Canadian Pacific Kansas City Limited

Good afternoon. My name is Leo, and I will be your conference operator today. At this time, I would like to welcome everyone to CPKC's second quarter 2023 conference call.

The slides accompanying today's call are available at investor.cpkcr.com. All lines have been placed on mute to prevent any background noise.

After the speaker's remarks, there will be a question and answer session. If you would like to ask a question, simply press the star, then the number one on your telephone keypad.

If you would like to withdraw your question, press star two.

Please limit yourself to one question.

I would now like to introduce Chris DeBruin, Assistant Vice President, Investor Relations and Treasurer, to begin the conference.

Thank you, Leo. Good afternoon, everyone, and thank you for joining us today. Before we begin, I want to remind you this presentation contains forward-looking information. Actual results may differ materially. The risks, uncertainties, and other factors that could influence actual results are described on slide two in the press release and in the MD&A files of Canadian and U.S. regulators. This presentation also contains non-GAAP measures outlined on slide three. Please note, in addition to our regular quarterly financials, there is supplemental Q2B combined revenue and operating performance data available at investor.cpkcr.com, which some of today's discussion will focus on. With me here today is Keith Creel, our President and Chief Executive Officer, Nadeem Balani, our Executive Vice President and Chief Financial Officer, John Brooks, our Executive Vice President and Chief Marketing Officer, and Mark Redd, our Executive Vice President and Chief Operating Officer. All of our remarks will be followed by Q&A. In the interest of time, we would appreciate if you limit your questions to one. It is now my pleasure to introduce our president and CEO, Mr. Keith Creel.

Thanks, Chris, and good afternoon. Let me start by thanking our CPTC family of railroaders across all of North America who have been hard working bringing these two companies together, serving our customers and while serving each other. As you can imagine, the quantum of work has been monumental, the effort. against that quantum movement has been inspiring. So let's take a look at the results in the quarter. In the second quarter, it produced revenues of $3.2 billion, an operating ratio of 64.6, and core EPS of 83 cents. We saw volumes down 5% on the quarter, headcount up 6% versus last year, so no doubt a challenging quarter as we dealt with the softer demand environment, but John's going to speak more about that in a few moments. Despite the challenges in the quarter, As we stated in our press release, we continue to expect to deliver on the guidance that we laid out at our investor day. Let me spend a few moments talking about some of the early wins. So looking where we stand today, we're just over 105 days old, forever into this combination. But I'm extremely proud of the work this team has done to get us to this point and what we've accomplished so far. First and foremost, a seamless transition operationally in combining the two networks, which is no small feat. I think in historical terms, it's refreshing to see the results versus most merger histories. Understandably, based on those histories, there's been no shortage of skeptics that pointed to an industry with a history of merger-related services challenges. As I said we would, we've taken a a realistic and measured prudent approach, a more humble approach to bring these two networks together in its paid dividends. As we bring the networks together, we'll continue to identify areas of opportunity to make the service better and to improve operationally. In the second quarter, we're proud to announce several key customer wins, Schneider, Night Swift, and Miracold. These are deals that, as we've said before in some instances, were 18 to 24 months in the making. They utilize the advantages of this unique network, including our land holdings, as well as the only single-line service spanning U.S., Canada, and Mexico. And, again, on March the 11th, we launched our flagship 180-181 Mexico Midwest Express service, which, again, is the only single-line fastest transit time consistently across our three nations, or I guess from Chicago into SLP. We've executed well. beyond our advertised transit times of less than 100 hours each way. We've also now been resting on our laurels from a strategic point of view. We continue to expand the service offering in our reach with the NVR transaction that we announced connecting CSX in Alabama and creating a new gateway between Mexico, Texas, and the Southeast United States. And on the sustainability front, again, we announced a very strategic partnership with CSX to expand on our hydrogen locomotive program. And finally, we also announced part of our extended partnership with Tech and the contract that we just renewed, plans to utilize the hydrogen locomotive in our western corridor. So listen, a lot of tremendous work leading to this combination. I applaud the great railroaders that's made this possible prior to and since day one to come out to this result. And listen, this is not to say that everything's been perfect. There's certainly been challenges. This softer macro environment, the strike at the port, That said, on the strike, I'm encouraged that the Longshoremen are back to work. We've got a contract that's out for ratification. We should get a result from that, if not today, tomorrow. And I'm anticipating a best outcome for everyone involved with the ratification of that agreement. Heading into the combination of these companies, the last thing also that we were going to allow is to be short on resources. You certainly can't grow without the resources in place to accommodate it. You'll see that reflected in our cost this quarter, but at the end of the day, that is the absolute right thing to do. This is a long game. It's not about the first quarter of a combined company. It's about ensuring that we're prepared to grow with the growth that we see coming and position this company for long-term success. So in closing, we're in the early stages of this combination. Despite some short-term headwinds, the unique growth outlook that we laid out last month is unchanged today. CPKC is poised to be the most relevant rail network in North America. We're uniting a continent. We're enabling commerce amongst the United States, Mexico, and Canada. With that said, I'm going to turn it over to Mr. Marquardt to speak to the operations before John brings some color to the markets, and they do elaborate some of the numbers.

All right. Thank you, Keith, and good afternoon. I'd like to start by thanking the CPKC operating professionals who continue to work tirelessly to deliver best-in-class performance while delivering on our service commitments to our customers. As John would discuss the long-term opportunities in the pipeline, my team's been working closely with the marketing and asset management teams to evaluate and onboard new business that fits within our network. Turning to our safety performance on the quarter, I'm pleased to report that here in the first quarter as a combined company, CPKC, we continue to build upon its industry-leading lowest train accident frequency, which declined at 48%, to a 0.79 comparable to Q2 at a 1.51. From a personal injury perspective, our Q2FRA reportable personal injury rate increased to 25% to a 1.25. It's just a continuing reminder that safety is an ongoing journey. We still have a lot of work to do in that space. Safety and leadership development is critical to CPKC's success. It would continue to be a key area of focus. In the first 90 days, we have rolled out our Home Safe program across our CP or CPKC US property, and we are now in the process of introducing it in Mexico. Home Safe is an initiative designed to build on the safety culture by tapping into the human side of safety, but also promoting both safety engagement and feedback. We launched Home Safe back in 2016 back on CP properties to help drive record improvements in the reduction of personal injuries across our system. This program, along with our safety walkabouts, where we directly engage with our employees across the property, is essential to building strong, consistent safety culture across the entire network. Safety has been and remains our top priority. I'm also pleased with the nearly 100 KCSR operating leaders who have already gone through our two-day leadership program. We fully expect to have U.S.-based leaders through this program by year end. Turning to the metrics, I'll speak to our metrics on a comparison versus CPKC. If we combine during the 2020-2022 year, average train speed is 1% versus last year. Average train weight is down 2%. Our average train length is flat versus last year. Our productivity for locomotives improved 4% versus the Q2 2022. Bringing two companies together in the size of CPKC is no feat. We have spent a lot of time planning, preparing in advance. I'm pleased to say that our network is running smoothly. As part of that, as Keith spoke to, heading into the merger, we're ensuring we are prepared for a resource perspective of hiring and training. This puts us in a strong position to generate operating leverage as the volume environment improves. We're also continuing to identify and implement opportunities to improve operating practices. We talk about Investor Day. I spoke about 130 locomotives that were reduced from the network, 1,000 cars that were reduced from the network by aligning operating models and improving efficiencies. These efforts will continue to happen. We'll stay focused on the recovery of the strike of Vancouver, which will take some time to achieve. And in closing, I'm confident the changes we've made in the first three months are continued to make, but generate benefits in the back half of the year. With that, I'll turn it over to John. All right. Thank you, Mark, and good afternoon, everyone. So as Keith said, we're just over 100 days in as he said. I'll tell you, I'm extremely proud of the work my team has done to begin to capture and deliver the growth that this new French franchise will undoubtedly unlock. And while we are certainly not immune to the broader economic headwinds and supply chain challenges, our unique business and self-help initiatives continue to serve us well compared to the industry and put us in a strong position as the volume environment recovers. Now, looking at our second quarter results, On a reported basis versus CP standalone in 2022, total revenues were up 44% on the quarter, while volumes were up 24%. On a combined basis, CPKC saw total revenue grow 2%, while volumes declined 5% versus pro forma CPKC a year ago. FX was a 4% tailwind, and fuel was a 3% headwind on the quarter. The pricing environment continues to be in line with expectations with inflation plus renewals across our book of business. Now we'll take a closer look at our second quarter revenue performance. I'll speak to the FX adjusted results on a comparison versus CPKC had the combination occurred in 2022. Grain volumes were down 5% on the quarter, or revenues were down 2%. Canadian grain volumes were strong on a year-over-year basis, driven by an improved harvest for the 2022-23 crop year. However, that volume was offset by softer demand for U.S. grain, driven by the challenging year-over-year comps we faced by moving a lot of corn out of the U.S. into western Canada due to the drought. As we move into this year's harvest, I expect our grain franchise to return to growth. On the potash front, volumes and revenue were down 18% on the quarter. The decline in volumes in the quarter were driven by a major mechanical failure at Campa Texas Portland bulk terminal that happened in April. We are not planning for the Portland terminal to come back online before the end of the year. In the meantime, we're working hard with Campotex to divert volumes to Neptune, Thunder Bay, and a variety of other terminals across North America. Looking ahead, despite the Portland outage and, of course, the most recent impacts of the strike in Vancouver, I'm excited as ever about the long-term opportunity for export potash as Campotex has effectively and continues to expand their market share across the globe. And to close out our bulk business, coal volumes were up 1% on the quarter, while revenues were down 3%. With favorable compares in the back half of the year following last year's outage of Tech's Elk View mine, I expect to see strong growth in coal in the back half of 2023. Now, moving on to merchandise, the Energy Chemicals Plastics portfolio saw an 8% decline in revenue and volume. we saw our crude and plastic businesses impacted by poor spreads in the market and maintenance outages, respectively, while also our LPGs were lower to a warm spring across our network. On the contrary, our refined fuels have remained steady across our entire network, driven by business growth leveraging our broader network service offering. And we are pleased to announce today a new material expansion of our deep partnership with Shell to the execution of a new multi-year contract that will unlock significant volume growth of new share across all lanes of the CPKC network. Looking ahead as Shell ramps up in August, we expect to see upside in ECP as we begin to move through the back half of the year. Forest products revenues declined 4% on a 5% decline in volumes. Although we are seeing the impacts of a softer economy on residential construction and related building products, we are very encouraged about the development of long-haul lumber shipments from Canada down onto the legacy KCS markets. This is a prime example of where our new network is connecting markets and creating opportunities that didn't previously exist for our customers. The metals, minerals, and consumer products portfolio grew 7% on a 5% increase in volumes. The growth in this area was driven by higher volumes of frac sand and steel which drove a record quarter for this area. We are particularly encouraged by growth in Mexico as we recently added new steel products unit trains from Lazaro Cardenas into the interior of Mexico. We are also working closely with both Turnium and FDI on their new industrial development opportunities that will further accelerate growth in this business over the coming months. Automotive revenues were up 24%, while volumes were up 11%. Again, an all-time record for this area. Demand for finished vehicles remains strong as the industry continues to play catch-up on North American inventory shortages that were a result of part shortages and, of course, supply chain challenges. EPKC is working with our key automotive partners to develop unique transportation solutions that leverages unmatched benefits of this expanded franchise and also our development of new auto compounds. On the intermodal side, quarterly revenue was down 10% on a 4% volume decline. Domestic intermodal was challenged by soft market demand, high inventories across North America, and certainly a more competitive over-the-road rates. However, we are extremely encouraged by the early success, as Keith spoke to, of our new 180-181 cross-border train. We have seen a steady increase in volumes as our partners begin to take advantage of our fast truck-like service on this unique north-south service offering. International Intermodal helped insulate our intermodal business with a record two Q2 volumes. Our self-help wins with CMA and continued growth at the Port of St. John helped to offset softer macro demand in the international space. And finally, we are very pleased, as Mark and Keith spoke to, to see the strike at the Port of Vancouver finally get resolved. We are working closely with operations and our customers to rebalance the network and move the backlog of traffic that could not move during this outage. At this point, we are estimating the strike at a negative impact of about $80 million in revenue, much of which we will work hard to claw back over the remainder of Q3 and into Q4. So let me close by saying we are just over 100 days into this journey of CPKC. I can tell you my team is out on the street. We're excited. We're energized. We're incentivized to get out and capture this unmatched growth opportunity. As we laid out a few weeks ago at Investor Day, we have a very strong pipeline of opportunity in front of us, and we are laser-focused in locking in the right business for this network and delivering on our commitments to all stakeholders. So with that, I'll pass it now over to Nadim. Great. Thanks, John, and good afternoon. I also would like to thank the entire CPKC team for their work and dedication to bringing these two companies together. Although it was a challenging quarter financially, I'm very proud of the progress that we have made and extremely excited about the path ahead for the combined CPKC family. Looking at the quarter, CPKC's reported operating ratio was 70.3%, and the core adjusted combined operating ratio came in at 64.6%. Earnings per share was $1.42, and core adjusted combined earnings per share was 83 cents. Taking a closer look at a few items on the expense side, I'll speak both to the reported operating expense on slide 14 and the combined operating expense on slide 15. Our combined operating expense illustrates the estimated effects of the acquisition for the second quarter as if the acquisition closed on January 1, 2022. Reported comp and benefits expense was $659 million, or $690 million on a combined basis, up 26% on an FX-adjusted basis. This quarter's comp and benefits expense includes acquisition-related costs of $63 million, which have been excluded on a core-adjusted basis. The year-over-year results on an adjusted and combined basis include increased share base and incentive compensation driven primarily by higher stock price. Wage inflation and higher T&E headcount also drove the year-over-year increase. As I mentioned at Investor Day, we have resourced appropriately for expected volume growth starting in the back half of 2023. Given some of the shorter-term volume headwinds, we are carrying surplus headcount and incurring additional expense in the quarter. However, as the growth comes on in the second half and into 2024, we will be prepared to handle it with strong incremental margins. Comp and benefit increases were partially offset by lower current service costs in the DB pension plan, resulting from higher discount rates. On the fuel side, fuel expense on a reported basis increased $27 million year over year. As the transaction occurred in 2022, fuel expense would have declined $144 million on an FX-adjusted basis. The decline was driven by lower fuel prices on the quarter, as well as lower year-over-year volume on a combined basis. Materials expense was up $35 million versus Q2 2022 CP results. On a combined basis, materials expense increased $13 million on an FX-adjusted basis, driven mostly by increased safety and maintenance activity across the network. Equipment rents were up $51 million versus Q2 2022 CP results, or $22 million on an FX-adjusted basis at the businesses being combined in 2022. Equipment rents increased due to increased use of pooled equipment fleets and efficiencies driven by supply chain challenges, along with lower locomotive receipts. Appreciation expense was up $199 million on a reported basis or up an FX adjusted $21 million as the businesses being combined in 2022 resulting from a higher asset base. Purchase services and other was $586 million on a reported basis. Combined PS&O came in at $615 million, up 23% on an FX adjusted basis. Quarter's purchase services expense includes acquisition-related costs totaling $53 million. The year-over-year increase was driven primarily by increased casualty expense of $45 million, which accounted for more than half of the variance, excluding FX. Assuming a more normalized quarter from a casualty perspective and excluding acquisition-related costs, I expect PS&O to land in the $530 million level per quarter in the back half of the year. Moving below the line, the equity pickup from KCS for the first 13 days of the second quarter was $26 million. Other components of net periodic benefit recovery decreased $18 million, reflecting higher discount rates compared to 2022, and other expense increased $14 million. Net interest expense was $204 million. We will note also a $7.2 billion loss on remeasurement of KCS, resulting from the transition from equity accounting to consolidation upon control this quarter. The loss relates to tax attributes of the equity investments, which are realized separately as a $7.8 billion deferred tax recovery. These two items net together for a favorable impact to reported earnings of $657 million. Our reported income tax recovery is $7.7 billion, which includes the outside basis tax recovery that I mentioned a moment ago. Continue to expect the CPKC core adjusted effective tax rate to be approximately 25.5% for the rest of 2023. Rounding out the income statement, our core adjusted combined EPS was $0.83. We continue to generate strong cash flow with cash provided by operating activities of $892 million in Q2. Our first call on capital remains the business, and in the quarter, we reinvested just over $600 billion. We continue to expect to invest approximately $2.7 billion in capital in 2023. We generated $431 million in adjusted combined free cash flow on the quarter. In the quarter, we repaid $439 million in term debt, and our adjusted combined leverage is down to 3.6 times on our path back to our target leverage of 2.5 times adjusted combined net debt to adjusted combined EBITDA. Following the close of the transaction, we increased our credit facility from $1.3 billion to $2.2 billion, while also increasing our commercial paper program to $1.5 billion. So as I sit here today, we are in a strong position from a resource perspective and have pre-spent and invested to some degree when it comes to hiring and training. John's team continues to bring on synergies, and as the changes Mark and the operating team are making take hold, I think we're set up well for the back half of the year to deliver on our guidance and carry us into 2024. While we have some ground to make up from a prolonged strike at the Port of Vancouver, the future is certainly bright, and I look forward to sharing our success with you going forward. With that, Keith, I'll turn it back over to you.

Okay, thanks, John, Mark, and Nadine. Why don't we spend the rest of our time taking questions. Operator, if you could open up the line.

Thank you. If you would like to ask a question, simply press star, then the number 1 on your telephone keypad. If you would like to withdraw your question, press star 2.

As previously highlighted, please limit yourself to one question. Your first question comes from Ken Hexter of Bank of America. Great. Good afternoon and thanks for taking the question. Nadim, you know, you ran through a lot of numbers there and obviously a lot on the combined accounting here. Maybe just talk about the cost side, right? It looks like costs got maybe a little bloated here. And I want to understand, you kind of gave the purchase services and kind of run right there. Maybe just your thoughts on how we should think about that in the back half, you know, in terms of what costs are coming out, especially as you look at, you know, things like casualty expense. You know, it was a little elevated. Are there things going on in the blended network now? You look and you can see ways to continue to take expenses out.

uh and what we can see near term in that blended thanks sure thanks ken so casualty we faced uh one-time items i would characterize tune of about 45 million one was a litigation settlement and one was a uh very expensive uh uh derailment that um added to it so part of the reason why i say more normalized number of about 530 million is You know, these aren't things that are going to occur on a quarter basis. So, you know, we feel very confident that purchase services and other will come down to a more normalized $530 million. Certainly, we're in the early stages of cost takeout from a Synergy point of view. You know, we're in this for the long game. So, as we mentioned, we've hired, you know, certainly the macro environment, the volume backdrop, wasn't as strong as we expected and, you know, kind of hit us by surprise. That being said, we weren't going to take a short-term view and take head count down just to kind of mitigate it. You know, knowing what we have in the back half of the year, certainly on the bulk side and some of the market share gains that John mentioned. And then as we into the enter 2024, what we have in front of us, and then the natural macro recovery as we expect. So we see a strong path to volume recovery in the back half and Q4, the high single digits. So we're long people right now, short term, but it's the right choice to make to maintain that level of people. You know, it takes a long time to hire and train, to also attract and retain employees. And so it elevated our costs. There's no doubt, you know, with the volumes that we had, labor being up 5%, that delta is at its peak. It'll normalize as we get through the back half of the year. You know, I expect... labor to almost be flat to slightly down year over year, and volumes to inflect positive high single digits. So you'll see a much better expense and productivity performance in the back half of the year.

If I could add a little bit of color to that, Ken, you used the word bloated. I wouldn't say bloated. I'd say that we had the one-timers that Dave spoke to, but above that, carrying the headcount, that was an intentional decision. It's a timing issue. Obviously, if we'd have known... This softness would have been here. Perhaps we would have hired a little bit later and trained a little bit later. But nevertheless, we have very unique growth opportunities that are counter to the macro environment that give us great confidence that it doesn't make a lot of sense to lay a lot of employees off the risk losing them and not having them four weeks from now, five weeks now when you've got potash moving. very strong demand. You've got the harvest that's came in, and we've got some of these health initiatives that we've got that we talked about coming online. You know, I don't, John hasn't gotten into a lot of detail, but there's some pretty exciting business share shift wins that we're going to start benefiting from in August that's going to help cover some of those intentional costs that we carried. The other point I would say on the operational front, Mark and team have We said this in the beginning. We're going to make sure we get the U.S. network and the Canadian network stabilized. We've done that. Now we're turning our attention to Mexico. If you look at Mexico and the numbers, you see the same numbers I see. There's a lot of opportunity for some improvements in Mexico in the way we serve our customer, the way we control our costs, the way we manage the business. So in preparation for that, effectively, actually next week, we've got John Orr and a team of about 50, 55 officers that are going to go to two locations in Mexico and plant themselves there from a holistic business approach standpoint, from the commercial side to from the customer or transactional side, the operational side. So we're going to spend a lot of time with our brothers and sisters and family members in Mexico, getting that operation to a point that at the end, I fully intend and expect to see our velocity improve, our train speed improve, some of those costs that are tied to excessive car dwell indoor. Not getting it to where it needs to be is going to be able to complement the productivity we're already starting to see on the locomotive side. that Mark and the team are producing. So more to come on that, but certainly, again, bloated is not the right word. I would say intentional and expect more improvement over this next quarter as we start to realize the benefit of those initiatives.

Your next question comes from Tom Wadowitz of UBS.

Yeah, thanks. Good afternoon. If we're maybe discussing John, I could ask you a question just in terms of kind of demand framework. We're generally hearing from, you know, I think transports and the other railroads about caution on, you know, market conditions, maybe intermodal improvement being pushed into next year, you know, maybe forced products with some areas of weakness and chemicals. How do we kind of think about the I guess, impact that underlying weakness or your optimism on that relative to some of the things you're talking about that obviously are, you know, maybe idiosyncratic good news or maybe on the bulk side. So just kind of trying to figure out how to think about the combination of those two and volume look and, you know, like 3Q and beyond that.

Yeah, no, thanks, Tom. Yeah, there's no doubt. I think we're in the same boat as what you've heard from the other rails in terms of the intermodal business. I'll tell you, we saw sort of our valley or trough point the last half of April, beginning of May. But on a week-over-week basis, we've started to actually see a little bit of improvement. Frankly, if you look at Legacy CP, Legacy KCS, the combined companies, You know, over these last eight to ten weeks. Again, not a very hockey stick looking improvement, but at least the numbers are starting to improve a little bit. I do believe a certain amount of that is self-help, Tom. I've got the team, I'll tell you right now. We are on a three-week blitz. Over 3,000 cold calls. We got boots on the ground. We're blitzing all our major territories. We're not sitting idle. I do see the intermodal challenges persisting, but we're going to make self-help. We've got the fastest intermodal service in our north-south superhighway. We're going to continue to put more footage on that train. Mark's been giving me a hard time that the trains are too small. And the mandate is the team to go out there and add business to that. You know, I see upside opportunity, Tom, as you think about the automotive business. There's a lot of vehicles that remain on the ground down in Mexico. And we are working closely with those OEMs. to create new solutions that I think, you know, initially we felt were long-term plays. But I think there's some opportunities there, given the situation, where we're going to see some benefit in the near term with some of those opportunities. Our frac sand business continues to be strong. Our steel business, as I spoke to, is quite strong in and out of Mexico. And, you know, we're not dissimilar to the other rails. As you think about the forest products in the lumber business, it's hard for me to see a major rebound in that space in the near term. But I can tell you we're doing a lot on the self-help initiative front in that space to repair. So we're out working with these customers to create these long-haul cycles for With our center beams, you know, opening up new markets. We're deep into, you know, kind of, in my mind, creating a whole new mousetrap in the Texas and Dallas market around transloading. Again, stuff that probably you won't see a lot of needle moving in that space in the near term, given the headwinds. But as this housing construction area bounces back, it's an area we're going to be ready, and I think we're set up for success when that comes back. And finally, maybe the other thing I'll point to is, you know, we went out and we bought 1,000 reefers. not that long ago. We announced the AmeriCold development, and I can tell you that progress in terms of getting a spade in the ground and getting that building built in Kansas City is well underway, but that's not the start of that journey. That journey has started now, and we're already starting to see a building of our reefer product on that 180-181 train pair. And, again, beyond just the dry opportunity as we look to the coming months, I think we're going to see a nice buildup of that opportunity of reefers down to Laredo and ultimately down into Mexico to service that market. So, again, that's, I think, an opportunity if you think about this unique franchise that, you know, we're the only one doing it out there in the marketplace. And if the intermodal domestic market remains soft, there's another area where I think we can potentially outpace it to some degree as we build this reefer product. A lot there, but I hope that helped. Your next question comes from Walter Spracklin of RBC Capital Markets. Your line is open.

Thanks very much, operator. Good afternoon, everyone. So I wanted to focus in on bulk. You know, John, you highlighted a few things that have happened in your key franchise within bulk that have created a lot of volatility here, in particular the outage at Tex Mine and the outage at Camp of Texas Terminal. We've also seen a pretty significant crop this year that now the conditions look a little less favorable for next year or so. I'm trying to put it all together here to see what the layout for next year looks like, given some of those significant outages. Is it possible that we see kind of high single-digit, low double-digit increases in your coal and potash business just based on simply lapping those outages? And on the flip side, as you see the crop that's developing from where we are now, is this a risk of kind of high single-digit downside risk on the crop side as we go into 2024. Big items here in your bulk franchise, lots going on. Just wanted to make sure we're modeling it correctly.

Yeah, Walter, it has been noisy, and it's six months ago. If you would have said all that would transpire in our bulk franchise, I wouldn't have believed you at all. at all it's been frustrating um but but nonetheless luck um as i said i i remain very bullish uh on the outlook for for potash um we've actually got a very big plan for q4 we've we've worked our tails off to diversify some of the ports we're crossing our fingers that maybe portland can get opened a little early And I think our belief, and frankly, Campitex's belief around their position, and CPKC as being their number one transportation provider, looks strong for 2024. So I would expect, I think, double-digit as you look to 2024, given what we've seen is definitely a reasonable expectation as you think about potash. Yeah. You know, on the coal side, we're going to see strong compares to close out the year. You know, that Elkville mine issue that took place Q4, right at the end of Q3, Q4 last year, will give us really good comps. And if you look to 2024, I don't know if you see as big of a jump as it relates in that space. But you know what? We're optimistic that, you know, Tech's outlook, or at least our discussions with Tech so far looking at next year, you know, look to be positive in terms of growth.

Probably not as extensive as you described relative to potash.

And on the grain front, now look, if this crop comes in closer to 65 million metric tons what i what i think is kind of the middle point of what our customers are are saying you got to remember we've got a much bigger carry-in this year you know call it maybe close to 10 million metric tons so i i really don't see any impact as you think about the gut slot and the q4 and in in that time period we're going to run hard we're going to run hard right probably into the spring And then we'll see. And it's not we'll see because I don't think there'll be grain out there. yet to move. Um, but as we saw this year, um, you know, this sort of the weather issues and the dryness that did persist certainly put the farmer on the sideline more than we expected to happen. You know, I'm pleased with our year over year compares as you look at Canadian grain in Q two, but I actually I'll tell you, I thought it would be much bigger. Um, and certainly I think the Canadian farmer And the U.S.

farmer, to some extent, got spooked and sat on the sideline a little longer to see what would transpire in that space. So, look, we're a grain hauling railroad, and now with the combination of the KCS network to create more markets. As those develop, you know, I certainly expect 2024 to continue to be a growth area for us in grain. And maybe I'll just throw one more comment out there, because you got me going on grain, Walter. You know, if we see some dryness and some crop further deterioration in our southern territory, you know, southern Alberta, southwest Saskatchewan, it actually begins to present that opportunity for that corn haul into that area to feed those cattle markets. And I can tell you just over the last three weeks, we've seen a pretty significant uptake on those markets connecting and some train volume beginning to build for that market. Again, that's an area that we didn't have in the calculus a few weeks ago. but certainly could provide a little further upside to the U.S. part of our franchise if that further develops. Thanks, Walter. And, John, if I could add just one key point is from the operational side, it's allowed us to open up the engineering industry work one is a bit more west to Calgary. So when we do get into Q3, Q4, we want to have maintenance gains in a way so we can cycle these grain, fold, and certainly potash to the west coast. Your next question comes from Chris Weatherby of City. Hey, thanks. Good afternoon. I was wondering if maybe we could kind of run through some of the assumptions around the mid-single-digit EPS growth for the year, particularly in the back half, and maybe get a sense of the pace of RTM recovery in the back half, and then maybe some thoughts around the operating ratio as even as possible. Well, if you think about the, Chris, the RTM piece, you know, we sit here today, end of July, we remain slightly positive on a full year RTM basis. You know, we got ourselves dug into quite a hole here in July with the strike.

But, you know, I think you're going to see, and my expectation is we're going to claw our way back as we move through the quarter, and certainly I expect improvement versus where we sit today. And then there's upside as you think about Q4. So, you know, I think ultimately we see volume growth. And so, Chris, just in terms of, you know, when we think about sequential OR and earnings, given we see a stronger Q4 as we get some of the share wins and the synergies start getting up to their full run rate the first year of the synergies, Q4 would see a much larger performance than Q3, for example.

But, you know, sequentially, you know, certainly we see an improvement in the OR sequentially from Q2. You know, I think Q4 is going to be the breakout order, and I think it sets up well for 2024. But we have confidence in that single-digit EPS guide. Otherwise, we wouldn't have kept it there and reiterated it. I think we just have some catch-up to do from the strike. But the volume is there from our bulk franchise and from the synergy perspective. Your next question comes from Brandon of Barclays. Hey, good afternoon, and thanks for taking my question. Nadim, I guess maybe following up with that, and maybe John can chime in too on like these self-help contracts that you guys are talking about, but does that set you up for potentially you know, a strong 2024, just given some of the headlines that you've had early in 2023, you know, when you look at that 24 through 28 outlook? Yes, absolutely. I mean, I think, you know, some of what John has described, I know we couldn't get into much detail from a confidentiality perspective and a customer perspective, but we've had some wins since Investor Day that we weren't factoring in, to be quite frank. I feel very good about 2024. I feel very good about 2024, to be honest. And like I said, we're long people. We kind of have a peak. If you think about the volume versus workforce, We have a peak of a delta in a non-productive way. Then it's all out in Q3 and into Q4, and it sets us up well to the operating leverage, which we talked about both into the back half of this year, but 2024 looks very strong. And so if we see that path to recovery, this investment in hiring and training, I think it's going to pay dividends as well as the work we're doing on the capital front on the network, as well as the work we're doing on the capital front on acquiring rail cars, and then we're starting to see some benefits of the synergies on the expense side from that operating leverage and the work that's taking place to improve operations further south on the network.

So I'm pretty excited, although we've seen, obviously, a very tough reporting quarter for us and all the rails. I think we have a pretty optimistic view on this year and into 2024. Brandon, I might just add that, I mean, you're right, this macro environment and some of these broader challenges have been Very frustrating, but the fact that we're planting the seeds right now, I think you're right when you say you begin to see some of the benefit of some of these projects.

I just think about our efforts right now to get BCOs all set up for Lazaro Cardenas as you look to 2024. Think about our announcement on the auto compound down in Dallas that'll be up second quarter-ish in 2024. Think about the Toronto Fuels Terminal in Milton, A. terminal um in milton an agent court that kobe spoke to at invest today that'll all come up in 2024 the dallas trans loads that support the lumber and then that market down there coming up in 2024 all those things i think support what Nadine spoke to, and if we get a little bit of tailwind on the macro background, then I think, again, we're off to the races. I can't help but add a little bit more to that. So as an operating CEO, I've been... Dreaming about and having visions of a closed-loop automotive network since my days of servicing automotive manufacturing facilities back in the late 90s. Going through the pain and suffering of not having enough empty car supplies to keep your production going. lines going and being the guy or the gal that got yelled at because of that. When you couldn't control the destination, it leaves scars that you don't ever forget. And it created opportunities. So we set from the very beginning the vision. One of the visions of this network, this extended reach extended reach network when you can connect the bookends, the manufacturing in Mexico, manufacturing in Ontario, and automotive compounds in between, and create this closed-loop network is powerful. I can tell you that we've made some significant progress there to the point that we're close to ordering cars to serve this closed-loop network. And those that we partner with in this space that have taken this step of faith with us are going to have our own guaranteed car supply by turning those assets. And it's going to allow them to get more vehicles from their manufacturing facilities to the dealerships that need to sell them and create our own guaranteed car supply to feed the opposite end of the loop.

So that's not a dream anymore. That's coming to fruition. That's going to be showcasing itself in a very powerful way in 2024, and that is ahead of my expectations. So super, super excited about that development.

Your next question comes from Scott Group of Wolf Research.

Hey, thanks. Afternoon. So just a couple things. The high single-digit growth in Q4, maybe just some color on which overall segments you think will do best. And then, Nadim, just want to clarify, are you saying that labor costs come down sequentially from here or actually come down year over year? That would be a pretty big sequential drop.

And then all the other rails have talked about some big fuel headwinds in the back half of the year. Are you any different or should we assume same kind of headwinds there? Thank you. Yes, Scott. So, you know, it's key. He spoke to, I think, our auto sector, our frac sand sector, steel sector. We'll see. I fully am going to push Mark and his team to see that materialize in our grain business. Our coal, we've got easy compares there and strong demand. So I see a lot outside. In coal, we have a decent potash Q4. Last year, if we hit the expectations of our partners, you'll see goods growth in potash. So I call out those areas. And then, you know, this shell contract win, is significant. And that's going to start up in August for us. And I think that'll only help, you know, not only insulate, potentially show some good growth in our ECP business also. Scott, just on that. Headcount should be flat sequentially in terms of our workforce and so forth, and we'll see what stock-based comp does in terms of what the stock price does. That's been a headwind for us. So my point is the productivity volumes will increase. Headcount will stay relatively flat. And then year-over-year, I think Q4, we see a benefit on headcount year-over-year. So that will be a meaningful efficiency for us. On the fuel side, I wouldn't say we're you know, see a meaningful headwind on that front for us. Your next question comes from Fadi Shamoon of BMO Capital Markets. Yeah, it's good. Good afternoon. Thanks for taking the question.

Just one quick clarification first.

So, Nadine, the guidance is basically $3.95. You've earned $1.73 year-to-date. So we're talking about a 28% financial improvement in the second half versus the first half. I just want to make sure we're on the same page on that.

But my question is, you know, maybe Mark or Keith, you know, the speed is 18 miles per hour now. CP did 22, 23 consistently in the past. The same thing if we look at locomotive productivity and train length and all these metrics. but what does this record look like three four years down the road is this is this a um a uh a uh step up that we're going to see consistently and what's going to drive it is the revenue mix as you take on that business that you highlighted in june or is it uh investment in the infrastructure that you need to do again i'm just trying to understand kind of

What does this network look like once you're done doing some of these key kind of programs that you highlighted in June? Certainly for all this energy volume that we're talking about bringing on, we're going to need those investments. But when I kind of look at it right now, you know, this, TP standard is something we're working to. That's what this merger is all about. So as we integrate the operations, what we've seen, which we expected is on the former KCS network, train speed has improved. Fluidity has improved. We put this operating plan in place and it's working. On the Mexican network, at this point, that's, That's what's diluting the overall improvement opportunity, and that's exactly why Phase 2 focused on Mexico. So will it get to 23? I haven't done the math yet. Will it improve in a material way? You should expect so, and you'll see from that. driving of our synergies. You'll see car hire savings because we're going to need fewer cars to move the same amount of business. Those assets are going to turn. You're going to see revenue improvements. There's not enough car supply to feed all the demand we have for automotive. As we speed the network up in Mexico, we're going to create our own car supply. We're going to get more loads. it's going to drive more revenue. So you get it on both sides, on the bottom line and on the top line, and you'll start to see some material impact to our results. Again, is it going to be 23? It's not going to be 15. Maybe it's not 23, but it's certainly going to be somewhere between 17, 18. You know, I'll do the math later. I haven't at this point. I just know I have a very firm expectation that it will improve in a material way. In fact, we're guiding to 395 core adjusted combined diluted DPS. Your next question comes from Konark Gupta of Scotiabank. Thanks, Operator. Good afternoon. I just wanted to ask you, John, any color on the shell contract contribution analyzed and Wondering if it is a result of merger synergies and as well, you know, do you expect any more conversion of opportunity pipeline heading into 24? Thanks. All right. Thanks for the question. I knew it was probably coming from somebody, and now I can't provide any further details. I will say this. Shell's a great partner of ours, and they have been a number of years. And one of those customers that identified that early on that this combination was going to be meaningful.

And it's just, again, been a culmination of a lot of work between our teams to create the right package and opportunity. And you're exactly right, leveraging the entire CPKC network. So, again, you'll see the results come through our ECP areas. We begin to ramp that business up once we get into August here. Your next question comes from Brian Ossenbeck of JP Morgan.

Hey, thanks for taking the question. Just wanted to ask a couple clarifications. Nadine, can you just walk through what the FX exposure looks like right now? There's a line item on, I think, slide 15 in terms of the bulk. So you can just maybe talk about hedging or how we should be thinking about modeling that. And then just on the Mexico, if you can elaborate as much as you can in terms of what's actually the challenges there, how long you think it will and generally what you're trying to work through to get that network a little bit more fluid. Hey, Brian. I'm just going to have Ashley and Chris follow up with you on the FX piece. We're pretty late in the call here, so they'll give you the details, and I think we have posted as well on our website. I think the main focus on Mexico is getting our inventory reduced so that we can get terminals more fluid. We're also taking a concerted focus on renewing our existing contract. At this moment, until we can see benefits in the operation overall, there's no sense to distract ourselves trying to create any kind of potential conflict integrating a more modernized agreement. That's not to say that we're not still interested and it's not very compelling. That's going to be a more or phase two as opposed to a phase one. You know, our employees need to want our deal. It's much better for the employee. They'll make a lot more money. They'll have a better quality of life. But right now, the first order of business is making sure that we optimize our network and fluidity with the existing contracts we have, which we're seizing. and focused on, and then step two will be to discuss modernization when the time is correct. And your next question comes from John Chappell of Evercore ISI. Your line is open. Thank you. Good afternoon. Just talking about the yield side a little bit, Nadim, you already pointed out that you're not going to have the same fuel surcharge. Most of the others will. You're pricing the portfolio, both the core business and then the combined business. Is there a lot of kind of step-up opportunity in the second half of the year from a yield perspective to kind of help you get to that guy to the back half? You know, I think, John, there's certainly the discipline, that you've seen from, I guess, legacy CPP and how we approach the contracts and our pricing.

The step function is how we sort of overlay that disciplined approach to the KCS network and some of those contracts. you know, is that quantum leaps? Uh, no, but I think that's a lot of singles and doubles. Um, you know, we're still seeing renewals, um, you know, in the, I would say low high single digit, um, type range, uh, which I'm quite positive about. I don't foresee that changing as, as we move through, you know, the remainder of the year.

And they're, are some, you know, legacy contracts and opportunities out there that we're working with a variety of customers on around repricing for the value of our capacity and service. And some of those could, you know, create a larger step function in some areas. But, you know, I'm not going to call that a major driver in terms of, you know, think about Q4. Actually, that probably creates a bigger benefit for us if you look into the 2024 renewals. Your next question comes from Benoit Poirier of Desjardins Capital Markets. Yes, good afternoon, everyone. Looking at the model, obviously it's an important part of your growth story going forward. I was wondering, bring it the current softening environment brings more opportunity than an increased number of discussion with customers. And what would be your average length of all on the intermodal side for the combined? I would be curious to know whether the, the, the, the lower fuel expense and lower spot rates bring more competition from the truck right now. Thanks. Yeah, maybe a couple comments on that. I do believe, and I've said this before, These types of depressed markets, typically the transportation buyer becomes more aggressive in terms of looking for options to lower their prices. That is a buying opportunity for my marketing and sales people. As I said, also, We're not sitting by and waiting for the phone to ring. We're out pounding the pavement looking to fill that train up. We need to fill that train up. We need to continue that train length. to that 180, 181 pair and, frankly, get the business going back on our legacy franchise across Canada. Train lines, I think about, if you think about our legacy now, network in the 1400 to 1700 mile sort of wheelhouse between Toronto and Calgary. I look at that very similar as you think about

You know, specifically Chicago down to Laredo and down to, you know, San Luis Potosi area or Monterey area. It's a very similar length. And I do believe, you know, historically we're more insulated across Canada. And I think so in this corridor to some extent against that shorter haul movement that, you know, might be more conducive to slip quickly back the truck. So I think that makes us a little more sticky. And, again, our focus on today is adding density to that corridor.

Okay. So that said, it's been a long call. We can't get to everyone. I apologize for that.

But I would encourage if you have any other points to address, touch base with our, they'll make themselves available for any follow-up. We look forward. forward to sharing our third quarter results. In the meantime, we're going to continue to focus on integrating well, growing uniquely as we build out this network very methodically, and obviously step-by-step improvement when it comes to operational performance, most specifically in Mexico. With that said, have a Safe day. We appreciate your time this afternoon, and we'll talk soon. This concludes today's conference call. You may now disconnect.