work to put up against some of those inflationary costs. So that's our challenge, but I'm really not going to be able to give you any more than that.

Jennifer Hamann:

Thank you.

Operator:

Our next question is from the line of Allison Poliniak with Wells Fargo. Please proceed with your question.

Jim Vena:

Allison, let me start and then Kenny, please jump in. So if we look at this railroad that we are blessed with that we operate, and I think you've seen some of the steps we've taken is you have to provide a level of service that we sold to our customers, and that's our goal, and we work real hard every day to do that. We operate the railroad very efficiently. Where's the opportunity? We have a mix of traffic that's available to us that originates on our railroad, so when I go around the entire railroad, I'm very comfortable that we offset and we have the capability to offset and we are tackling, whether it's that industrial complex all the way from New Orleans to Brownsville, Texas, whether it's the grain, whether it's the soda ash, whether it's the intermodal at the West Coast and our speed. We are able to provide speed for customers that require speed and not all of them do. We can go from LA to Texas, a close to 2,000 mile journey and we do that in 48 hours. So that's truck like. So - and our service that we put on from Mexico going into Eastern Canada, partnering with CN and ourselves into the East plus into Chicago is unparalleled. We can do it as fast as anybody. So there's lots of opportunity out there for us. And what we have to do is with good service, the customers will see what's possible, and they will want to partner with Union Pacific and grow their business with us versus anybody else. Kenny?

Allison Poliniak:

Great. Thank you.

Brandon Oglenski:

Hey, good morning. And thanks for taking my question. Eric, I wanted to come back to you because I think in response to an earlier question, you spoke about, there's still more to come on things like velocity and train length. And then I think Jim even alluded to some local service plan changes. So do you want to elaborate a little bit more on where you see productivity gains this year?

Brandon Oglenski:

Thank you.

Bascome Majors:

Following up on the locomotive piece earlier, you talked about storing 500 units and having a 9% sequential increase in productivity. Jim, as you look forward a bit further, can you talk about how you think about UP's fleet renewal strategy for locomotives over the next, call it, 3 to 5 years? And how at this point is some of the regulations that California is proposing impacting the way that you think strategically about that significant investment for the railroad? Thank you.

Bascome Majors:

Thank you.

Operator:

The next question is from the line of Ken Hoexter with Bank of America. Please proceed with your question.

Jim Vena:

Okay. So three questions, Ken. That was very good. I like - so why don't we start...

Jim Vena:

Why don't we start with the contract is real simple. The contract was lost early in 2023, and the business has actually lost starting January 1 correct, Ken?

Jim Vena:

So that's the challenge. It's a 2024 issue. And it was early in 2023 that we lost that business.

Ken Hoexter:

Appreciate the multiple part answers to my one question. Thank you.

Justin Long:

Thanks. And maybe taking a shot at asking that question a little bit differently, Jim, you've now been at the company for roughly a couple of quarters. Do you have any updated thoughts on the size of the total productivity opportunity going forward? And roughly how much of that is dependent on volume growth. If we want to make our own assumption that volumes are flattish this year, hypothetically, is that a scenario where you can still see meaningful margin expansion year-over-year?

Justin Long:

You did. Thanks, Jim.

Operator:

The next question is from the line of Ben Nolan with Stifel. Please proceed with your question.

Jim Vena:

So Kenny talk about the business and how we see it? And then if you don't mind, I'm going to answer the piece on the border, okay?

Jim Vena:

You bet. And on the border, I'm disappointed that the border was shut down, and I do not think that's the way to move forward. I think there is a problem. There's a humanitarian issue. I personally went down with some members of the team to go visit. And it's very difficult when you see people crossing the river and the mother with a child coming and then falling into some razor wire. That is not something that anybody should see. But at the end of the day, for us, I think it's more important that the border crossings are fluid, and we are doing everything, investing in systems to make sure we protect the railway crossings that we do not have people crossing on the trains. And we've done a really good job of that. People are not crossing coming across from Mexico into the U.S. or vice versa on the trains, and that's what we will continue to do. And we will work close with customs and we have. Customs understand they have a problem, and we've worked very closely with them, and we will continue to have meetings and discussions so that we will do everything we can to make sure that the rail operation is not impacted as we move forward.

Operator:

The next question is from the line of Ravi Shanker with Morgan Stanley. Please proceed with your question.

Jim Vena:

Yes. Thank you for that question. So core to your question is how do we think about train length and how do we execute that? So let's put volume to the side just for a second. Do our trains have capacity for more train length? Absolutely, yes, 100%. The work that we have in front of us that we've been executing now for years and will continue to is to make sure that all of our systems behind the scenes continue to first identify those opportunities. And as we've always been to be exceptionally prudent about actually working through our physics engines and to understand exactly how to build our trains. That's science. And like all science, it evolves. And every quarter, every year, we see new opportunities to be able to keep capitalize on this. So I'm not going to guide you to a specific number, but I'm going to tell you, we see some opportunity there. You'll see us capitalize it in '24, and I'm excited and appreciate what the team is doing to make that happen. Thank you, Ravi.

Jim Vena:

Morning, Brian.

Jim Vena:

Jennifer, why don't you handle the...

Kenny Rocker:

So you look - you asked the question about intermodal, domestic intermodal. First of all, if you look at where the rates have been, I'll differentiate the spot rates of the last 4 months sequentially, shown, I'll call it, very slow gradual increase, which is encouraging. The same issue on the contractual side, very slow gradual improvement sequentially the last 4 months. So I can't get into saying whether I think over the next 3 months, that's going to continue. We've got a lot of mixed feedback from customers, but encouraged by what we've seen in the past. I've said this before that we have mechanisms in our contracts for our suite of customers to keep them competitive, real time and times like this. And as the market improves, I would just mention some of those indices, it will help us some of those mechanisms that we have to procure a little bit more price and better margin.

Jim Vena:

Thanks for the question, Brian.

Operator:

The next question is from the line of Jordan Alliger with Goldman Sachs. Please proceed with your question.

Jennifer Hamann:

Yes. For the second part of your question, Jordan, it really just means mathematically, when you look at how the price impacts and is added to the revenue, it does not help your overall operating ratio calculation. Even though it's going to be higher than the inflation.

Kenny Rocker:

So again, we're not going to frame up the magnitude. I can tell you, we're focused on growing the international intermodal network. We've been blessed with a new intermodal terminal there in Phoenix. It's going to open up February 1. I talked about some of the other products that we have coming out of Houston. We've talked about Mexico. So again, we're bullish and we want to make sure that we're moving that product at the appropriate margin, acceptable margin.

Jim Vena:

Thank you very much.

Jason Seidl:

Thanks, operator. Good morning, everybody. Tacking on to Jordan's question there. If we were to look at pricing and exclude sort of intermodal and sort of the natural gas impacts and some of the linked coal contracts, would pricing be accretive to margin in the remainder of the business? And also, as I look in that near-shoring commentary, how should we think about sort of post '24 in near shoring? Where is that going to show up for you guys? And is there any extra CapEx that might be needed? Thank you.

Kenny Rocker:

Yes. So post 2024, as you look at it, I mentioned a lot of industrial base markets that are going there. Think in terms of auto, think in terms of metals and minerals, think in terms of petrochemical market.

Jim Vena:

Thank you.

Jeff Kauffman:

Thank you very much. Thanks for squeezing me in. Just a follow-up on the near shoring for Kenny. A lot of the companies we talk to say really all that's been done at this point is concrete has been poured in the ground and some of these facilities have been announced. And really, you're not going to see a lot of this potential until kind of '25, '26, '27? Looking at your industrial development plan and kind of what's out there, do you think - and I'm going to ask you to guess here. Could this be 100 basis points in magnitude to volume on a basis over 3 to 5 years? Could it be larger than that? How should we think about scoping this longer-term industrial development opportunity for UNP?

Jim Vena:

The only thing I would add is with the ownership position we have in the FXC, I think that ties us even to be able to optimize what's available to us as near shoring happens and as we work collaboratively and make it the view as one railroad operationally, it will help us on the efficiency of being able to move the traffic. And I think we're able to offer the customers the best product, and we think it gives us a chance to win a bigger majority of any business that's added to those lanes.

Jim Vena:

Thank you.

Jairam Nathan:

Hi, thanks for taking my question. So just on the casualty and I guess on the other expenses on the last slide, you have flat to down, it looks like casualty will be - would be favorable here. So can you talk about some things that could kind of offset that?

Jairam Nathan:

Okay. And finally, just on the CapEx question. Jimmy talked about FXE. In terms of capital additions would FXE be on the same page as you guys in terms of investing in the business?

Jairam Nathan:

Okay. Thank you.

Operator:

Thank you. Our final question is from the line of David Vernon with Bernstein. Please proceed with your question.

Jim Vena:

I said they put you last David?

Jim Vena:

You and I were always called last, I hear you.

Jim Vena:

So Kenny, let me ask the question. Would we plan our capital, do we ever limit the capital. So you have a problem for growth?

Jim Vena:

Perfect. That's the way we look at it. It's that simple, never. So let me clear up this whole, David, because it's a great question. And you know the answer. So you're asking me, and you've heard it before, and I'm very clear on this. We build our capital plan from the bottom up to look at what we need to reinvest in the railroad and every year is a little bit different. Ties, rail equipment. We look at growth and what we've identified of where we need to invest. We're opening February 1, a new intermodal terminal in Phoenix. So we've invested in that. We're a quick turnaround. We don't fool around anymore. That would have been like a 6-month, 1-year discussion. We turned around and in November, said there's a market there. And February 1, we're opening up a place. So we're able to invest quick, and that's the way I look at it. When we built it up, we came up with $3.4 billion. That is not a hard number. If there's an opportunity for us to invest to grow this company or invest that we need to on the replacement and the - what we do every day to operate the railroad, we'll invest. And we never ever skimp on safety, maintenance of the railroad, the capital cost we need and the growth. So we are there. I have no issue. And on the passenger service, listen, I give both the FXE and CPKC. They're saying the right things, and I agree with them. We - there's an interaction when you have passenger service that affects you, but there's nothing that you - that I'm worried about because they can't figure out how to mitigate that and still operate a freight and passenger railroad efficiently. So I'm very comfortable that, that will not have a significant effect or really any effect as they move ahead. I'm sure that they will just move ahead and they'll be operating some passenger service on the railroad. So hopefully, we answered your question, David.

Jim Vena:

Thanks. Operator, Rob, maybe if I can just soon as we're done with the questions, I wouldn't mind just recapping and if there's a few people on, that's great. And if everybody else has got off, then I'm talking to my team here, and they love to hear the story. So bottom line is, this is - we have a great railroad. We have a franchise that allows us with the business mix to go up and down with - because not one area ever. And you wish 1 year that every segment that we had industrial premium, okay, and the bulk would all grow at one time, that's not the way the world is. I've never seen it in my career. We need to be able to have the resiliency and the capability to react on what's happening. We don't know what's going to happen this year, but I'm telling you, fundamentally, we are on the right track to deliver. The team is engaged. We're excited and we're looking forward to winning this year. We have goals to grow revenue with our service, and we also have goals to be the most efficient operationally railroad in the industry. So I'm looking forward to 2024. I'm excited. The team is excited, and I'm looking forward to talking to all of you in 3 months and see how the first quarter went and to see how we're growing and what we've done at this point. So thank you very much.

Operator:

Greetings. Welcome to Union Pacific's Third Quarter Earnings Call. At this time all participants will be 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, and the slides for today's presentation will be available on Union Pacific's website. It is now my pleasure to introduce your host, Mr. Jim Vena, Chief Executive Officer for Union Pacific. Thank you, Mr. Vena, you may now begin.

Jennifer Hamann:

Thanks, Jim, and good morning. I'm going to discuss our third quarter results by walking through the income statement on slide five. Starting with operating revenue of $5.9 billion, down 10% versus last year on a 3% year-over-year volume decline. Breaking it down further, as illustrated in the appendix slides, freight revenue totaled $5.5 billion, down 9% versus 2022. Total fuel surcharge revenue of $637 million declined $515 million from last year. The impact of lower year-over-year fuel prices as well as the lag in our surcharge programs reduced freight revenue 8%. The combination of price and mix increased freight revenue, 150 basis points as solid core pricing gains were partially offset by an unfavorable business mix. Increased short-haul rock moves and fewer lumber carloads outweighed the impact of moving fewer low average revenue per car intermodal shipments. In addition, our pricing gains continue to include the impact of certain coal and intermodal contracts that are more reflective of current market conditions. Wrapping up the top line, other revenue decreased 13% versus last year, driven by a $70 million year-over-year reduction in accessorials. Switching to expenses, where again, more detailed information can be found in the appendix. Operating expense of $3.8 billion declined 4%, driven by lower fuel prices, last year's onetime charge for labor agreements and volume-related costs. Digging deeper into a few of the expense lines, compensation and benefits expense decreased $77 million versus 2022, which does include last year's $114 million onetime labor charge. Third quarter workforce levels increased 3% and our active TE&Y workforce is up 2% as we graduated new train crew personnel during the quarter. At this point, with our train crews more appropriately staffed, our training pipeline is shrinking. Today, we have just over 500 employees in training, down more than 50% from last quarter's pipeline of roughly 1,200. Excluding the impact of last year's labor charge, cost per employee was essentially flat in the third quarter as we are starting to generate better overall productivity. As a result, we now expect full year cost per employee to be up closer to 3%. Both third quarter and full year cost per employee reflect elevated workforce levels and better crew efficiency, partially offset by wage inflation, which includes $20 million in the third quarter from paid sick leave. Fuel expense in the quarter decreased 25% on a 21% decrease in fuel prices from $3.96 a gallon to $3.12. Our fuel consumption rate was flat, but showed positive momentum through the quarter as we stored locomotives and improved freight car velocity. Finally, other expense grew 18%, primarily related to continued pressure in casualty costs. It also reflects the impact of onetime write-offs as highlighted in the financial walk down slide on 22 in the appendix. The resulting outcome is third quarter operating income of $2.2 billion, down 17% versus last year. Below the line, other income decreased $18 million driven by last year's $35 million gain from a real estate transaction. Interest expense increased 6%, reflecting higher average debt levels. Income taxes are lower in the quarter on reduced income and lower tax rates that resulted in a $41 million deferred tax expense reduction. Similar to last year's $40 million tax reduction, we again had three states cut corporate income tax rates in the third quarter. Net income of $1.5 billion declined 19% versus 2022, which when combined with a lower average share count resulted in an 18% decrease in earnings per share to $2.51. Third quarter operating ratio increased 3.5 points to 63.4%. Core results, which include the impact of inflation, lower volumes and cost inefficiencies accounted for the majority of the year-over-year change. Turning now to slide six and cash flows. Year-to-date, cash from operations totaled $6 billion, a decrease of roughly $1 billion from 2022. The combination of lower net income and nearly $450 million of labor payments were the main drivers. Free cash flow and our cash flow conversion rate also were impacted. Year-to-date, we've returned a little more than half of the cash generated or $3.1 billion to shareholders through dividends and share repurchases, and we finished the third quarter with an adjusted debt-to-EBITDA ratio up slightly from 2022 levels at three times as we continue to be A rated by our three credit agencies. Wrapping up now on slide seven. The overall financial story and outlook for the remainder of 2023 is largely unchanged. We're facing a demand environment where we don't expect full year volumes to exceed industrial production. We do, however, still expect to generate pricing dollars in excess of inflation dollars. Although as we've discussed through the year, not to the level that offsets the negative impact of elevated costs on our operating ratio. Fuel also remains a headwind on earnings per share, although moderating from the $0.34 negative EPS impact in the third quarter to approximately $0.10 of negative year-over-year impact in the fourth quarter. And that assumes fuel prices in the fourth quarter are around $3.30 a gallon. And significant inflation headwinds remain primarily in the form of the new labor agreements. We expect similar levels for fourth quarter paid sick leave expense to third quarter and the impact of the BLET work rest agreements will primarily be seen through elevated force levels. Finally, our capital plan is coming in a little bit higher at $3.7 billion. All that said, the important takeaway from today's results and our view of tomorrow is that we're making gains from maximizing growth opportunities and repricing our business to improving service and generating productivity, we're striving to build on the current momentum as we end 2023 and enter 2024 on a path to further financial improvement. With that, I'll turn it over to Kenny to give us a view of the business environment.

Eric Gehringer:

Thank you, Kenny, and good morning. Starting on slide 12. As Jim mentioned, safety is the foundation of everything we do, and our goal is to lead the industry. Union Pacific can be the best because we've been there before. We have exceptional people and the entire team is focused on returning every employee home safely every day. While our progress has been encouraging, we must continue to improve technology and strive to provide best practices to the industry and the communities that we serve. Safety impacts every facet of our business, our employees, customers, communities and shareholders and we are committed to world-class safety performance. Closely aligned with our goal of industry-leading safety, we are confident in our ability to lead the industry in both service and operational excellence. In late August, the southwestern portion of our network was challenged by a series of intense weather events that caused widespread flash flooding and washouts. However, through the bold and relentless efforts of our team, we were able to quickly respond and rapidly restore operations. Despite the weather headwinds, our performance metrics improved year-over-year. We look to maintain that positive momentum as the vast majority of our metrics in the month of September represented our best performance year-to-date. Freight car velocity improved 5% this quarter versus last year. Throughout the last several weeks, we have maintained a freight car velocity of around 210 miles per day. The impact of increased freight car velocity can be felt by our customers through the benefit of improved trip plan compliance, both intermodal and manifest and auto TPC saw a sizable 13 and 6 point year-over-year improvement, respectively. We will continue our work to deliver the service we sold to our customers. Now let's review our key efficiency metrics for the quarter on slide 13. The team is continuing to take actions to right-size resources to align with current volumes and run an even more efficient network. This incorporates Jim's strategy of empowering our people closest to the work and removing layers to increase the speed of decision-making. Locomotive productivity improved 4% versus last year, as we continue to identify opportunities to utilize the fleet more efficiently. The third quarter marked both our lowest active high horsepower fleet size and the highest quarterly locomotive productivity number since the first quarter of 2022. Workforce productivity, which includes all employees, was down 6% versus last year, reflecting the impact of volume declines, coupled with increased workforce levels. Leveraging a larger workforce, we have reduced borrow outs to the lowest total of the year and slowed hiring. We remain firmly focused on effectively managing our workforce levels and recognize the importance of balancing our resources as we plan for the future. Train length improved 1% compared to third quarter 2022, despite lower volumes in our intermodal business. By putting more product on fewer trains, we have increased train length across our system by over 500 feet or 6% since January of this year. Our focus on train length is paying dividends, and we are continuing our work to further improve this measure. While our service product demonstrated noticeable improvement, there are more opportunities to improve the efficiency of our locomotive fleet, increased workforce productivity and maximize train length. We must sustain momentum across all of our operating metrics as we exit the year. So with that I'll turn it back to Jim.

Operator:

Thank you. We'll now be conducting a question-and-answer session. [Operator Instructions] And our first question will be from the line of Ken Hoexter with Bank of America. Please proceed with your question.

Jim Vena:

And nice to be back and nice to hear your voice again, and I'll let Eric jump in, in a minute, but because he's the operating person. He's responsible. He is the person I'm going to keep accountable for to make sure we drive it. But what metrics do I look at? I haven't changed. A successful railroad is always fluid, make sure that you operate in a manner where you don't impact the network because of decisions you made with the kind of service that you've sold and the way you use your assets and people and whether you have the capacity on the railroad. So when I look at Union Pacific, what do I look at, at a high level, I look at do we have the physical plant to be able to handle the traffic and be able to handle the ups and downs that every railroad or knows happens with weather who thought we were ever going to get a hurricane in the West Coast, okay? That's always an Eastern seaboard issue more and a Gulf issue, but not Western, but I think we did as a team, we did a great job of recovering. So you need a strong network, and we have the capacity there. We'll continue to invest to make sure. So that's important to me. And we have to make sure that we have a buffer of people and assets so that we're ready for the ups and downs the business that happens because I wish it was flat line Ken and you know it as well as I do. You've been following the railroads for a long time. So let me go on because this is an important question is what do I look at? I look at -- in the morning, first thing when I get up, I'd probably get about 100 different touch points on the railroad, all in one spreadsheet. But what I actually look at is I look at revenue first. Where are we financially? What was our volume like? And what kind of -- where the revenue is? And if it's not good, the next call is to Kenny. Okay? Then the next thing I look at is car velocity. It's an end-to-end measure tells me how well the railroad is doing. 210 is a good number, but nowhere near what's possible. So Eric's got has done a great job so far, but we need to push more. Then it's -- then you continue to look at the fluidity numbers. How well we are at crew changes, how the intermodal terminals, how fast we're getting to pad, how fast we're allowing the truckers to go through. So there's a lot of metrics that we look at that most people probably haven't heard me talk about, but I thought I'd give you a little broader view of what I look at. And then after you do that, there's the asset issue. How many cars per carload, the locomotives. So we've got over 500 locomotives parked. And those 500 are ready to go locomotives. So we could turn them on in a short period of time. We've got some place in strategic locations if we need them on the network to keep the service level that we sold. On top of that, we have more locomotives that are stored for longer term. So we're in good shape on assets. We spool up this railroad to operate at the level that is possible with the type of business that we have. And I think it's a win-win for us Ken and that's what I look at every morning. Eric, do you want to add anything?

Jim Vena:

Thanks for the question. Appreciate it.

Operator:

The next question is from the line of Fadi Chamoun with BMO Capital Markets. Please proceed with your question.

Jim Vena:

So Fadi, I like the question because it frames exactly what -- when I came back to work the challenges that I could see the first challenge we had was inflation, both input costs plus labor costs and some of the collective agreements we signed. Every CEO that comes in always wants to blame people beforehand. That's not the way I look at it. That's the challenge. I knew what I would get myself into. So we do -- how do we fix that piece is as we drive and look for efficiency, and there's efficiency there. Usually, I don't give a -- and you know that, Fadi, I don't forecast numbers. But I'll tell you, I'll be disappointed if that car velocity doesn't return to where it was before that we had in 2020. There's no reason for us to not be low 220s. So that's about as far as I'm going to get on that number. If I look at the other piece that we have to do and Kenny is all over it and his team is, we know that we can't through efficiency and productivity recover everything in the long-term. But what we can do is we can price properly for what the service that we're providing to our customers, and Kenny's all over that. And that's going to take a little bit of time, and I'll let Kenny later on talk about this. But -- so the way I look at it is those two things, if we do them right, and let's leverage this railroad that we have, okay? We're a 70-mile an hour railroad. There's only one other railroad in North America that runs their freight trains at 70 miles an hour, okay? So let's leverage that. And you could see that when we changed the service out of Mexico because we want to leverage Mexico to grow our business in and out. And by doing that and providing customers a service that from the border, nobody can beat us to Chicago. We have the fastest service of anybody, especially with the new train service that we have on. So we should leverage that. Now not everybody wants speed, so we have to make sure that we're consistent. We also have to leverage our network. I love the places we serve and where we can take our customers to. I love the way our origination customers are and the number we have in the variety crossing all market segments. And if we do that, Fadi, we become the most efficient railroad. Operationally, we -- I've always said this, and I will continue to say it. We will have the best margin railroad in North America, best operating ratio, best margin, whichever way you want to look at it, I'm comfortable with that. And we give a chance for the customers that are with us to win and we look to move customers that are using other modes, including trucks that look at the railroad as their way that they want to win. So I'm happy. I didn't come back to work to lose. I came back to win. I was more than comfortable. Most people in my age are thinking about doing other things. In fact, I had a trip to K2 plant. And when the opportunity came up and we agreed with the Board on what the strategy was and what we wanted to do moving forward, I said, listen, I'm all in. Let's go. So I've been working hard with the team and I'm pushing them hard. At the end of the day, we need to make decisions quicker. We need to react quicker. We need to quit having so many layers that slow down the decision-making, and with that, we end up winning, Fadi. Hopefully, I answered your question. I know it was a long answer. And maybe there won't be any other questions after this.

Jim Vena:

Okay.

Jason Seidl:

Thank you, Operator. Good morning, Jim, welcome back, Jennifer, Kenny and Eric. Wanted to focus a little bit on sort of the inflation and pricing dynamic that we have going on here currently. Is this just a case for waiting until we can get to repricing some more of the contracts as we move through and seeing sort of better fluidity in the railroad? And are we just sort of in for a few tough quarters here in terms of comps?

Kenny Rocker:

Yes. Thanks for that question. No, we're not waiting. We're repricing these contracts right now in real time. We're having some very clear and direct conversations with customers. The commercial team is doing an excellent job of really articulating what took place from a labor standpoint and these costs and specifically how what we're doing and what Eric is doing on his side, how we'll benefit our customers. Now I'll tell you that our customers are seeing some of the same pressures and it's playing out in their markets that way too. The other thing, and Jennifer talked about this a little bit we're investing a lot of money here. We're investing $3.7 billion. We don't lose an opportunity to share that with customers and talk about the value that they get from those investments. And so you look at that, you look at the improved service product that Eric is delivering us. We have no problem looking at our customers in eye talking to them about pricing the value that's there.

Jason Seidl:

And Jennifer could you remind us how they renew through the course of '24 what percent?

Jason Seidl:

Okay. Fair enough. I appreciate the time.

Operator:

Our next question is from Amit Mehrotra with Deutsche Bank. Please proceed with your question.

Jennifer Hamann:

I'll maybe start off and address your question, at least the question about sequential OR improvement. As I've said in my prepared remarks, we're looking to build off the momentum that we have here as we ended out the third quarter and take that into the fourth quarter. And so without making any guide relative to what fourth quarter volumes are going to do, to your point, we're off to a good start, very pleased by that. But we're going to operate as efficiently as we can. And we do think we have an opportunity to have sequential gains going from third quarter to fourth quarter on the OR basis. It's going to take hard work by the team. It's going to take continued gains in terms of how we're operating the railroad and driving efficiency, but that's absolutely the goal that we're looking at. Jim, do you want to maybe hit the rest of this question about freight car velocity.

Operator:

Thank you. Our next question is from the line of Jordan Alliger with Goldman Sachs. Please proceed with your question.

Jim Vena:

Kenny, if I can just start real quick, and then I'll pass it over to you. The price is important. You have to have the right price that allows you, but service has to be consistent. And a few weeks is not good enough for any customer to say, how's the railroad do it? If I was a customer, I'd be looking at -- are you consistent in your service? And when you get impacted because our car velocity will drop with some weather events through the winter. This is not a game where you can forecasted to be at a 220 level all the time. We're going to have some impact. Sometimes it will be higher, sometimes lower. It's how fast we recover. If we can do that and we can show shippers that we have the capability to deliver their products in a consistent manner, recover fast, then I think we have the opportunity. But it takes time. No one's going to believe you the first time you show up and say, wow, we did had a great September. Well, how about January? How was that? And how was 2022? I think they have memories of that. Kenny?

Jim Vena:

Thanks for the question, Jordan.

Brian Ossenbeck:

Thanks. Good morning. Welcome back Jim. Just wanted to ask more about visibility to the cost inflation on labor side specifically into '24. Obviously, it's been a challenge, but it's going to get will be a little bit more challenging next year, I think of the 4.5% increased bonus and maybe some work rest rules around SMART-TD. So maybe Jennifer you can give us some sense as to how much visibility you have for the cost inflation side when it comes to labor. And then Jim, would just love to get your thoughts on perhaps just the broader regulatory picture. Obviously, UP had some challenges with the regulator on embargoes. Last year, there was a FRA letter about some of the infections. So UP has been under the microscope a little bit. Just wanted to see how you perceive that as you're new into the seat? Thank you.

Jim Vena:

You bet. So Brian, listen, good article on the cars per employee. I think it was a great comparison and it shows where the opportunity is. So well done on that. I enjoyed reading that last night, one of the last things I did before I went to bed. You asked about the regulatory agencies and how the relationship is. I think it's best to describe it like this. With the FRA, we're aligned. We have the exact same goal. And I like that the FRA wants to come out and look at the railroad to see if our safety management system is proper. We're getting -- we're using the railroad in the proper manner and that we're safe. So I love that. I have no issue with it. And I have a good relationship. I've reached out good relationship with the FRA, but it's not my relationship that's the most important is how we deal with things out in the field. We're professional. We look for ways to improve, and we work with the FRA because they get to look at other railroads. And when they give us some feedback, we need to take it to see how we improve. So I think that's the way the relationship. And on the STB, there's lots going on, and I won't discuss the specifics, but I grew up in Canada working on a railroad that had inter-switching for a distance, and I know what the pluses and minuses are there. I don't see anything as we're moving forward, and we'll give our feedback because I think we want to make sure that we don't impact our customers and what we serve and slow down the railroads because of a regulatory framework. So we have to be careful because our customers compete with people with other, of course, within the US, other modes, but they also compete in the world. There's products that we move for customers that go around the world that if we wreck the efficiency of the railroads, it's a mistake. And I know the STB does not want that. What they want is they want to make sure that we have good service. And that's the best way for us to make sure that the regulatory environment doesn't affect us is we provide good service if we provide the service that we sold to our customers, then we win. So I'm very comfortable with the relationship. I think we need to continue to communicate, and we both. We have the same end goal with the STB and the FRA. So Brian, I think it's -- the relationship is good. We'll take the feedback, and we'll see where we can improve.

Jim Vena:

Thank you, Brian.

Scott Group:

Hey, thanks. Good morning and welcome back, Jim. So it sounds like we want to get more price more productivity, but we still have inflation. You said you want to get to best-in-class margin. I guess we got to get improvement first. So when do you think you can start improving margins again? And then separately, Jennifer, the buyback has just been a big part of the earnings growth for a long time. Is this a temporary pause, more of a prolonged change, now you're thinking about the buyback? Any thoughts there? Thank you.

Jennifer Hamann:

Sure. No. This is not a change in our philosophy around capital allocation, Scott, as we talked back in July. This is just looking at cash flows, looking at the balance sheet and taking a temporary pause. You heard me mention that our debt-to-EBITDA levels are around three times here at the end of the quarter, a little bit elevated from where they have been historically. And so our job is to hit on the things you mentioned earlier with the price, productivity, grow the business and generate more EBITDA, generate more cash flow and resume our share repurchase program.

Scott Group:

Thank you, guys.

Operator:

Our next question is from the line of Walter Spracklin with RBC. Please proceed with your question.

Jim Vena:

Walter, nice talking to you again and good question. So the real world, the way I look at it is there's nothing wrong with hump yards, but they have to fit into the fluidity and the touch points of how many times we touch cars and how many cars we actually have to handle. And hump yards are okay. So at this point, with the way the network is as far as getting into that detail is good. What I don't like that I've seen is our put through is not as fast. Our dwell needs to drop our dwell and the amount of time that we have railcars in yards at the intermodal terminals at intermediate points will drive productivity gains so that we are able to have more fluidity and that's real important to me. Now when I came back last time I came with one goal, I came back, I came to work drive operational efficiency. I didn't look at the rest of the company very much and the rest of the company needs to be looked at. And that's what we're doing now. So everything that we did operationally, we are going to look at what we've done. And 1 example is the delayering exercise, you can't have 9 levels from the CEO to the people who actually do the work and expect that the message is clear, the decisions are made clear, and there isn't some hiccup in the decision stops. And I want to drive it so that we have way less layers. And that means with less layers, the people out in the field are empowered to make the right decision, which trained the hump, which trained the switch? How we move the cars? What are we doing to customers? What are we doing for scheduling? How are we loading? Is our loading pattern, right? So many things that we can do. And if we do that, they're better at it than us, Walter. There's no way that Jim Vena, even though I think I'm a decent operator, I could go operate the hump yard, maybe when I retire next time we become just a hump yard operator in one place and see how well because I think a few people would love me to go out there and see if I'm as good as I say sometimes, okay? But at the end of the day, that's what's important. And that's one of the things. That's a big change this dealer and exercise that we're going through and stay tuned, we'll announce what the findings are as we move ahead.

Operator:

Our next question is from the line of Tom Wadewitz with UBS. Please proceed with your question.

Jim Vena:

Good question. Why don't we start with, Kenny, why don't you talk about the opportunity on the growth side, the pricing side and what we have -- what we're looking forward to?

Jim Vena:

So Eric, why don't you talk about it? Because the question is great. It's -- there's no advantage of but that we have to grow the business. We have the price and take care of what's happened to us inflation-wise and leverage our network, but productivity, what do you see your piece of it?

Jim Vena:

And I know neither one of them wanted to touch it, they always leave those things for me that people is going to be one. We look for cost savings on what our input costs are. And of course, it's much more difficult on -- in the inflationary place that we find ourselves in this country, but we're going to look for every opportunity to use less so that we can save costs that way. And on headcount, absolutely, we're going to use attrition to rightsize the company as much as we can to what we know now, we've identified where we want to get to. So it will be through attrition mostly, and we'll move ahead from there. Thanks for the question.

David Vernon:

Hey, good morning, guys. So I wanted to talk a little bit about -- I wonder if you could talk a little bit about the earnings leverage we should have from some of the intermodal agreements you guys are signing, obviously, the Falcon service, the partnership with NS. How should we be thinking about the profile from a margin perspective of that traffic coming on, particularly early here as truck rates remain low and it seems like intermodal companies are out there just counting the service to take some share? And then maybe a bigger picture, Jim, could you talk a little bit about how you see the competitive dynamic for UP changing post the CP/KC acquisition. We've heard a lot from Lance in the past on this, but I don't think we've had a chance to hear you talk about how that acquisition creates risks or opportunities for Union Pacific from your perspective? Thank you.

Jennifer Hamann:

Thank, David, for that question. You've heard us talk about margins before in terms of the -- when we look at it, where you see some of the greatest margin pressure relative to our book of business is in that business that's truck competitive. And we certainly are in a truck competitive market today. But that's also our opportunity that you've heard us talk about in terms of tremendous growth, and we know that there's leverage in margins from volume growth that can help drive greater productivity. And as we are building a better service product, certainly, as we provide better service, there's a price for that service. And we look to price to that to be able to meet that customer demand. I don't know, Kenny, if you want to add anything to that?

Jim Vena:

And on the competitive dynamic and the specific example of CP/KC. So I think they're a great railroad. I think they have a great network. I think they're a leader, Keith, he's a friend. I've known him for a long time, and he's smart, knows out a railroad. So he knows how to balance safety service, asset utilization, cost control and developing is people, same thing as we do. So the competition is, and I like it. There's nothing wrong with little competition. So I want to win, he wants to win. There's no advantage of us that the CPKC, if it's origination, the destination on their railroad we have a competitive disadvantage. But the advantage we have is we've got this great network. We go through 23 states. We serve the population in the US, we have fast access. We have a 70-mile hour railroad. We're fast. And if we have to be, if that's what we sold was fast, we can do that. And you can see it when we move our parcel business as we're doing and getting up to their peak period coming up towards Christmas. So all those things plus we have access into Mexico, broader access than one or two places. We go into the -- into Mexico, from the West Coast all the way east in a number of locations. And we have a strong partner in FXC. And as you know, we own 26% of them and that helps us. So I'm excited. CP/KC is going to make it difficult and we're going to make it difficult. Now I don't chase price. This is not a price discussion. It's about a service and access to markets and how we do it. And I'll walk away from business if somebody wants to lower their price. Go ahead, take the business, I'll bring in a business that fits our network that makes sense. So that's how I think of competitors, and I could have that discussion about all the other railroads. I want us all to be really good and strong.

Jim Vena:

Kenny?

David Vernon:

All right. Thank you, guys.

Operator:

Thank you. [Operator Instructions] The next question will be coming from the line of Allison Poliniak with Wells Fargo. Please proceed with your question.

Kenny Rocker:

Yes. So again I mentioned roughly mid-teens call it 15% that our estimation that's moving rail out of there. We see that as the right opportunity to go after that over-the-road products. We've got to revise more competitive, faster service product that Eric is delivering on in the high 90 percentile for what we've scheduled that too. And we have seen some wins. We have seen some over-the-road wins come early. We've added extra products that I talked about going into the Southeast. Remember, we're moving, Allison, our products seven days a week. That's in a few days a week and customers like that. And we see it as the right spot to go after and grow.

Operator:

Our next question is from the line of Chris Wetherbee with Citigroup. Please proceed with your question.

Jim Vena:

Chris, nice to hear your voice again. There's so many pluses and minuses, additions or subtractions. We still haven't fully implemented the 11 and 4 deal on scheduling with BLET. And we haven't concluded negotiations with SMART-TD on what that does. So we have to see how that goes. The general way I see it, though, is that we do want to see a more productive workforce in the company as we move ahead. But I would be remiss to tell you without those collective agreements in place of exactly what the time line is. But you know me by now that I always look at what do we need of the railroad and is at the right level to be productive with it. So I'll do everything I can. But with those outstanding items, we still -- there's -- I just can't give you a black-and-white answer of what the time line is and how fast those changes go to where I want to take it. It might take a little bit longer than when -- if we didn't have those deals in place.

Jim Vena:

Absolutely.

Jim Vena:

Thanks, Chris.

Brandon Oglenski:

Hey, good morning, and congrats, Jim. So Jim, I guess, I think if we look back over the last number of CEOs at Union Pacific, the disappointment that I think probably all of them would share would be lack of relative volume growth and as I'm looking at my model here, I think RTMs this year are probably going to end up being down more than like 25% from where this company peaks way back in 2006. So as much as we're talking about service and the ability to grow and the pipeline looks strong, like we've heard that before. So what is different looking forward with you as CEO at Union Pacific that you think you can really capture some of that market opportunity?

Brandon Oglenski:

Will do, Jim. Thanks.

Operator:

Our next question is from the line of Jonathan Chappell with Evercore ISI. Please proceed with your question.

Kenny Rocker:

Yes. First of all, it's great that we put the investments in for our intermodal network. You've heard me mention them. I won't go over them again, but it does start there. Obviously, the service matters. We've been deliberate about making sure we can insert optionality on that domestic intermodal product, and we've done that. You've heard us talk about the strong stable we have as you look at Hub and Schneider and if -- and FTG that's there, our rail product with EMP, UMAX, and we've invested in that fleet from a GPS perspective, invested in the ramp. So we're prepared from that standpoint. You -- I think your question is a little bit about how we keep them competitive. And I've talked about that in terms of, again, we have mechanisms to make sure that our customers regardless IMCs, private assets are competitive. And what we want to be is just nimble and quick and change with the market so that we can get that margin and price improvement as we move along.

Jim Vena:

Great. Thanks for the question.

Bascome Majors:

Jim, you said you had about 500 locomotives parked. I was curious just high level, how do you think about the locomotive strategy at UP versus what you inherited? I know you've got a big order for refurbishment that will go out several years. But just strategically, longer term, how are refurbished locomotives performing? Where do you see your CapEx going over the next three, five, seven years to satisfy both the service needs you have and the emissions targets you put out there? Thank you.

Operator:

Thank you. Our next question is from the line of Jeff Kauffman with Vertical Research Partners. Please proceed with your question.

Jim Vena:

Well, I think railroading, the basic foundation of railroad hasn't changed from 2019. How we look at the business at Union Pacific, how fast we are making decisions needs the change. When I showed up, I asked Kenny to give me a number of customers that I could talk to at a high level and talk about what our services, what our plan was. And one of them said to me that they wanted to invest a lot of money to be able to build out because there was expansions going on in the soda patch -- soda ash patch. So at the end of it, it was taking us over a year to give them a decision on whether we could do that. We need to change that. And if we change that and we were able to make the decision in four days, I got it. We can't make decisions in four days all the time, but we sure can make them in a few weeks instead of months. That's really important. That's a change in the way we want to do business. And the customers, the feedback was, there's opportunity for them to win in their marketplace, the customers that we have. So we need to build on that. And that's really important. The foundation is the same. We're going to operate a very efficient railroad, having a buffer, the fundamentals -- the five key fundamentals of how you operate the railroad, I'm not changing from. It's true, it's tested, it wins, it puts us in the right place. I'm not changing. And -- but we need to be consistent with our customers, work better for them to grow, and we win. So I'm looking forward to the challenge. One big difference between 2019 and now, my wife is still mad at me that I went back to work, okay? But other than that, everything else is good.

Jim Vena:

Thank you.

Ravi Shanker:

Thanks. Hello, everybody. Just a follow-up on the Mexico and Falcon service commentary. Jim or Kenny, when you talk to customers kind of who are looking to potentially convert from truck or can convert from another railroad. How important is speed in their equation relative to an overall value proposition? I mean you said that you're at a bit of a structural disadvantage kind of given the interchange versus your peer, but what can you do from an overall value prop to kind of be competitive and kind of work against that structure? Does it [indiscernible] if you will.

Kenny Rocker:

So first of all, we know our customers. We know that automotive OEM with auto part for production is different than, say, an FAK business of -- contain our pillars. They are different. What differentiates us in that sense, I talked about the revised service product that is going to help us with customers that are speed sensitive. The fact that we have every day per week service, that's going to help us because that matters also. The fact that we have a group of private asset owners, and we also have our own containers to go into Mexico, that makes a difference. So again, we know our customers and those are the things that we talk to our customers about as we're winning business over the road.

Jim Vena:

Thanks for the question.

Justin Long:

Thanks. Good morning. Jennifer, you talked about comp per employee being up about 3% this year, but I wasn't sure if that included the impact of the abnormal labor costs from last year. So how do you expect comp per employee to trend sequentially into the fourth quarter? And as we move into 2024, do you think this is an area where the productivity opportunity has potential to fully offset the inflation headwinds we're seeing?

Jim Vena:

Well, listen, thanks, everyone, and let me tie this up, and I really appreciate everybody taking the time this morning to join us and talk about Union Pacific. And I think the team that's with me here has done a great job of explaining what we do, but let me summarize it real quick. Our goals are clear. It's about safety, service and operating excellence. That's how we win. And we're going to be really good at operations. We're going to provide consistent service to what we sold, every customer has a different level of service they required. Some of them is fast, some of them is sustainable. Some of it is making sure you're consistent. We're going to leverage the railroad. We're going to do everything we can to leverage the physical plant that we have. We're going to be efficient on how we do it. We are going to deal with stakeholders at all levels in a professional manner and listen to their inputs and see what we can do. I think we can win. This is not going to be a short-term fix that -- you'll see it. But what you should notice is as we go through the next quarters, you will see us improve and when we get to the right place with the inputs that we have in this railroad. I'm excited. The team is excited. We're moving fast and again, thank you very much, everyone, for joining us, and we'll talk to you all in the next quarter, if not some time before. Thank you very much.

Operator:

Greetings and welcome to the Union Pacific Second Quarter Earnings Call. [Operator Instructions] As a reminder, this conference is being recorded, and the slides for today's presentation are available on Union Pacific's website. At this time, it's now my pleasure to introduce your host, Mr. Lance Fritz, Chairman, President and CEO for Union Pacific. Mr. Fritz, you may begin.

Michael McCarthy :

Thanks, Lance. This morning, the Board of Directors announced that Jim Vena will be appointed the next Chief Executive Officer of Union Pacific. The Board has also appointed Jim to the Board of Directors. Jim brings a strong rail operations background at Union Pacific with over 40 years of experience. This includes two successful years as our Chief Operating Officer from 2019 to 2020. After a comprehensive search process, it was clear Jim's track record of operating excellence was unparalleled and he was the right candidate for the job. Jim will start as CEO on August 14, and we look forward to welcoming him back to Union Pacific. The Board also announced that Beth Whited will be appointed President of Union Pacific. Beth has over 35 years of experience at our company and has held leadership roles across multiple departments. Recently, she has led our strategy, sustainability and workforce resource teams with great success. Going forward, the operations, finance, marketing and sales, supply chain and technology functions will report directly to Vena. Whited will report to Vena, and her responsibilities will include the strategy, workforce resources, sustainability, law, corporate relations and government affairs functions. In addition to these management changes, the Board is appointing two new Board members

Kenny Rocker:

Thank you, Lance, and good morning. For the second quarter, volume was down 2% driven by weak market conditions in our premium and bulk business groups. Freight revenue declined 5% driven by lower fuel surcharges and a [2% decrease in volume. However, we generated solid core pricing gains in the quarter to help offset some of those challenges]. Let's take a closer look at each of these business groups. Starting with bulk. Revenue for the quarter was down 3% compared to last year, driven by a 2% decrease in average revenue per car due to lower fuel surcharges and a 1% decline in volume. Grain and grain products volume was up 1% due to increased demand and business wins for renewable diesel feedstocks, coupled with strong shipments of domestic grain. A soft U.S. export grain market partially offset these gains. Fertilizer carloads decreased by 9% in the quarter due to an outage at a customer facility that reduced export potash shipments. Food and refrigerated volume was down 8% due to reduced beer imports early in the quarter, but those shipments eventually improved by June. In addition, drought conditions from the prior growing season negatively impacted both fresh and can shipments. And lastly, coal and renewables volume was flat year-over-year. Low natural gas prices and reduced electricity demand from mild weather negatively impacted shipments, but that was offset by a favorable comparison to 2022. With our service improvements and additional resources, we are currently meeting available demand. Moving on to industrial. Industrial revenue was flat for the quarter driven by a 1% improvement in volume, offset by a 1% decline in average revenue per car. Core pricing gains in the quarter were offset by lower fuel surcharges and a negative mix in volume. Industrial chemicals and plastics volume was up 2% year-over-year, driven by increased plastic shipments, partially offset by lower industrial chemical shipments due to challenged industrial production levels and reduced housing demand. Metals and minerals volumes continue to deliver year-over-year growth. Volume was up 2% compared to last year primarily driven by growth in construction materials and increased frac sand shipments along with new business development wins. Forest products volume declined 13% year-over-year driven by challenging market conditions in housing and repair and remodel, coupled with lower corrugated box demand. However, energy and specialized shipments were up 2% versus last year driven by strong business development and increased demand for LPG and petroleum products. Turning to premium. Revenue for the quarter was down 11% on a 4% decrease in volume compared to last year. Average revenue per car decreased by 8%, reflecting lower fuel surcharge revenues. Automotive volumes were positively driven by continued strength in OEM production and inventory replenishment for finished vehicles and auto parts. Domestic intermodal wins were offset by a weak freight and parcel market driven by higher inventory and the shift in consumer behavior as people spend more towards services than goods. International shipments were down due to decreased imports on the West Coast. So turning to Slide 7. Here is our outlook for the rest of 2023 as we see it today. Starting with our bulk commodities. There is uncertainty in our second half coal outlook as the inventories have been restocked, but extreme heat is driving up near-term demand and starting to push up natural gas prices. We expect near-term grain shipment to be challenged with tighter U.S. grain supply impacting volumes. However, with improved operations and recent rain improving new crop supply forecast, we remain optimistic about our opportunity to move incremental grain carloads in the fourth quarter. In addition, we expect our forecast for biofuel shipments of renewable diesel and their associated feedstocks to remain strong. We see solid market demand and continue to capture new business as production expands. Moving on to industrial. The forecast for industrial production is down in the back half of 2023. Demand for forest products will also remain below 2022 levels. And despite some good business development wins on the metal side, it has been offset by a weaker-than-expected market. However, we expect to see continued strength in construction with new business wins. And finally, for premium. We expect challenges in the intermodal market from continued inventory destocking, inflationary pressures and ongoing shift in consumer spending from goods to services. However, on the international side, we continue to outpace U.S. West Coast import market as customers shift more business to IPI. For automotive, we expect growth to continue driven by strong OEM production and high shippable ground count. So to wrap up, it's hard to say when the economy will begin to recover in certain sectors, but our diverse portfolio allows us to see positive momentum in many of our commodities. The team remains focused on winning new business and has a strong pipeline of opportunities with a great track record for closing deals. With that, I'll turn it over to Eric to review our operational performance.

Jennifer Hamann :

Thanks, Eric, and good morning. Let me start with a look at the walk-down of our second quarter operating ratio and earnings per share on Slide 14, where we've outlined the major drivers. In the June 13 8-K, we disclosed a onetime ratification payment related to our SMART-TD brake person agreement. That $67 million bonus increased our operating ratio 110 basis points and reduced our EPS $0.09. Falling fuel prices during the quarter and the lag on our fuel surcharge recovery programs positively impacted our operating ratio 200 basis points and added $0.04 to EPS. While improved operations generally allowed us to meet demand during the quarter, that demand was softer and the combination of an elevated training pipeline, inflation and negative mix, all impacted our core results. Below the line, we net to a $0.07 EPS reduction from lower Nebraska State tax rates in 2023, as was noted in that same June 8-K, and a large 2022 real estate sale. Looking now at our second quarter income statement on Slide 15. Operating revenue totaled $6 billion, down 5% versus last year on a 2% year-over-year volume decline. Included in that is a $34 million reduction in accessorials related to lower intermodal volume and faster equipment turns. Operating expense of $3.8 billion was flat resulting in second quarter operating income of $2.2 billion, which is down 12% versus last year. Other income decreased $70 million driven by the 2022 real estate sale I mentioned earlier. Interest expense increased 7%, reflecting higher debt levels. Net income of $1.6 billion declined 14% versus 2022, which when combined with share repurchases, resulted in a 12% decrease in earnings per share to $2.57. Now looking more closely at our second quarter revenue. Slide 16 provides a breakdown of our freight revenue, which totaled $5.6 billion, down 5% versus 2022. Lower year-over-year volume reduced revenue 175 basis points. Total fuel surcharge revenue of $707 million was $269 million less versus last year. The impact of falling fuel prices as well as the lag in our surcharge programs reduced freight revenues 425 basis points. The combination of price and mix in the quarter increased freight revenue 150 basis points. This gain reflects the strong pricing we secured while also recognizing some headwinds from certain coal and intermodal contracts where the pricing is more reflective of current market conditions. Mix in the quarter remained negative as fewer lumber shipments and more short-haul rock shipments outweighed the positive impact of lower intermodal. Turning now to Slide 17 and a look at second quarter operating expenses, which totaled $3.8 billion. Compensation and benefits expense increased $177 million versus 2022 with nearly 40% of that amount reflecting the brake person agreement. Second quarter workforce levels increased to 4%. Although total transportation employees were up 7%, the active TE&Y workforce is only up 1%, which is a result of our robust hiring and elevated training pipeline. Excluding the impact of the onetime bonus payment, cost per employee increased 5% in the second quarter, and we expect it to be up 3% to 4% for the full year. Both second quarter and full year cost per employee reflect the impact of that larger training pipeline as well as better crew efficiency, which are partially offsetting wage inflation. I'll provide more details on the impact of our new agreements here in just a bit. Fuel expense in the quarter increased 29% on a 29% decrease in fuel prices. Purchased services and materials expense increased 5% driven by inflation, partially offset by decreased subsidiary drayage expense and more moderate locomotive repair expenses as we stored locomotives in the quarter. Equipment and other rents was up 8%, reflecting higher lease expense for new freight cars secured to support business volumes and lower equity income, slightly offset by lower car hire as we improve cycle times and move less volume. Other expense grew 6%, primarily related to increased environmental remediation accruals as well as persistently elevated casualty costs. Turning to Slide 18 and our cash flows. Cash from operations in the first half of 2023 decreased to $3.9 billion from $4.2 billion in 2022. The primary driver was $445 million of payments related to labor union agreement. These payments also impacted free cash flow and our cash flow conversion rate. Year-to-date, we returned $2.3 billion to shareholders through dividends and share repurchases. And we finished the second quarter with an adjusted debt-to-EBITDA ratio to 200 -- excuse me, to 2022 levels at 2.9x as we continue to be A-rated by our three credit agencies. Wrapping up on Slide 19. As you've heard from the team, we're pleased that the service product is enabling us to meet available demand. Unfortunately, as you heard from Kenny, consumer-facing markets like intermodal and lumber remains soft. Additionally, the outlook for coal has weakened since the start of the year but with some near-term opportunities given the extreme heat. Although we still expect to outpace industrial production in certain markets, weak demand for consumer goods has pushed our full year volume outlook below current industrial production estimates, which are slightly positive. Unchanged is our expectation to generate pricing dollars in excess of inflation dollars. To date, we've made great progress repricing our business to reflect the impact of higher inflation, and that momentum will continue. As it relates to fuel prices, I should point out that the tailwind we've experienced these past 24 months is now expected to shift to a headwind both on the operating ratio and EPS front. Assuming fuel prices remain relatively stable, this will likely represent a negative second half impact of around $0.50 per share. Eric provided some great context on our labor agreements. And although they clearly come with some upfront cost, we see opportunities as well. Starting with the sick leave agreements. Our current forecast is that they will add roughly $50 million to labor expense in the second half of 2023, which is reflected in the cost per crew numbers I quoted earlier. We view these costs as added inflationary pressures that we will reflect in our pricing. For the brake person agreement, we've already seen the impact of that upfront payment. Our expected payback period is roughly two years as it allows us to redeploy crew personnel, save on costly borrow-out positions as well as reduce our current hiring needs. Implementation of the BLET work rest agreement will start over the next month or so with completion likely in 2024. For this year, we estimate the work rest implementation will cost upwards of $20 million. The challenge in putting a finer point on that estimate is both timing and forecasting employee behavior. We don't yet have an agreement with SMART-TD, and we are still working through some technology and logistics before we start the rollout. And while we certainly expect better availability, better service and more flexibility with our crew boards, providing more access to time off likely adds employees and expense. The exact math depends on how employees utilize this greater flexibility as well as how we translate better predictability into increased levels of productivity and service that ultimately drive profitable growth on our railroad. Looking at our 2023 capital allocation. Our capital plan remains $3.6 billion. We also plan to maintain our current dividend of $1.30 per quarter as reflected in our dividend announcement this morning. However, we have paused share repurchases and don't expect to be back in the market for the remainder of 2023. While there's no change to our long-term capital allocation strategy, which is first dollar into the business, industry-leading dividend payment and excess cash to shares, we recognize our cash flows are impacted in the current environment with volumes and costs. Wrapping up, we are well positioned to operate a better railroad in the second half of 2023 and for the long term, our strong fundamentals are unchanged and will allow us to generate significant value for our owners as team UP drives service, growth and improved profitability. So with that, I'll turn it back to Lance.

Jennifer Hamann :

Thank you, Lance. And on behalf of the employees of Union Pacific, let me offer our gratitude and appreciation for your leadership. We wish nothing but the best for you and your family as you embark on the next chapter. Before we begin Q&A, I'd like to lay out a couple of guidelines for the call. In the interest of time and to accommodate everyone, please limit yourself to one question and one question only. Second, we understand that there's great interest in the leadership changes that were announced this morning, and we look forward to those discussions. However, today's call is to discuss our quarterly results. So please focus your questions on the business of the earnings call. So with that, Rob, we are ready for your first question.

Allison Poliniak:

Just want to talk through intermodal. I know there's obviously consumer weakness there. But is that -- I guess, the pace of the decline moderating for you some? And I guess, with sort of the improved service that you're starting to see in that interest back on the West Coast port, should we start to see or expect to see some of those business wins start to accelerate for you? Just any color just thinking that maybe intermodal starts to perform better for you in the face of even the consumer declines?

Operator:

Our next question is from the line of Jon Chappell with Evercore ISI.

Jennifer Hamann :

Yes, Jon, thanks for that question. I'll start and then pitch it to Kenny. So just as a reminder, when you think about our book of business, call it, 25% or so is spot rates. You've got another, call it, 30%, 35% or so that is one year or less in duration types of contracts or arrangement, and the rest then are multiyear deals. So there is a cadence to which we're able to touch actively all of our business. Kenny, do you want to maybe talk about the market?

Operator:

Our next question is from Chris Wetherbee with Citi.

Jennifer Hamann :

Yes. So I'll maybe let Eric talk about how he feels about crew staffing levels. But just overall, in terms of our head count, we think as you look to the back half of the year, it's probably going to be, I'll call it, flattish or so from where we're at right now. We're continuing to hire and train and make sure that we've got a good robust pipeline so that we're able to serve our customers appropriately. But just from an absolute FTE basis, that's kind of how we see things in the back half.

Lance Fritz :

We should be crystal clear as well, Jennifer and Eric, Chris, that there's still work to be done. When we look into the third and fourth quarter, Eric outlined some of it in his prepared comments, but we are not yet volume-variable with what we're seeing in the marketplace. We took a step towards that in the second quarter. We got to keep taking steps in the third and fourth.

Justin Long :

Lance, congrats from my end as well. I wanted to ask a question about the outlook for the second half. You mentioned fuel being a headwind and in addition to that, the labor cost. Do you think EPS in the second half will be lower than the first half? And then maybe, Jennifer, you could comment on the run rate for these labor-related costs as we move into 2024. I'm just curious if we can take this $50 million to $70 million and annualize it or if that is expected to change?

Jennifer Hamann :

Yes. I mean, certainly, the one headwind we did size for you is the $0.50 impact, the negative year-over-year impact we expect to see on EPS from fuel in the third and fourth quarters. In terms of moving into 2024, so if you think about that $50 million from the sick leave agreements that I mentioned, most of those agreements were really effective in the second half. We had our non-ops that started a little bit in the first half. So I think you can think about that as being something that will carry over and repeat itself in the first half of 2024. Beyond that, in terms of the implementation of work rest, we're really reluctant to -- and really, it would be difficult for us to size that more precisely because it is going to depend on the timing of how we roll that out as well as the employee behavior that we see with that. And so that's something that we'll just keep you updated, but I want to make sure you do understand that, that will be a bit of a headwind. But as we get greater clarity of that as we go through our rollout and start that rollout and obviously, we still need to get SMART-TD done as well, we'll be in conversation about that.

Operator:

Our next question is from the line of Brandon Oglenski with Barclays.

Lance Fritz :

Yes, Brandon, thank you for that question. And we'll try to keep this to be the only question on that. So I'll try to make the answer fulsome. In terms of what am I proud of, what did I think we got right as a team, one is I love the team that we've assembled. It's world-class. I love the work that we've done on sustainability. I love the fact that we are an inclusive workforce. You can see it in our Board. You can see it on our management team. I like the progress that we've made on safety. We've got more to do there. And I love the fact that we transitioned from our previous transportation model and way of running the railroad to a PSR model that's a better service product for our customers. In terms of what we needed to do better, we were not consistent and reliable through my 8.5 years of serving as the Chairman, President and COO. And that needs to be remedied. As we look into the future, that's exactly what we need to continue to do. We've got a strategy, serve, grow, win together, that's built off the foundation of consistent and reliable service. I am confident we're oriented, organized and capable of doing that. We've got to prove it to our customers. Because Brandon, our customers tell us, as we demonstrate reliability, there's more of their order book available to us, plus there's more market participants that will start doing business with us. That's the unlock for growth. And growth is the unlock for significant value creation in the future for everybody, for all of our stakeholders.

Ravi Shanker :

Again, from me as well, congrats, Lance, on a great career. Just on the volume guide itself, can you confirm just how much that kind of volume outlook did move? Because you did -- you're now going to be kind of below a raised benchmark. So just trying to get a sense of kind of how much that did move. And also, is industrial production the right benchmark for your kind of volume growth in the long term just given the consumer exposure here? Or do we have to look at some combination of IP plus GDP?

Jennifer Hamann :

Yes, I can start it. So you raised a good point, Ravi. I mean we do think looking backwards certainly that industrial production has been a better gauge. But you're right, we have great franchise diversity, which we've talked to and Kenny mentioned too. And with the growing intermodal portfolio, there are certainly components of that. But it's really driven by consumer spending, and a lot of that consumer spend on industrial production. So it's hard to really separate from that. But in terms of what's changed from where we started the year, certainly, coal is something that with natural gas prices falling as it did late January, early February, that certainly took a big chunk of that demand away from us. Now you've heard us talk about the heat and you're seeing that, you're seeing maybe a little bit of inflection in natural gas prices. So we're watching that. The other piece, though, is on that consumer side. Onboarding a new intermodal customer coming into the year, we expected that to be a big tailwind to our volumes. And just the way that, that consumer spending and consumer goods purchases has dropped, that's just had a really outsized impact.

Operator:

Our next question is from the line of Brian Ossenbeck with JPMorgan.

Lance Fritz :

Kenny, why don't I start with the -- what about the agreements and getting price and productivity out of them. The short answer, Brian, is we are confident that we can continue to price above inflation. We've just seen a few agreements like paid sick leave add to the inflation in our comp and benefits. And Kenny's team is tasked now to get out there and make sure that we recoup that. In terms of productivity, the brake person agreement is just a clear path on productivity. We can reduce 3 people to 2 people on crews where we don't need 3 people, and we can either redeploy them or lower our hiring demands. So that clearly, just in that one example -- there are other examples like in work rest, Brian, we'll be able to get productivity out of that. Today, there's a percentage of our workforce when they're called to take a train, they are not available to us. And we don't know that before we call them. And that creates failure cost and disruption in the network. I'm going to presume, and I think the experience where work rest schedules are in place, that unpredictability dropped dramatically. When that happens, we get better the utilization of our assets and we lower failure costs from the network. So the only question for us is order of magnitude and when as we implement.

Operator:

Our next question is from the line of Fadi Chamoun with BMO Capital.

Kenny Rocker:

Yes, Fadi, thanks for the question. Let's just walk through -- if you look at our outlook slide, and I'll supplement that with a few more specifics on our biodiesel, the renewable diesel market, we've got seven different facilities on us. We're going to land another facility here by the end of the year. We're very encouraged by that. That's a key part of our growth strategy. And we mentioned that a couple of years ago, during Investor Day, very proud of our commercial team for securing that. Construction, our rock business, for example, those are areas where Eric's team is just delivering great service, and it's showing up in terms of carloads. We're adding a few more sets there. We're seeing more carloads that are coming on because of that, and some of that is market-related. There's just more infrastructure that's out there. If you talk about the service product, we look at auto parts coming out of Mexico. We've seen a pretty fast and upcoming grower -- growing EV producer that we're growing with on the auto parts side that we're excited about. We've secured a new automotive OEM on our line back in the spring that has brought business to us. That same OEM will be bringing on business in the first quarter. So we're pretty excited there. And then kind of last but not least, I'll just say that overall, the team has been engaged on bringing new business in different ways. We have a new industrial park that's going to be landing on us in the Buckeye, Arizona area. So that's great. And we've got a customer that will be doing reusable plastics, so just you think about the ESG connection. So we can create our own business development with the service that I mentioned with Eric, and we're excited about it.

Kenny Rocker:

It's up around 20% to 25%. So the team is just doing a fabulous job going out there and expanding the market better.

Kenny Rocker:

That's in a down market. And so I will say we're pumped up about it.

Fadi Chamoun :

And I'm surprised you didn't mention intermodal as being one of the opportunities that service gets better. Is this because the truck market competitiveness right now? You need a little bit of support there? Or is there more to it than that?

Lance Fritz :

Kenny, at the risk of making this drag on too long, you should mention Falcon Premium too.

Operator:

The next question is from the line of Amit Mehrotra with Deutsche Bank.

Eric Gehringer :

Yes. Thank you for the question. Let's back up in time, as we came into the year when we think about our first quarter earnings report, we were talking about borrow-outs. In the context of while we were making great progress in our hiring, we still have pockets of the system, specifically about 7 locations, where we were utilizing borrow-outs because of the difficulty to hire. Now in any given year, there's some level of borrow-outs used even in just dealing with seasonality, for example, the grain harvest that comes in the fall. If you look at the quarter, what we've reported is that we've taken our borrow-out count down by 50%, approximately. Now that is a process that continues. As we look for volume to continue to grow, we have those as options. But as we're looking every week, to your point, to control our cost, those are ones that we adjust literally on a weekly basis. There may be a place as we fast-forward three months, four months, six months, where you may use them and very small numbers. But our goal is to reduce our borrow-outs as quickly as we possibly can. As far as the nonfuel cost, it follows the same recipe that we've shared before, One, we just finished talking about it, which is how we think about our labor costs and ensuring that we're being conscious of that. Two, you go to your next expensive cost or, at least outside of fuel, is you're going to look at your locomotive fleet. The reduction that we've made in the quarter is a strong move in the right direction. The reduction we've been made in July is another strong move on top of that, and we look forward to reporting to that in future quarters. So all eyes on we want to grow the business, and we need to be volume-variable until we see more of that growth coming.

Operator:

Our next question is from the line of Bascome Majors with Susquehanna.

Lance Fritz :

Yes, Bascome, thanks for the question. First, you got to note, Jim Vena is our CEO. He runs the company, that reports to Jim. So I don't anticipate any meaningful dislocations or push-pull created by org structure. And having said that, there's some natural creative tension in the business all the time. There's creative tension between the operating team and the commercial team. There can be creative tension between the team that is controlling versus the team that's spending. Just -- you can name any number. The most important thing is we've got a fabulous operating executive joining us as our CEO. He's got a great track record, and he's going to be laser-focused on making sure that we're providing the best service product to our customers so that we can translate it into growth. He's going to do a very good job of making sure the team works together. We're working well together today. I anticipate we'll be working well together a month from now. And Beth's role is going to be making sure that she's supporting all of that effort effectively through workforce resources through the work we do with communities, through the work we do in DC. So I anticipate better, not worse, as we move forward.

Ken Hoexter :

Congrats on its team and the Board on the next steps and on naming Jim as CEO. So many moving parts with the labor agreements. Obviously, Jen ran through some of the cost side from the pay increase last year to what you're now adding on after the main contracts. Maybe -- can you take a minute, walk us through some of the benefits that you see? And I presume these are all Union Pacific add-ons. Maybe differentiate what is UP add-on versus the industry. And then just thoughts on your outlook. I think you removed the operating ratio from your target. Is there a thought on the scale that you want to put together on costs? Or are we just leaving that off all together?

Eric Gehringer :

Yes. And on the agreement side, so if we start with sick days, the opportunity that Lance mentioned obviously reinforce as we see the opportunity to improve the attractiveness of our jobs. And as a result of that, that can have a positive impact on how we do our hiring. If you go to the brake person deal, clearly, the biggest opportunity there is to reduce brake person labor in line with where the jobs are no longer needed and also allows us to partially offset some of our hiring in the short term. And of course, we get the benefit of establishing a ground-based enhanced utility position. And as Jennifer pointed out, the payback period on that is approximately two years. And if you look right now, we're about 60% of the way through that implementation. And then certainly on the 11 and 4 scheduled work, it really boils down to improved availability, as Lance pointed out, and more efficiently managing our staff levels with more latitude on how we do that under this new agreement.

Scott Group :

Best of luck to you, Lance. Jennifer, Just wanted to just make sure I understood the answer to that last question. Are you -- so relative to like the 62% adjusted OR in Q2, are you not -- you're just not giving any color? Or are you saying it's probably going to get worse, the OR second half versus at 62%? I'm just not sure what you're trying to message there. And then just Kenny, CN last night was just -- talked about raising their expectations for the U.S. grain -- upcoming U.S. grain harvest just with some better rain recently. Just your thoughts on how you think about the grain harvest in your territory going forward?

Kenny Rocker:

So Scott, I'd tell you, we look at the weekly crop report and, call it five, maybe six weeks ago, wasn't looking great. And since then, we've had rain in areas that we serve and participate in. So it's looking much better. You heard in my comments that we think there is an opportunity for incremental grain in the fourth quarter. And so we're steering that down and working with Eric's team to make sure we can capture it.

Walter Spracklin :

Best of luck there, Lance, on the future. Just a question here -- wrap up here on coal. I know you'd indicated that, that was an area of discrepancy from where you were looking at before. Really on the -- or the revenue per carload revenue per RTM, that's taken a notable step-down. And I know your peers talked a lot about -- you talked about a 15% decline in their rates on coal. Now a lot of that is tied to export met, which is not in your mix, but you did see a similar type of step-down in sense per RTM. Just wondering if that's something that you expect to continue for the foreseeable future. What's driving it? What could make it change up or down from this point going forward?

Lance Fritz :

Yes. I think the differentiation there is sequential versus year-over-year, and year-over-year is going to continue to see some pressure. Sequential, we've seen as much pressure as we're going to see.

Jennifer Hamann :

It should be. I mean, obviously, watch natural gas prices.

Jason Seidl :

First off, Lance, good luck in the future, and congrats to both Jim and Beth, if they're listening in. Some quick things. I wanted to look a little bit about regulation. We've seen the FRA now is looking for a public comment period on train weights and lengths. Wanted to know if you guys think this is sort of a precursor for more regulation from them. And two, maybe if you could talk a little bit about anything anticipated on reciprocal switching. And lastly, squeezing in here, Jennifer, when was the last time you guys didn't repurchase shares in the quarter?

Jennifer Hamann :

Yes. So I would go back to second and third quarter of 2020 when the pandemic hit and there was such a drop in volumes. We paused our share repurchases then for at least a couple -- I'm pretty sure for the full second quarter, part of the third quarter, I think, is when we restarted that. So we manage the share repurchase piece with our excess cash. And that's always been the flexible part of our shareholder return, and that's how we're managing it today.

Jennifer Hamann :

Exactly, Lance. And obviously, with some of the earnings pressures we're facing this year, that's not giving us that incremental capacity we've seen.

Operator:

Our next question is from the line of Tom Wadewitz with UBS.

Lance Fritz :

Yes, Tom, let me start with your essential question about the three legs of the stool. We've forever talked about, we drive margin improvement through productivity, price and the benefit of volume. And to your point, we've leaned heavily on productivity and price historically. And we said we're in a transition where we're going to have to lean more heavily on volume. But that's not going to be the only leg of that three-legged stool, Tom, when you -- it's still true. While inflation got on us quick, the way our contracts and our business relationships are set, it takes us a while to recoup that inflation through price. Kenny's team has been crystal clear that they own the requirement to do that, and they're following through. But it's going to take a little while. And on productivity, like we just demonstrated this quarter, we created a new agreement, makes all the sense in the world. It came with a 70 -- roughly $70 million price tag immediately. Implementing it is going to get the payback and will be paid back in about two years. So Tom, the opportunity for productivity, price and volume to still drive margin improvement exists. We're in kind of a unique environment right now regarding timing. And we are, for sure, going to have to rely on volume more heavily going forward.

Tom Wadewitz :

Okay. So you think stable revenue per car 3Q versus 2?

Operator:

Our next question is from the line of Ben Nolan with Stifel.

Kenny Rocker:

I think you're asking, have we seen any success stories? And yes, we've had some early wins. Of course, the focus is over the road. I mean that's the size of the prize. Rail is a very small part of that traffic that's moving out of Mexico or into Mexico. As I also said, as we continue to improve the speed and consistency there, we expect to make more inroads.

Kenny Rocker:

Yes. I mean we're getting more reception from customers that are open to opening their books and giving us a shot, for sure.

David Vernon :

Lance, congratulations and good luck. So Eric, with the 400 to 600 heads that we need to add in for the part time off or paid time-off agreements, how many of those people are going to be on property by the end of this year? And then how should we think about reconciling that with the -- a flat head count number from 2Q? Are we making reductions in operations? Or is it coming out of other areas?

Lance Fritz :

So Jennifer, it's for all agreements?

Eric Gehringer :

I think we also pointed out in our commentary that, that number is going to be highly impacted by the behavior that comes from these agreements. And we're not ready today to say exactly what that will look like. We'll continue to look to it, though.

Lance Fritz :

But he had the back half of his question there, which was about offsets and...

David Vernon :

So if you were to say like how much of the 400 to 600 is in this year versus coming into next year, is it a quarter, is it half? Is there a way to directionally sort of indicate how much is going to be in this year?

Lance Fritz :

And Jennifer, I think you had said this, but your total guidance sequentially for the back half labor being flattish includes all that.

Operator:

Our final question is from the line of Jordan Alliger with Goldman Sachs.

Eric Gehringer :

Yes. Thank you for the question, Jordan. So when you -- we've been very consistent. And when you think about the intermodal TPC, you're talking about a number that starts with an 8. And when you're thinking about manifest and autos, it starts with the 7. Now that's highly informed and continues to be evolving. We went through a very large engagement with our customer base through Kenny's team towards the back end of last year that is informed this year and how we think about that, more specifically to segments within those customers. Now that work continues because -- and as we've reinforced before, we know that our customers are sensitive, in fact, very sensitive to our service. That's why we're encouraged by the progress we made. And in no way are we saying that our service is where it needs to be now. It was a great step in the right direction. We've got more work to do.

Operator:

Ladies and gentlemen, thank you for your participation. This does conclude today's teleconference. You may now disconnect your lines at this time. Thank you.

Operator:

Greetings, and welcome to the Union Pacific First Quarter 2023 Conference Call. [Operator Instructions] As a reminder, this conference is being recorded, and the slides for today's presentation are available on Union Pacific's website. It is now my pleasure to introduce your host, Mr. Lance Fritz, Chairman, President and CEO for Union Pacific. Thank you, Mr. Fritz. You may begin.

Kenny Rocker :

Thank you, Lance, and good morning. Freight revenue for the first quarter increased 4% driven by higher fuel surcharges and solid pricing gains, partially offset by a 1% decline in volume. Bulk volumes were muted in the quarter as weather and service-related challenges impacted shipments. Additionally, weaker market conditions for premium also drove lower volume for the first quarter. However, our strong focus on business development and new business wins partially offset by some of that decline. Let's take a closer look at each of these business groups. Starting with bulk. Revenue for the quarter was up 4% compared to last year, driven by a 7% increase in average revenue per car reflecting higher fuel surcharges and solid core pricing gains. Volume was down 3% year-over-year. Grain and grain products volume was down 1%, driven by weaker export grain shipments as world demand for U.S. grain has softened, coupled with drought impacts affecting supply in UP's served region. Fertilizer carloads were flat in the quarter. Strong export potash was offset by a decline in phosphate volume from weather conditions delaying shipments. Food and refrigerated volume was down 6% due to reduced beer imports and weather conditions negatively impacting both fresh and can shipments. And lastly, coal and renewable volumes was down 4% compared to last year driven by weather interruptions and associated service challenges that impacted our locomotive and crew resources. Moving on to industrial. Industrial revenue was up 5% for the quarter driven by a 5% improvement in average revenue per car due to higher fuel surcharges and core pricing gains. Volume for the quarter was flat. Industrial chemicals and plastics volume was down 2% year-over-year driven by lower industrial chemical shipments due to challenged industrial production and reduced housing demand. Metals and minerals volumes continued to deliver year-over-year growth. Volume was up 3% compared to last year primarily driven by growth in construction materials and increased frac sand shipments, along with new business development wins. Forest products volume declined 19% year-over-year driven by soft housing starts and lower corrugated box demand for nondurable goods shipments. However, energy and specialized shipments were up 6% versus last year driven by strength in demand for LPG and petroleum products. These gains were partially offset by fewer soda ash shipments due to weather and service-related challenges. Turning to Premium. Revenue for the quarter was up 3% on a 1% decrease in volume compared to last year. Average revenue per car increased by 5%, reflecting higher fuel surcharge revenue and core pricing gains. Automotive volumes were positively driven by strengthening OEM production and dealer inventory replenishment for finished vehicles. Domestic intermodal business wins were offset by a weak freight and parcel market, driven by high inventory, increased truck capacity and inflationary pressures. On the international side, despite weakened imports, more container shipped inland versus the first quarter of last year, resulted in year-over-year growth. So now moving on to Slide 7. Here is our outlook for the rest of 2023 as we see it today. Starting with our bulk commodities, we expect grain to be challenged near term as export demand softens and supply tightens throughout this crop year. However, as we look ahead towards the next crop season in late fall, we're encouraged by the initial forecast. For coal, low natural gas prices and a milder winter allow utilities to build more inventory. We are experiencing normal softness through the shoulder months. Looking further out in the year, demand will largely be dependent on natural gas prices and summer weather. Lastly, we expect biofuel shipments of renewable diesel and their associated feedstocks to grow due to solid market demand, new production coming online and business development wins. Moving on to industrial. The forecast for industrial production is to shrink in 2023, and the demand is getting weaker in forest products. However, we expect to see continued strength in construction and metal with new business wins. And finally, for Premium, we expect near-term challenges in the intermodal market from high inventory levels, inflationary pressures and weak consumer spending as people shift back to spend more towards services than goods. We will be closely watching for a potential market uptick in the latter part of the year. In addition, we expect automotive growth to continue, driven by strong OEM production and dealer inventory replenishment. So to wrap up, we are facing economic uncertainty and a tough price environment in a few of our markets, but we expect to see strength in some other commodity areas. Our diverse portfolio allows us to maintain our pricing guidance. To capture more demand, we are working closely with Eric and his team to be agile and have resources available in locations where we need them. I am confident that the team's relentless focus on business development will drive volumes to exceed industrial production this year. With that, I'll turn it over to Eric to review our operational performance.

Jennifer Hamann :

Thanks, Eric, and good morning. We'll start on Slide 15 with a look at our first quarter income statement. Operating revenue totaled $6.1 billion, up 3% versus 2022 despite a 1% year-over-year volume decline. Other revenue decreased 5%, driven by $30 million of increased subsidiary revenue, which was more than offset by a $50 million reduction in accessorials. Lower intermodal volume and greater supply chain fluidity drove the accessorial decline. Operating expense increased 8% to $3.8 billion, resulting in first quarter operating income of $2.3 billion, down 3% versus last year. Below the line, other income increased $137 million year-over-year, largely driven by a $107 million onetime real estate transaction that contributed $0.14 to earnings per share. Interest expense increased 9%, reflecting higher debt levels. Net income of $1.6 billion was flat versus 2022. But when combined with share repurchases, resulted in a 4% increase in earnings per share to $2.67. Our first quarter operating ratio increased 2.7 points to 62.1%, following fuel prices during the quarter and the lag on our fuel surcharge programs positively impacted our operating ratio by 190 basis points. Core results offset the fuel benefit and were a 460 basis point drag to operating ratio. Included in that is the impact of weather, which is difficult to quantify. But between both lost revenue and additional expense, we estimate to be in excess of $50 million. Now looking more closely at first quarter revenue. Slide 16 provides a breakdown of our freight revenue, which totaled $5.7 billion, up 4% versus last year. Lower year-over-year volume reduced revenue 150 basis points. Total fuel surcharge revenue of $883 million added 475 basis points to freight revenue, reflecting the lag in our programs. The combination of price and mix increased freight revenue 75 basis points as ongoing pricing actions were mostly offset by our business mix. Fewer lumber shipments and more short-haul rock shipments were the primary drivers of the negative mix. Turning now to Slide 17 and a summary of our first quarter operating expenses, which totaled $3.8 billion. Compensation and benefits expense increased 7% versus 2022. First quarter workforce levels increased 4% with transportation employees up 5%, the result of our dedicated hiring efforts over the last 12 to 15 months. Cost per employee only increased 3% in the quarter as wage inflation was partially offset by a larger training pipeline. During the first quarter, we signed agreements with the majority of our labor unions to provide paid sick leave to our employees. These agreements became effective April 1 and represent just under half of our craft professionals. Assuming we are able to reach agreements across the board, we would expect cost per employee to be up mid-single digits for the year, consistent with what we discussed in January. Fuel expense grew 7% on a 9% increase in fuel prices as we moved less freight. Our fuel consumption rate deteriorated 1% as the impact of our fuel conservation efforts was more than offset by reduced network fluidity. Purchased services and materials expense increased 16% driven by maintenance of a 3% larger active locomotive fleet and inflation. Equipment and other rents was up 9% as a result of increased car hire expense related to elevated cycle times, and the other expense line grew 6% related primarily to higher environmental remediation costs. Turning to Slide 18 and our cash flows. Cash from operations in the first quarter decreased to $1.8 billion from $2.2 billion in 2022. The primary driver was Presidential Emergency Board back pay settlements paid in January which totaled $383 million. That payment also impacted our quarterly cash flow conversion rate and free cash flow, with both roughly in line with last year's performance when you exclude that payment. In the quarter, we returned $1.4 billion to shareholders through dividends and share repurchases. And we finished the first quarter with an adjusted debt-to-EBITDA ratio of 2.9x as we continue to be A-rated by our three credit agencies. Wrapping up on Slide 19, we are maintaining our 2023 full year guidance to achieve volumes above industrial production, price gains in excess of inflation and operating ratio improvement. Our plans for capital allocation also are unchanged. As with every year, there are puts and takes to how the year plays out. While 2023 started a bit slower than expected, I need to remind everyone, it is only April 20. We have 8.5 months in front of us and many opportunities with volume, service and productivity. Before I turn it back to Lance, I'd like to express my thanks to the UP team. We are skilled in running the outdoor factory that is our railroad. But Mother Nature seemed very focused on testing those skills this year given the extremes we faced, and yet the team forged ahead, keeping the network fluid and our customers served. Fantastic work by everyone. With that, I'll turn it back to Lance.

Operator:

[Operator Instructions] And our first question today comes from the line of Scott Group with Wolfe Research.

Lance Fritz :

Yes. Thank you, Scott. So I'll just circle back to the press release that the Board sent when they announced earlier in the year that we were in the process of identifying a new CEO. They were clear on what they were looking for then, right, a track record and experience in safety, customer service, business development, clear vision on culture and a good operating experience. So they are crystal clear on what they're searching for. And the only update I have for you is we're using an excellent party, external consultant, and they're being very thorough in their search, which is underway.

Lance Fritz :

And Jennifer, one last thing. What gives us a ton of confidence as we look into the year is how the network is operating right now. It's in a place where we can get the volume and we can squeeze out the excess cost.

Operator:

Our next question comes from the line of Tom Wadewitz with UBS.

Lance Fritz :

Yes. So Tom, we entered the year saying total headcount hires addition to the TE&Y would look kind of like what it did in 2022 predicated on our plan for volume. Volume is looking a little cloudy right now to us, certainly in the first quarter in the back half. And so of course, that hiring plan is being looked at and adjusted. Net-net, in the second quarter, you're going to see us add to the active TE&Y headcount coming out of the training pipeline. The question really is what the training pipeline look like for the rest of the year? Having over 1,000 in the pipeline is a very strong pipeline for us. In terms of attrition, we tend to have about a 10% turnover in our TE&Y workforce. That really hasn't changed over the course of the last five years. We don't necessarily see it changing right now. So one of the adjustment factors is if we find ourselves getting out over our skis a little too far, attrition can help us suggest quickly.

Jennifer Hamann :

I think it really does depend on the volumes to a degree, Scott. And so certainly, as Lance said, the second quarter, I think you certainly see our total head count is going up. It's going to be probably different than last year. First half, we've got the training pipeline loaded in the first half. And I think the question is going to be what does the second half look like.

Ken Hoexter :

So just -- it looked like the operating service levels were flat -- you mentioned that a couple of times, I guess, Eric did, but velocity was -- really came down the past few weeks, I guess, during the quarter, and then more recently showed a pretty solid rebound, I guess, maybe the last week or two. Is there anything changing with the operating plan? Was this -- I don't know if Eric or Lance, you want to throw in some thoughts? Or was this just kind of the end of some of the weather stretches that you were talking about? Maybe just talk about how operations are doing now and what's changing.

Operator:

Next question is from the line of Chris Wetherbee with Citigroup.

Lance Fritz :

Chris, this is Lance. I'll start and then turn it over to Kenny on your second question. So let's unpack the headcount question a little bit. We are in much better shape this time, this year versus same time last year. The hiring pipeline is full, but more importantly, we've been filling our classes everywhere we've been looking for people across the railroad for about the last 3 or 4 months. That is very different than our experience last year where we found it very difficult in about crew hubs all in the Northern region to be able to find, candidly, the workforce to be able to hire. So we've been much more aggressive in the back half of last year, ramping up things like hiring bonuses, finding creative, unique ways to create a workforce, a pool to hire from. And that's paying dividends right now. So you're exactly right in terms of as we look into the year, right now, we're starting to evaluate our original plan for hiring versus what volumes are doing and what the back half of the year balance is going to look like. Our longer-term guidance remains in place, and that is we fully expect to be volume variable and have ultimately our head count grow at less than our volume numbers are growing. But clearly, coming out of last year, we had to fix the ship and get our crew boards healthy, add a little excess -- not excess, add a little factor of safety to the crew board so that we could take events and recover quickly so that our service product was consistent. And we're in that place right now. We're essentially there. We're solving some of the problem with borrow-outs. So hiring is going to have to replace them because they're expensive, and it's a burden on our employees to be borrowed. Out, but we are in much better shape looking into the rest of the year. Kenny?

Operator:

The next question is from the line of Ben Nolan from Stifel.

Kenny Rocker :

We are seeing a little bit of that. We've seen production related to the auto OEMs. There was one pretty large highly public analysis that came out. And with that, you got to remember there's a lot of other inputs that move by rail, whether it's soda ash or the glass, the metals that comes in for the car. That's great for us. Also, in our bulk commodities, on the ag side, we're expecting some new production and receivers out there. So yes, it is looking encouraging, and this is the first time that we're seeing tangible things that we can point toward. So that's a positive for us. I won't go on and on. We enjoy a fabulous network there. I'll leave it at that.

Kenny Rocker :

This is a big picture longer term. I mean, you've got to get time for these locations to actually build up the physical infrastructure there.

Operator:

The next is from the line of Justin Long with Stephens.

Jennifer Hamann :

I'll take the first part of that question. Again, our guidance relative to volumes is exceeding industrial production. We came into the year, industrial production was forecast to be down about 0.5%. It's actually gotten a tad bit worse. It's now down about 0.7%. So that's not a huge [bump] to exceed. And yes, we started a little weaker, down 1.5 points here in the first quarter. But you just heard Kenny talk about kind of the different markets that are available to us and the fact that, as our service product is improving, we're putting more assets into play to move more carloads, and that's giving us greater flexibility to move those assets around to hit the markets that are available to us. And so we feel quite confident that we will be able to reach that goal as it relates to volumes and the rest of our full year guidance, obviously, which we reiterated.

Operator:

Our next question is from the line of Jordan Alliger with Goldman Sachs.

Eric Gehringer :

It's a great question, Jordan. So as you think about that and the progress we're seeing right now, it's impacting nearly every one of our cost lines in a positive way. The big ones that we talk about is certainly starting with fleet size. In our prepared comments, I mentioned the fact that we're taking 100 locomotives and then putting them in storage, but they're in a storage state in which they can still be there quickly to gain volume. Next after that, it's all about crew utilization, right, which stretches everything from recrew rates to deadhead -- to how do we think about over time and making sure that we're being judicious with the use of over time. From there, we certainly do, even though you mentioned that we do focus on our fuel consumption. And I'm really encouraged actually by the first quarter because if you look at January, we came out very strong. February was kind of okay, and March was certainly weak, which means with weather behind us, there's no reason that we shouldn't snap right back to that great progress that we saw in January. So it's those others, but I've listed the biggest ones.

Jason Seidl :

Two quick things. Kenny, I think you said there were some pricing pressures in a few of your industries. I mean I understand intermodal. Would love to hear what else is being pressured out there. And also in terms of the West Coast port labor situation, how much freight do you think got diverted? And if we get a resolution here, hopefully in the near term, do you think it would come back quickly or it would take some time?

Lance Fritz:

And Kenny, Jason's last question about West Coast ports and ILWU.

Jason Seidl :

That's good. And you think that there was an agreement, again, knock on wood, because everyone wants that, that you would receive it back quickly or would come back over time?

Operator:

Our next question is from the line of Brian Ossenbeck with JPMorgan.

Kenny Rocker :

Yes. Certainly, the way we calculate price volume increasing and improving helps us. So I'll say that also because it is April and not December. We have time to get more of that volume in the play as we move throughout the year. I would not say that there are some markets that are harder to capture price in other than those areas where we have mechanisms in place align with domestic intermodal. We've been very disciplined in our approach to take price. And in some cases, we've all taken some risk there to make sure that we're pricing towards the market.

Kenny Rocker :

Absolutely. We'll be watching natural gas pretty closely.

Brian Ossenbeck :

Just a quick follow-up for Lance on the regulatory and legislative side. A lot of noise coming out of D.C. Some of the safety things you mentioned earlier and some of the stats on UP specifically. But what are you most focused on when it comes to the different topics that are being discussed down there. We tend to focus on train lengths. It's obviously an FRA Safety Advisory recently. But I just wanted to hear what was important and what you thought we should focus on when it comes to the various topics being discussed after the safety issues that we've seen in the industry over the last few months?

Operator:

The next question is from the line of Allison Poliniak with Wells Fargo.

Kenny Rocker :

Yes. It's pretty broad because, obviously, it's in all three of our business teams, meaning if you look at it, biofuels, renewable diesel for us is an emerging market. Been very encouraged by our ability to land new customers, new production sites to move out of the Midwest going into the West, and those are attractive margins to us. On the industrial side, the same thing is true as we look at our metals business and some of the minerals business tied to that. Same as with rock. Those are areas that are positive, and they have structural increases related to population growth down in Texas, Louisiana and the Gulf. And so those are great. And then you are aware -- you are aware, Allison, of some of the new recent wins in our intermodal sector. And again, we feel really blast that we've got a fleet of highly capable customers that can go out and grow business over the road, and it complements very nicely our UMP our UMAX and E&P products that we have in the marketplace.

Kenny Rocker :

We see the pipeline is still there. The thing that we're keeping an eye on is are they actually moving the forecasted amount that they initially told us. So no concerns with the pipeline, just a little bit of concern with making sure the volume that they committed to is still there.