Oct 21, 2009
Executives
Robert Noorigian – VP, IR Hunter Harrison – President and CEO Luc Jobin – EVP and CFO Jim Foote – EVP, Sales and Marketing Claude Mongeau – EVP
Analysts
Bill Greene – Morgan Stanley Jason Seidl – Dahlman Rose Edward Wolfe – Wolfe Research Michael Weinz [ph] – JPMorgan Matt Troy – Citigroup Walter Spracklin – RBC Capital Markets Allison Landry – Credit Suisse Jacob Bout – CIBC Ken Hoexter – Merrill Lynch Randy Cousins – BMO Capital Markets Bill MacKenzie – TD Newcrest Benoit Poirier – Desjardins Securities
Operator
Welcome to the CN third quarter 2009 financial results conference call. I would now like to turn the meeting over to Mr.
Robert Noorigian, Vice President, Investor Relations. Ladies and gentlemen, Mr.
Noorigian.
Robert Noorigian
Thank you and thank you for joining us for CN's third quarter 2009 financial results conference call. I'd like to remind you about the comments that have already been made regarding the forward-looking statements.
With us today is Hunter Harrison, President and Chief Executive Officer of CN, Luc Jobin, Executive Vice President and Chief Financial Officer, and Jim Foote, Executive Vice-President, Sales and Marketing. Also with us today although they are not taking part in the formal presentation are Claude Mongeau, Executive Vice-President and CEO in training [ph] and Keith Creel, Executive Vice-President of Operations.
After our presentations, we'll take questions from those of you who are on the phone. And could you please identify yourself when you're asking the questions?
And in order to be fair can you limit the questions to two and we would appreciate that, and in that way you'd be fair to your colleagues too. With that, it's my pleasure to introduce CN's President and Chief Executive Officer, Hunter Harrison.
Hunter?
Hunter Harrison
Thanks, Bob, and thanks to all of you for joining us this afternoon. If you would let me just take a moment to kind of address an issue that we normally don't talk about here and that is my future with the organization here.
I think most of you are aware that I'm retiring officially effective December 31. This will be my last conference call during the quarterly results and I want to take this opportunity to thank everyone of you here that have showed – shown this organization the confidence that you have and the liability and the credibility that you have shown the group, and I'm certainly appreciative and it has been a nice experience working with you.
One other note, I am proud to be able to report today, most all of you know that Claude will be replacing me come the 1st of the year but also about the Board this morning in our Board meeting officially elected Claude to the company Board of Directors and so congratulations, Claude, for that recognition from that Board, and I look forward to turning the key to the office here over to Claude sometime in mid-December, and I don't think you will ever see miss a beat as we go down. I was really pleased that from our last quarterly conference call that I can – we can talk about a quarter that I was very, very proud of, particularly with the conditions and some of the headwinds that we have had to face with the economy and the Luc and Jim are going to go over the numbers in detail, but just a couple of highlights.
The revenues were down as reported 18% and there'll be some more explanation of that. The operating ratio, we are very pleased with the 62.7% OR, which is essentially flat year over year, and our earnings per diluted EPS came in at $0.97.
But why I really want to take a little bit of time today to do is to call your attention to the kind of the second panel of the presentation which is highlight some of the operating results. And I think just two important points here.
One is, we can certainly – obviously not achieve the type of quarter that we did in this kind of environment without these outstanding operating metrics that are all once again records for this organization. But the important thing even going forward is these things are all going to stick, so if you take these type of numbers, these operating metrics which I will go through, and start applying some growth and some rebound in the economy, it is going to create a lot additional leverage for this company, start going of some records numbers I think in 2010 and 11.
And I will just highlight and go through them for a moment. The gross ton per train was up 7%, once again 7% a world record.
The cars per yard switching hour were up 29% and effectively as you look at the our terminal cost which is all in, they're down on a system basis 32%, 32.5% when our business levels now measured on an RTM basis again a run rate are running at about as we speak down about 11%, so that is – this whole issue of smart yard and some of the initiatives in the pipeline has flowed to [ph] Edmonton and the new yard at Memphis, are all starting to really allow us to take advantage of some of the opportunity to resolve the well time internals [ph], a big important factor with terminal faults and congestion, is down 9%. Gross ton miles available horsepower was 320, and I can remember we were talking about the ceiling with 250 and now we are 320.
Car miles per car day was up 16%, the biggest individual quarter I think that jumped in that regard. And train velocity which Keith has been spending a lot of time on with the regional operations was up a whopping 11%.
And I would emphasize that I understand a little bit operating cost, spent my whole life fiddling with them, and I can tell you it is very difficult to set these kinds of records, but it is extremely difficult to set these kinds of records when your revenues are down to the degree we experienced here. So congratulations to the operating team.
And with that having been said, let me turn this over to Luc and Jim to give you further in depth explanations here. Luc?
Luc Jobin
Okay, thanks very much, Hunter. I'm happy to be here today to report to do my first report on the financials for the third quarter of 2009.
It works out good because the results are actually quite good, so despite the difficulty economic environment which Hunter has referred to, we feel that our volumes have bottomed out, and Jim will certainly have a lot more to say about that. We have seen some gradual improvement in the third quarter and in fact sequentially our RTMs have grown 4% from Q2 to Q3 of 2009.
Our car loads for the third quarter were down 15% while our RTMs was down 11%. Obviously, handling this kind of top line pressure is difficult for any business with a high fixed cost, but we continue to make the most of it.
Back to what Hunter mentioned, we reported EPS of $0.97 which is down 16% versus last year. However, if you exclude the deferred income tax credits in the quarter, our adjusted EPS came in at $0.94, which is down 12% versus 2008.
Our revenues came in at 1.845 billion, which is down on an FX adjusted basis 20% in the third quarter mostly due to lower volumes and lower fuel surcharge revenue which actually was 250 million on an FX adjusted basis. Fortunately, this was partly offset by some mix, some good mix and some pricing.
Looking at the expenses, they were certainly well behaved at 1.056 billion. They were an improvement and a reduction of 20% on an FX adjusted basis from 2008, which translated into an operating income of $689 million, down 20% again on an FX adjusted basis.
Our income tax expense came in at $152 million and for those of you who are keeping tabs, this translates into a 24.8 effective tax rate. However, adjusting for the deferred income tax items which I referred to earlier, that would translate to 27%, and that is much closer and we maintain you know for the longer-term our effective tax rate will be hovering somewhere around 28% to 30%.
So net income 461 million, down 16%, and EPS, adjusted EPS of $0.94, down 12%. We once again had outstanding cost management and our operating ratio came in at 62.7%, essentially flat to last year.
In terms of foreign exchange, just to give you a picture, it still created a little bit of a tailwind in the quarter, and amounted to roughly $0.03 favorable in the third quarter. Turning to expenses, here the story that has been unfolding throughout the year continues.
We've managed our cost very tightly while at the same time supporting initiatives to prepare and to handle the recovering volumes. Our expenses were reduced 20% on an FX adjusted basis versus 2008.
The biggest contributor was the fuel cost which was down 53% from last year as the WTI came down from $118 last year to roughly $68 during the quarter. We also had very good fuel productivity during this quarter, up 5%, so our GTMs per US gallons came in at 985 million versus 939 last year.
There was a lag, a little bit of a lag effect during the quarter, roughly $10 million worth of revenue, and that compares to the last year where we had an unwinding if you wish of the fuel lag which actually was positive to the tune of $0.04 per share. So net quarter to quarter, comparing 2008 to 2009, we had a fuel headwind if you wish of $0.06 per share during this quarter.
Labor and fringe benefits were down 4%, a favorable reduction of $17 million. However, if you exclude the acquisitions that we have made during the last year, the CFQ and EJ&E, and the one-time costs associated with higher stock-based compensation, resulting from a higher stock price, the decline would be 10% or roughly $40 million.
And that has been achieved through a number of means, but mostly reduction in manpower, so the average manpower used during the quarter was down 5%, and again adjusting for acquisitions, it was actually down 7.5%. We also had some favorable adjustments or favorable results in the purchase services and material.
Our expense was $227 million, that was a favorable $47 million or 18% on an FX adjusted basis, mostly resulting from lower third-party transportation services and material. The other area where we had a favorable adjustment or favorable performance was on the casualty and other.
Our expenses for the third quarter was 64 million, that is a 31 million reduction from last year where it was 95 million. Now that 30 or so million dollar improvement was principally resulting from our adjustments to provisions for US personnel injuries and other claims.
The last two years I should mention that this type of actual review and update of our assumptions typically occurred in the fourth quarter and so if you look for it last year you will see a similar amounts taken in the fourth quarter of 2008. So all in all, 2009, the expenses at 1.056 billion, and that is a 20% improvement over 2008.
This was also achieved while maintaining a very safe and fluid operation and network. A couple of statistics which I think are worthy of mention.
Our injury rate actually improved from 2.13 to 2.1 compared to last year and our accident rate is actually down to 1.98 from 2.16 from last year. We also, as Hunter mentioned, achieved outstanding operating productivity results and just to name a few GTMs per train mile improved by 7%.
Our cars per yard switching hours improved by 29% to 39.8 cars per hour. Our terminal dwell was improved 9% and down 7.4 hours while the mainline GTM per available horsepower was also favorable 6%, car miles per day up 16% and train velocity up 11% Now looking at the year-to-date free cash flow, we continue to generate some very strong free cash flow.
Year-to-date, we registered $657 million worth at the end of September and that is actually slightly higher than 2008 even when you back out the $157 million which is attributable to the sale of the western sub in the first quarter to Go Transit. We clearly are focusing on cash flow and managing very tightly the cash.
As an example, our DSO is actually down to 23 days versus 27 days at the end of the year and we continue to focus on investing our capital expenditures. Our target remains at 1.4 to 1.5 billion for the year and we've to date spent $838 million.
We are focusing those investments in the productivity, safety and service areas. The net debt at the end of the quarter stood at $6.34 billion or $6.4 billion and our balance sheet ratios were very good, very strong and healthy.
Our adjusted debt to total cap was at 38.8% while our adjusted debt to adjusted EBITDA was 2.13. Those numbers are well within our target objectives of 4 5% for debt to total and 2.25 in terms of debt to EBITDA.
To wrap it up, maybe a few words on the current outlook. As you can see, we delivered some very strong results in the third quarter, both on a relative and an absolute basis in what can best be described as a difficult in economic context.
We believe we have seen – we've been through the worst and we're very encouraged by the signs that we see of a gradual recovery. Looking at the fourth quarter, we are conscious however that some of our shock absorbers are becoming headwinds.
As an example, the foreign exchange in the fourth quarter of 2008, you will recall really came down and stood around $0.82, $0.83, versus we're currently running exchange Canadian dollars running at about $0.95. So this could translate into a headwind of roughly $0.04 per share.
Also and more importantly, the fuel lag is a key item. Last year again, there was a very steep correction in the WTI from $118 in the third quarter down to $58 in the fourth quarter.
Now this unwinding of the lag contributed to our fourth-quarter results to the tune of hundred million dollars pretax. So that is roughly $0.17 or so headwind compared to what we're looking at this year.
I will also remind you, as I mentioned earlier, that we did take the positive adjustments for casualty and other legal claims this year in the third quarter as opposed the fourth quarter of last year and that in itself is roughly $0.04 per share difference. So in a nutshell, having said that, we are remaining very focused on locking in the productivity gains which we have achieved and gradually are adapting to the progress that we're making in terms of volume and the business coming back.
We want to ensure that we have the right level of resources to balance the service versus the productivity of our assets. We're focusing on the strong capital spending.
We continue to maintain a prudent financial management of the company while obviously running a safe and efficient railway. So we look forward to the next quarter in the future with a high degree of optimism.
And on that note, I will turn it over to Jim.
Jim Foote
Great, thanks, Luc. I would like to go through a couple of slides quickly here talking about the revenue performance.
First slide, really just trying to put things in perspective, the company's performance during the quarter here really from a volume standpoint, car loads were 15% below the same period last year. However, volumes were 11% better this quarter than the previous quarter.
Volumes clearly hit bottom in late May and showed steady sequential growth throughout the quarter, rising above the preceding week 10 out of 14 times. Sequential growth was experienced in the vast majority of our commodity groups.
If we take a look at the next slide, we will go to the company's revenues and dig a little deeper into the various segments. Total revenues were down 20% excluding the positive impact of 50 million in higher revenues due to the year over year weaker Canadian dollar.
Price increases of approximately 4% could not offset lower year-over-year volumes and reduced fuel surcharge revenues that contributed about equally to the reduction in revenues. When compared to the previous year, the decline in petroleum and chemicals reflects the lower operating rates of chemical producers and weaker demand for petroleum based products.
However, condensate continued to show strength versus the previous year as did new movements of jet fuel and consistent shipments of the LPG. Although carloads improved sequentially this quarter, the metals and minerals group continues to reflect weak overall markets when compared to last year.
Iron ore volumes improved throughout the quarter as did steel products but they still have quite a ways to go to get back to normal. Forest products also showed sequential improvement this quarter versus last, but carloads were still down 22% from last year's third quarter.
Pulp move showed the best upward movement followed by lumber and panels, which also showed improvement but paper continues to decline. Moving to the bulk segment, our coal volumes were higher on a year-over-year basis due to increased Canadian originated metallurgical coal shipments.
As outputs from several mines increased, a mine reopened, and we started a new destination move. This was offset by reduced steam coal volumes in the US which remain very weak due to reduced demand.
Grain benefited from a strong Canadian export program for wheat and barley; however this was offset by slow US corn and bean shipments. Fertilizers, primarily potash continued to be impacted by the farmer's decision to delay putting down the product.
Reduced North American consumer demand continued to impact overseas intermodal. Improving volumes over the Port of Prince Rupert are being offset by ongoing significant year-over-year declines due to the Port of Vancouver.
And improving export program through the Port of Halifax has started to have a positive impact there. Our domestic volumes remained stable when compared to the previous quarter; however, they are down compared with last year, reflecting lower US and trans border shipments which are typically shorter haul range and more susceptible to truck competition when fuel prices are lower.
Automotive volumes have stabilized but continue to be down significantly year over year. Our other revenue line item is impacted by the economic slowdown and reduced activities in the non rail transportation businesses.
We take a look to the next slide, the market drivers here, taking a look at merchandise side of the business. It appears many commodities have bottomed out in the second quarter.
As I mentioned, we are seeing sequential improvements in steel, iron ore and chemicals. Lumber panels and automotives markets appear to be stable albeit at significantly lower levels.
The bulk side of the business is really a tale of two countries. In the US, both the corn and bean crops are very good.
In our dry territory, corn production is estimated at 6.9% ahead of last year, and 9.2% ahead of a five-year average. Soybean production is 4.6% head of last year and 1.7% below the five-year average, so very, very good crop conditions there.
On the Canadian site, the Canadian crop grain crop production estimates have recently improved somewhat. Wheat is expected now to be down only 1% from the five-year average and canola up about 6%.
Even though production will be down from last year, a much larger than normal carry in should put supplies near the five-year average. In terms of coal, US thermal coal is expected to remain soft but Canadian metallurgical coal shipments should remain positive.
In terms of potash, we're not really expecting any kind of recovery until we get into 2010. Moving over to intermodal, international volumes continue to be supported by the growth at Prince Rupert which is helping to offset the weakness in Vancouver.
On the domestic market, although down on a year-over-year basis, are clearly stable sequentially. And for all of our segments, and intermodal in particular, the company quality of service that we talked about is really helping support us grow these volumes during these difficult economic times.
So with that, I will turn it back to Hunter.
Hunter Harrison
Well, thanks Luc and Jim, both for those very informative reports. So let me just finish up this way, Luc mentioned rightly so that our safety performance during the quarter also that deteriorated as a result of these productivity gains.
In fact, if you look at from a (inaudible) through the year so far is about $20 million improvement over last year which was a big improvement over the year before. And the other thing I would hasten to mention is this, this was all achieved while we were having setting records for service, there is virtually no complaints.
We're filling 99% of the car orders on a timely, guaranteed basis. And so this puts us in a position, these productivity gains, maintain service, not taking our eye off safety, none of this is new to Jim's point now, the sustained pricing discipline would position us for long-term sustainable growth, and it really excites me from a shareholder perspective the opportunities that as we see the rebound, as we see what this organization will be able to produce in 2010 and out years.
So with that, we would be happy to answer questions the group might have.
Operator
Thank you. We will now take questions from the telephone lines.
(Operator instructions) The first question is from Bill Greene, from Morgan Stanley, please go ahead.
Bill Greene – Morgan Stanley
Yes, good afternoon. And Hunter, wish you all the best.
Hunter Harrison
Thank you.
Bill Greene – Morgan Stanley
The question that I have to start is on currency, so when the Canadian dollar was last at parity, we certainly saw a suffering of the transporter trade, and the economy was quite a bit stronger at that point, so how do you think about how this will affect your volumes from here? Does parity actually mean you could see lost customers and that they actually can afford to operate anymore, how do you think that will affect the business?
Jim Foote
Well, Bill, this is Jim. You know, the biggest area where we saw the impact when the dollar moved towards parity was in the forest products business and that business right now is really I would think to the point where we are not going to see any kind of material change to the dollar move from where they become more accustomed in the $0.80, $0.85 range, up to a dollar.
You know they were accustomed and had focused more on the actual higher 60, low $0.70 range. And so the move was much more significant and it took some time to adapt.
So I don't anticipate certainly not anticipating the kind of issues that we saw with the move up last time.
Bill Greene – Morgan Stanley
So currency you don't think affects growth at all at Prince Rupert because that is primarily originally it was designed as a US destination port anyway, is that fair?
Jim Foote
US dollars, we prize that traffic in US dollars.
Bill Greene – Morgan Stanley
Okay. And then the second question, I don't know if this is better for Hunter, for Claude, but CN's already incredibly inefficient, so how do you think about exploiting that going forward?
You talked in the past about maybe letting them, the operating ratio creep up a little bit, just in terms of trying to win some new business. Is there another way to exploit that?
Does it make sense to try to think about acquiring anything that is maybe non-contiguous and sort of improving their operations or how do you think about the best way to exploit your already leading costs?
Hunter Harrison
Well, let me – (inaudible) Bill, you know, I think I'm not sure I agree with the term letting the operating ratio creep, I wouldn't have moved away from we are not obsessed with the operating ratio and I am much rather an high capital intensive business like this, and that really converts to growth in the $20 billion company than a $10 billion company, if you simply do the math. But there is a lag between when we announced initiatives and ideas and concepts and as we did short, smart yard before they kick in.
And I can tell you that the pipeline is not dry of initiatives from an operating leverage standpoint. I guess one of the best examples I would say to you is one of the things that we talked about earlier in the year that Claude was going to (inaudible) is that if we can produce cash flow, positive cash flow like we're going to produce this year, in this kind of environment, we could be opportunistic.
And so we're going to be able to do things like probably acquire some locomotives year end. I think that the Board approved this morning, and we got the locomotives at a pretty good price, and so we're sitting able to take advantage of those type opportunities, and there'll be others like that.
Now, look, I'm going to walk out with the last good idea, I will tell you this. This group is too bright and too smart and too sharp, they have got a lot of things that they are going to bring to the table.
I'm sure Claude's got a set of ideas that is going to take this company to different levels and so I think that you're going to see the company continue to perform and be the leader of the sector.
Claude Mongeau
I would echo that. I think we have a very full pipeline of breakthrough initiatives, whether it is on the growth side or whether it is on the productivity side.
And I think the sweet spot is as this economy is recovering, we're going to have volume working for us and so we certainly view the next few years with a very bullish set of eyes and we are confident we're going to be able to continue to drive performance. And Hunter and I have a deal.
He told me he would come out of his grave if we don't continue to perform or if we cut the dividend, so I have no intention of having that sight coming my way.
Bill Greene – Morgan Stanley
Okay, fair enough. Thanks for the time.
Operator
Thank you. The next question is from Jason Seidl from Dahlman Rose.
Please go ahead.
Jason Seidl – Dahlman Rose
Thank you. Hunter, bet of luck in the new endeavors, and Claude, best of luck going forward here.
My question here now is for Jim, Jim, you mentioned Canadian coal being positive, if you took out the new business from tech, are there still growth drivers, would it still be up?
Jim Foote
It would be probably not up but close to flat. There is the new old bed mine that opened, although that is much smaller, and the production out there is ramping up, so it is more than just the new tech business.
Jason Seidl – Dahlman Rose
Okay. And Jim, as you look out, obviously the coal markets are weak, particularly on the thermal side in the US, demand down, natural gas is cheap and stockpiles are high, but there is also the mountaintop mining issue that we all know which direction it's going to go and if it does go against some of the eastern producers, they are going to have to source coal from either the PRB or the Illinois Basin.
You guys have the joint venture in the mid American corridor that down the road was supposed to have potentially sourced new lanes for Illinois Basin coal, any chance of moving that timeframe up, you know given any potential action by the US government?
Jim Foote
We are positioned and ready to go as soon as the – as soon as the need and the demand for the Illinois coal grows and the producers there are ramping up and bringing on more mine capacity. So we're very optimistic for the Illinois basin as well as being as well as being positioned to move more Central apps South and East, I mean more PRB coal South and East as some of the Appalachian miles become under pressure.
Jason Seidl – Dahlman Rose
So you could ramp that up quicker?
Jim Foote
Oh, yes, we are ready to go now.
Jason Seidl – Dahlman Rose
Okay. Gentlemen, thanks for the time as always.
Operator
Thank you. The next question is from Edward Wolfe from Wolfe Research.
Please go ahead.
Edward Wolfe – Wolfe Research
Thanks. Again Hunter, we will miss you on these calls, best of luck.
Hunter Harrison
Thank you.
Edward Wolfe – Wolfe Research
Just a little bit more clarity on the casualty, you said that you took a $0.04 benefit, let us call it 25 million or so, I think is that a fair pretax number? You mentioned third quarter and then in fourth quarter if we take the 64 million for casualty and other and basically add that 25 back, that is more of a normal run rate?
Luc Jobin
Yes, I think somewhere around the low 90s is probably a decent run rate, yes.
Edward Wolfe – Wolfe Research
Okay, Jim, can you talk a little bit about pricing net of currency and fuel, where we are at and what you are seeing as you start to negotiate contracts for next year, what are you expecting?
Jim Foote
Well, I think we will stay consistent in what we expect to achieve in the 4% to 5% range, that is where we have been with a slight variation, and we have somewhere between 55% to 60% of that locked in already for next year. So we will maintain our focus and maintain our discipline and that is what I would expect.
Edward Wolfe – Wolfe Research
And just as a follow-up to that, within that 4% or 5%, where is international intermodal on that scheme, is that at the high-end or low and below that, where do you we expect that to be?
Jim Foote
Over a reasonable period of time, there is very little difference between the commodity groups in our pricing strategy. We have for a long time been focused on pricing and have rebased or readjusted all of our contracts long time ago, so now it is more a factor of what we think is appropriate than seeing some variations.
Edward Wolfe – Wolfe Research
So, for 2010, do you feel the same way, or is it different in 2010 but longer-term it evens out?
Jim Foote
No, I think 2010 should be in a similar range?
Edward Wolfe – Wolfe Research
Okay, thanks so much. I appreciate it.
Jim Foote
Yes.
Operator
Thank you. The next question is from Tom Wadewitz from JP Morgan.
Please go ahead.
Michael Weinz – JP Morgan
Hi, it is Michael Weinz [ph] phoning in for Tom this afternoon. Hunter, on Tom's behalf, we would like to wish you well in retirement.
Hunter Harrison
Thanks very much.
Michael Weinz – JP Morgan
I had a couple of questions, on the casualty line, why are you – why are you taking this adjustment this quarter and not just waiting until next quarter?
Luc Jobin
Simply the timing for the actual review that was performed so I mean it was teed up was actually conceded in the quarter, so we didn't – we didn't want to delay that, and we just put it through.
Michael Weinz – JP Morgan
Okay. And then on the purchase side, purchased services side, how much of the improvement was volume related and how much of it do you think is sustainable going forward?
Luc Jobin
That is probably difficult to have a precise number on that. I would say most likely half of that is probably volume related.
The other half stems from the fact that we have changed some of our practices and we have done things a little bit differently. So we have in sourced a little bit more and we have done different things, so I would say it is about half and half probably.
Michael Weinz – JP Morgan
Okay. And if I could just ask one more real quick one, could you talk a little bit about train length and how close you might be to starting limits and you know how you view how you can handle train lengths as volumes pick up coming out of the recession?
Hunter Harrison
Yes. Number one, as you saw the metrics, I mean we have had real top notch performance in that area.
We're building the network effectively to 11,000 foot, 12,000 foot sidings. Our average train length now is in the high seven, so we still got capacity there.
Although the locomotives that we acquired now are DP equipped, so the DP gives the opportunity to maintain that much more so in the winter than we have in the past, because of the train length, which will affect our over the lake operation, where, you know, we were looking at possibly doing the sidings extensions over the ledge two or three years ago, and it is pretty rugged territory and it is a long way. And if I remember, the capital cost was somewhere in the close to $200 million range and we just said to ourselves, we can justify it.
And I will be doggoned, we figured out a way to double saw up there and you've got to be a railroad to understand the term, but that group up there has without spending minimal capital, less than $5 million capital up there to increase the train seemed to 37 miles an hour, which are all-time records, handling fewer trains and so, there is a lot of opportunities still on the train length side. And you know we run trains up to 20,000 tons on parts of these railroads.
And I can tell you that that 8,000, that last 8,000 feet and then the 9,000 feet margin on that business is awful damn good. There is a lot of opportunities there.
Michael Weinz – JP Morgan
Great, thank you for the time.
Unidentified Participant
We will have a quiz on the double claw next time we have an investor meeting. Keith will explain that to you and have a quiz after.
Operator
Thank you. The next question is from Matt Troy from Citigroup.
Please go ahead.
Matt Troy – Citigroup
Yes, thank you. (inaudible) Hunter, best of luck.
Wanted to ask a question on incremental margin, which I think you are just touching on, and specifically as we think about volumes recovering in a slow growth or gradual economic recovery, what you would describe or quantify as the incremental margin per car load across the system? I know the averages are tough but what's your stance for that first 5% or 10% of improvement that comes, what's the incremental margin there?
Hunter Harrison
That's a pretty broad question. It is you know let me answer it this way.
If you see what we are producing today with the volume levels we are at, and we are at 62 kind of OR, and you've got a high fixed cost capital intensive business and you have got to bring additional business on and spread it more, that business is better than the business you have got. It is good.
And next 5% is even better. And the next 5% is better than that.
So that is some pretty exciting number. I mean you can run the numbers better than I can.
You know our all-time record of quarterly overall performance. If there is opportunities to take that cash and do something else with it, you'll see some record OR numbers as a result of this incremental margins.
Matt Troy – Citigroup
Right, okay. And then echoing the comment on the cash build up certainly good cash flow numbers, you've talked about transitioning the focus for CM, Hunter, from being the best railroad to the best transportation company in the world.
And I'm wondering with the cash you are building up, might it be time to look at investing that cash in businesses that aren't necessarily related directly to rolling stock, iron and ties, beyond the network? Might we see a strategic shift there or should we look for ways to go back to the asset based business in the rails?
Hunter Harrison
Well, a couple of things. You know Claude should comment on this.
And you have a lot of time to focus on the long term here but I do think this. I think you will continue to see this organization with the same kind of discipline that we have had to face.
The railroad is our core business, we're going to take care of that first, unless something else comes up that I am not aware of, but I do think this group will be smart enough that if we provide the cash, that if there is opportunities to go into other lines of business that support the sector transportation effort, the rail effort, I am sure this group will take a hard look at it. And so all these things that these ABCs that are producing these kind of results give you a lot of opportunity for Claude's team of being able to take advantage of weaknesses in the market out there and be opportunistic.
Claude, do you want to comment there?
Claude Mongeau
Yes, I would just echo – we love the rail business, we think it is a very good industry, it is structured and we are at the beginning of a secular shift with the economy rebounding, and we believe we can improve our rail offering and differentiate what we have to offer by being willing and able to take on last mile activity that are non rail and help us put a package together that make sense for the customers and help us grow our business. So that is the direction we will continue to focus on and the opportunities are there going forward.
Matt Troy – Citigroup
And then just as a follow-up to that on the caped side, you articulated your budget. It seems to be heavily weighted towards the fourth quarter, could you just tell me in terms of whether is there one or two or three big projects in the fourth quarter that would put you into the full year range, that would be helpful just in quantifying expense in the near term.
Thanks guys.
Hunter Harrison
Thank you.
Operator
The next question is from Walter Spracklin from RBC Capital Markets. Please go ahead.
Walter Spracklin – RBC Capital Markets
Thanks very much. Good afternoon guys.
And congratulations Hunter and all the best in your retirement.
Hunter Harrison
Thanks sir.
Walter Spracklin – RBC Capital Markets
Just first question on the – you're currently in some negotiations right now through a union, it seems to be on again, off again, but could you talk a little bit about the tone with the, it seems a lot more conciliatory compared to last time obviously but, can you give us an update on how those negotiations are going, and what your – how optimistic you are that they will finish up sooner rather than later?
Hunter Harrison
I made they are negotiating as we speak, as we sit here. I think it is fair to say that the two sides are not far off.
I would sort of characterize it that way. I think both sides want to reach an agreement.
We don't want to see, neither one of us work stoppage, god forbidden, in this kind of an environment. And so I think that I'm hopeful that you will be able to put out good news here in a week or so that we have got an agreement subject to ratification.
Walter Spracklin – RBC Capital Markets
Second question here on your project decisions, Hunter, you mentioned you did a – you guys invested in some locomotives in the quarter, I'm just wondering, given the amount required in [ph] going, switching over to DP and taking opportunity on pricing there, just given the amount that you had stored I would've thought you might have put off locomotives?
Hunter Harrison
No. I think it is – there's some pressing issues there.
If you look at historically, and you look at the difference in the productivity of those locomotives as opposed to the newer locomotives from a field standpoint, where fuel prices are, and where they potentially could be, if you look at the DP opportunities that those give us, if you look at the lower maintenance costs and if you look at the lower purchase cost that we were able to (inaudible). This is just too compelling, too opportunistic now.
At the same time I would say to you that the locomotives that we think are not very efficient, they have been put to work, we're not just sitting here to have them stored, we are going to talk about opportunistic when they sell those locomotives, monetize them, lease them or do something with them. But that is not – again, we have done a pretty good job in this organization of getting our fleet with our acquisitions and all, but the age of our fleet has gone up.
And now we are down to about I think the average age of our higher horsepower is probably 11.5, 12 years, pretty good, and it is a clear compelling issue to reflect, go ahead and buy the locomotives.
Walter Spracklin – RBC Capital Markets
Okay, thank you very much.
Operator
Thank you. The next question is from Chris Ceraso from Credit Suisse.
Please go ahead.
Allison Landry – Credit Suisse
Good afternoon. This is Allison Landry for Chris.
Congratulations Hunter. Just a couple of questions, I guess now that you guys have done with the (inaudible) can you maybe talk about some of the projects that you will now tackle in order to integrate EJ&E into the network?
Hunter Harrison
Yes. I mean we're going to – you know, Claude and Keith and I are going to meet the next couple of weeks in Chicago to try to talk about the longer term opportunities for Chicago and get our arms more wrapped around that, and there are a lot of opportunities there further in Chicago when we make our final decisions on which is going to be the operating yard, which one we will have an opportunity to convert potential – industrial centers or to use Claude's term, the last mile facilities.
But there are several other opportunities. I made you need to think about for example Keith has a wonderful initiative going on now in Vancouver and there productivity at Vancouver terminal is up 35%, 38%, which is about just that one terminal is about $11,000 to $12,000 a day savings.
So we have closed the Edmonton half, the productivity is up dramatically there, Mac Yard is probably the highest producing yard in the world today. And every time you can do this, you open up more opportunities.
So all the yards that we sit, we would rationalize and take advantage of those opportunities. As I told the Board this morning, I looked at my list and the final one got done when I got Edmonton done, and my final effort in those regards will be to help assist keeping Claude with the so-called Chicago plan to try to open the door to more opportunities there.
Allison Landry – Credit Suisse
And then just one other question, we have heard some anecdotal evidence from a few manufacturers in China that US and European retailers were placing some last minute rush export orders, since their inventories were so low, have you guys seen any of that at Prince Rupert or in your international intermodal volumes?
Hunter Harrison
Our import volumes at Prince Rupert contribute to be very good but Vancouver is down.
Allison Landry – Credit Suisse
Okay. Okay, that is at.
Thank you very much.
Hunter Harrison
Thank you.
Operator
Thank you. The next question is from Jacob Bout from CIBC.
Please go ahead.
Jacob Bout – CIBC
Good evening. And the end of last quarter, Hunter, your comment was that it felt like a bottom and just wondering is your current thought still that you know things bottomed in the second quarter and any thoughts about or is there any evidence here of a double dip recession in your model?
Hunter Harrison
No. I mean I have to look, that is not my cup of tea.
I know a lot more about operating the railroad than I do the economy, what is going to happen with the recession, but my experience and evidence and what I have looked at in the various trends and our loan reports have been sequential growth. I think we have bounced across the bottom and now we're starting to float to the top.
How fast are we going to float, I can't tell you this. I just know that we're going to go out I think and the higher we come up, and the faster we go, the better it is going to be.
And I don't, I'm not worried about the bubble pop and we are going back to the bottom, that is something that I don't have concerns with.
Jacob Bout – CIBC
Okay. And my next question is about Prince Rupert, just thoughts about another shift that is hitting there, I'm not sure how really that discussion would be.
Maybe, you can talk a little bit about the export versus import volumes, we are still running about 35%?
Hunter Harrison
Well, the answer to your second question first, our volumes, our export volumes are much higher than that, over 50% and continuing to grow. In terms of additional volumes coming through Prince Rupert either with our existing steamship partners or with a new customer, I think that there is still great interest across the Board to increase that volume there.
And you know I need to keep saying it but I'm very optimistic that that could happen. And I think it is easy to look back, had we not hit the bottom, with the markets 12 months, 18 months ago, I think we would have sold out and I think that is what I said then.
If business starts to come back, I would hope to be in a position to say we will do that in 2010.
Jacob Bout – CIBC
And then just a quick question on the EJ&E, there has been some talk about the Illinois Department of Transport being able to modify the merger agreement there, can you provide any type of update on that?
Hunter Harrison
(inaudible) that is not their jurisdiction, it's the STB. We have passed all the tests with flying colors, but I would say to you, I mean certainly we can work with them if there is issues they have, that we need to deal with, but I think just to give you an update there, I think I'm correct here, we have litigation agreements now with 19 of the communities which represents about 65 plus percent of the population.
So we're kind of no pun intended over the hump there and moving forward with those projects and we continue to be a lot efficient but knew that was going to happen. And with due respects, we are trying to work with those people, some of them, but they have said that in a correspondence this week that said they felt that it is the dialogue was counterproductive.
Well, there is no use to having a dialog if it is counterproductive, so but the EJ&E is going to move forward, and it is going to produce everything that plus and plus that we had anticipated.
Claude Mongeau
And the only thing they have asked for is Jacob is to extend the date for the start of the construction of those two great crossing and in actual fact the STB has already ruled on a similar request previously, so it's in the hands of the STB but it doesn't affect in fact the merger.
Jacob Bout – CIBC
Okay, thank you. And good luck Hunter in your retirement.
Hunter Harrison
Thanks a lot.
Operator
Thank you. The next question is from Ken Hoexter from Merrill Lynch.
Please go ahead.
Ken Hoexter – Merrill Lynch
Great, good afternoon. Hunter, great quarter to go out on and good luck in your next phase.
Just a quick numbers question, the other income, the $21 million was, does that include real estate in there, is that the station that was sold, what was that bump up for?
Luc Jobin
No, the reason, the principal reason for the difference is we sold our equity investment in the EWS back in 2007 and as far as that transaction there was an escrow account which was kept to meet some potential indemnities. And so after a couple of years, we had an amount which was released, so there is about $8 million, $9 million, that came in the quarter as a result of that.
So that is the real issue there.
Ken Hoexter – Merrill Lynch
And then just jumping over Jim if I can on a follow-up, Jim how does the grain crop look and then I guess a follow on to that is just the regulated grain, house is the relationship with the Board following the last cost increase to the rails you know that went through and any additional changes that they are looking to take on the horizon just thinking about the profitability of the business and kind of the economy we are in, just wondering if it is getting more antagonistic or less? Thanks.
Jim Foote
First question, the grain crops, the grain crop in the US is exceptional, both corn and beans are exceptional in our draught territory, it is going to be very strong. We need pricing to – we need pricing to increase, so that product will begin to move but we're going to be sitting on a tremendous amount of stocks that are moving in Canada.
The crops, the wheat crops, the estimates are improving for that. And although it is going to be down compared to last year, because of a significant carry forward of the crop that didn't move, it is about 13 million tons carry forward versus the normal eight, when you add the crop with the carry, we should have a five-year average.
So we would be sitting very good on both sides of the border in terms of what we have available to move when and if the pricing returns and it moves. In terms of our relationship with the regulators, I think our relationship with the regulators is much, much better today than it was when we were first working through some of the regulatory and cap issues.
And we don't have a problem with that now. We understand the mechanisms and how the prices increase and are comfortable with working within that regime, and don't have any problems with it.
Ken Hoexter – Merrill Lynch
Thanks Jim.
Operator
Thank you. The next question is from Randy Cousins from BMO Capital Markets.
Please go ahead.
Randy Cousins – BMO Capital Markets
Jim, just looking at your weekly carload charts, you have got a really nice recovery coming out of Q2, and it looks like we're not far from crossing over on the 2008 number. You know again your RTMs are performing much better than your carloads.
Can you give us some sense or what ever sense you are getting from your customers about the prospects for volumes for Q4, do you see a situation where Q4 volumes are going to be better than Q3, how can you sort of shape that up for us?
Jim Foote
Well, if you look at October, that trend line, it continues, and don't see anything in the future that would lead me to believe that what we're seeing here is this kind of gradual growth that all of our customers seem very comfortable with. We clearly from an operating standpoint are pleased with, and it is something that we can get our heads around and manage through.
We'd much rather see this than some kind of volatile up one, moves down the next, up won, moves down the next. So I think that what everybody is looking for and yes I would hope that I would hope that line, that those lines should cross, hopefully sooner than later, but they will cross in the fourth quarter and it is kind of a coin flip now as to whether or not it will be a plus or minus in the fourth quarter but that is where the trend lines appear to be heading.
Randy Cousins – BMO Capital Markets
Okay. And Hunter, your productivity numbers are spectacular, and the train velocity is just amazing.
As you add the volume back, can you sustain these metrics and have these metrics been improving over the course of the quarter, or has there been sort of ebb and flow. In other words, you know we see good Q3 sequential, are we going to continue to see improvements into the fourth quarter in terms of these metrics, or as the volumes come back, the metrics kind of stall out?
Hunter Harrison
No, the metrics should improve. You know non seasonality, check out the holiday period when things tend to be real soft, if you start comparing fourth quarter to third, year over year, it's fine.
But you know this group is, this operating group has worked very, very hard on this. They have learned a lot in a short period of time.
They have gotten to be very, very good with BP Power. They have got to be very good with meeting long trains over the lakes.
You know there is couple of other initiatives that we have got. One final spot on the railroad where we have got almost a 2% rate that requires a real high horse power per trailing ton.
I think Keith is working on an initiative there to get around that. So you know, you're going to continue to see these productivity gains go up, and if you go back – I mean if you really want to you know mesh you mind, go back and look at where they were ten years ago, and it is pretty staggering, but it is there and I think it will continue to get better.
Randy Cousins – BMO Capital Markets
So the real take away here is that the productivity is not a function of the fact that there is less load on the railroad. We can add load back without losing any productivity whatsoever?
Hunter Harrison
Yes, from a productivity standpoint, yes.
Randy Cousins – BMO Capital Markets
Okay. And on a related question, in terms of headcount, you know labor costs is the single biggest cost that you have got, how much volume can you add to the railroad before you have to start adding people back in?
Hunter Harrison
Well, I mean we have done a lot of things differently than others. You know if you look at our headcount, I don't know, it's down 4%, 5%, but you take into account then well may be acquisitions in the short line here in Quebec and we had the EJ&E and we have done a lot of things for example with the maintenance fees and higher maintenance workers we took – Keith took train and enginemen that were going to be in a laid off status and offered them job in engineering.
And we to be able to keep us in preparation for a rebound, we have in-source a lot of work that we're doing – where we used to contract that out, we are doing it ourselves. So I think we would like to be worried that we couldn't handle all the business that came back.
So that is not going to happen for some period of time. I hope it does.
You know the only cap, the only kind of and the only cap I see is they have got to be miracle workers to bring the whole lot out more in the terminals, I have spent all my life in terminals, and I don't know what more we can do there. But if we can sustain that level that we are now, that is powerful.
But it is more over the road metrics that will contain or improve.
Randy Cousins – BMO Capital Markets
So is it possible that you can add 5% to 10% volume without having to add to the headcount?
Hunter Harrison
Absolutely. Yes, I mean 5% to 10% is a nonevent, it is effectively a nonevent.
Randy Cousins – BMO Capital Markets
Okay, great. Thank you and all the best.
Hunter Harrison
Thank you, Randy.
Operator
Thank you. The next question is from Bill MacKenzie from TD Newcrest.
Please go ahead.
Bill MacKenzie – TD Newcrest
Thank you. My question is for I guess either Luc or Claude, and I'm just wondering what your thoughts are and maybe what the Board's thoughts are in terms of share buybacks as we get into sort of a better environment and I know this question is a bit premature, but just what your thinking about use of cash flow, you talked earlier about investing in the railroads and possibly looking at some opportunities outside of the railroad if those become available, but in the event that sort of those, that latter scenario doesn't play out, could we see buybacks returning in 2010 or is it still too early for that?
Luc Jobin
As I mentioned earlier, I mean we have got some very good cash flow up to this end of the quarter and we foresee that to continue on in fact to build momentum. Our balance sheet ratios are very healthy, so we're in very good shape, and I think we're going to watch and see how the economy performs over the next few months and we continue to have the same sort of sequence in looking at things, first meeting our CapEx requirements and making sure that our network is in top shape.
I mean that is always first call on our cash. Then obviously we look at whatever strategic projects we have out there that could make significant demands on cash.
And last but certainly not the least, we looked at dividends and historically we have had a very good clip of increases in dividends and the last issue is stock buyback. So I think those are things which will take a little bit of closer look at in early 2010 as we see where the fourth quarter actually ends up but we are in pretty good shape all things considered.
So we will see.
Hunter Harrison
Bill and just my two cents worth, I think if the economy is paralyzed, maybe that is a good going away gift to answer at the beginning of January.
Bill MacKenzie – TD Newcrest
Okay.
Operator
Thank you. The next question is from (inaudible).
Please go ahead.
Unidentified Analyst
Thanks very much and good afternoon. Hunter, when we were down in Memphis, you did point to the Port of Vancouver as a place on your network that might benefit from some investment to improve efficiency and I think you alluded to a project that Keith got underway earlier in the call, could you just offer some more color on what you're up to there?
Hunter Harrison
In Vancouver?
Unidentified Analyst
Yes.
Hunter Harrison
Well, there is, first of all, just improving the overall productivity at Vancouver. We have had some (inaudible) from time to time be a rather congested port particularly in grain season.
So we put a new leadership in Vancouver, made several personnel changes, and there are several new initiatives going on with the CP [ph]. We have made some changes where we're not hauling from a couple of motor terminals, we are trucking that because of very low volumes.
And all those things have worked pretty well to start to clear up and to improve dramatically the productivity of Vancouver which is by far our highest cost terminal. Chicago and Vancouver are the two high-cost terminals we have, so to make a like a $12,000 to $13,000 improvement a day in Vancouver is a huge, huge breakthrough.
Claude Mongeau
There is also a couple of pinch point that will be addressed with the gateway investments that the Government of Canada and the stakeholders have announced which will be helpful going forward, a few road crossings, a few track extensions, pinch points in that terminal that will help add more fluid to operations going forward.
Unidentified Analyst
Okay, thank you. And my second question is I presume that you absorbed the 4% sequential increase in your RTM holding train starts constant, just wonder if you could confirm that, did you absorb that volume with the same number of trains and yard crew starts versus Q2?
Hunter Harrison
Well, there were less train crew starts. I think and the numbers are pretty close, correct me if I'm wrong, but I think the road crew costs was down about 12% to 13% which probably is effectively the same.
Road crew starts were down 22% year over year. So, yes, and we can absorb more of that growth without additional train crew starts.
Claude Mongeau
And that is where DP comes into play. As we are rolling out, we're training our employees to be able to run DP trains across more of the territories and as we are getting the units that we're converting from the ones that we already own that we're converting to DP and the ones that we will receive early next year, the 40 that we had ordered, we're getting more DP power steps and that will allow us to continue to add to our grid those higher, longer and more efficient rates.
Unidentified Analyst
Thanks very much. That is all from me.
Operator
Thank you. The next question is from the Benoit Poirier from Desjardins Securities.
Please go ahead.
Benoit Poirier – Desjardins Securities
Hi, good afternoon gentlemen. My question obviously you show a very good strong financial performance this quarter, you talk a little bit about the NCIB [ph].
I was wondering if there is any other divestitures that you're looking at that could positively impact free cash flow generation, could you maybe provide more color on that?
Luc Jobin
We are always looking to the highest best use approach and there are some little transactions in the real estate side whereby we're working, our operating people, our real estate people are looking at the assets that we own and are basically focused on the highest best use. This one transaction earlier in Toronto was a good example of that although a larger one and it is possible Go Transit continues to want to own more of its network to improve its service.
We're certainly willing to sit down with them and do transactions that make sense for both of us.
Benoit Poirier – Desjardins Securities
Okay, perfect. And just my second question, you talked about the DSO performance down to 23 days from 27, just wondering if you could provide more color about how sustainable it is going forward?
Luc Jobin
Well, I think it is quite sustainable. I mean I think we have made a number of improvements in terms of the way in which we relate to some of the customers which have had historically longer payment terms and so on and so forth.
And keep in mind that this has been a very difficult environment as well, so I mean you know to do 23 days in this environment has been a bit of a daunting task. So I think it'll probably will hover around 23, 24.
I don't expect it to go you know back up to 27. On the other hand, it is going to be tough to bring it any lower than this.
Benoit Poirier – Desjardins Securities
Okay, perfect. So thank you for the time and wish you a good retirement, Hunter.
Hunter Harrison
Thanks very much.
Operator
Thank you. This concludes our question and answer session.
I would now like to turn the meeting back to Mr. Harrison.
Hunter Harrison
Well, thanks again for joining us. Pretty outstanding quarter to finish on, and it's been a great run and lot of fun and I'll hopefully see you down the line.
Operator
Thank you. The conference has now ended.