Oct 21, 2014
Executives
Janet Drysdale – Vice President, Investor Relations Claude Mongeau – President and Chief Executive Officer Jim Vena – Executive Vice President and Chief Operating Officer Jean-Jacques Ruest – Executive Vice President and Chief Marketing Officer Luc Jobin – Executive Vice President and Chief Financial Officer
Analysts
Fadi Chamoun – BMO Capital Markets Scott Group – Wolfe Research Cherilyn Radbourne – TD Securities Christian Wetherbee – Citi Walter Spracklin – RBC Capital Markets Brandon Oglenski – Barclays Capital Benoit Poirier – Desjardins Securities Allison Landry – Credit Suisse Securities Steve Hansen – Raymond James Bill Greene – Morgan Stanley Thomas Wadewitz – UBS Turan Quettawala – Scotia Bank Ken Hoexter – Bank of America Merrill Lynch Steven Paget – First Energy Capital David Newman – Cormark Securities
Operator
Welcome the CN’s Third Quarter 2014 Financial Results Conference Call. I would now like to turn the meeting over to Janet Drysdale, Vice President, Investor Relations.
Ladies and gentlemen, Ms. Drysdale.
Janet Drysdale
Thank you, Patrick. Good afternoon, everyone and thank you for joining us.
I would like to remind of the comments already made regarding forward-looking statements. With me today is Claude Mongeau, our President and Chief Executive Officer; Luc Jobin, our Executive Vice President and Chief Finance Officer; Jim Vena, our Executive Vice President and Chief Operating Officer; and J.J.
Ruest, our Executive Vice President and Chief Marketing Officer. In order to be fair to all participants I would ask you to please limit yourself to one question.
It’s now my pleasure to turn the call over to CN’s President and Chief Executive Officer, Mr. Claude Mongeau.
Claude Mongeau
Thank you, Janet and thanks to all of you for joining in on this call. I know it’s been a long way for some of you, so we will try to keep it to an hour and leave as much as time as possible for your questions.
You have seen the results on wire. I think they are solid third quarter results for CN.
Clearly we are growing much faster than the economy, which is our game plan. We have achieved record revenue performance.
Our revenues are up 16% over last year’s. We have had nearly double-digit RTM growth in every commodity that we served.
The only exception is coal and we have had good solid disciplined same store pricing as J.J will explain to you when he goes over the details of our strong performance. We are also balancing operational and service excellence.
There is no question our network is fluid. We are having solid service across all of the supply chains that we serve and we are continuing to drive significant efficiency gains.
As you see our operating ratio was 58.8%, which is an improvement over last year. Jim will give you more detail on our operating metrics and service performance in a minute.
In terms of financial results, I am pleased to report our operating income is up 19%, our diluted EPS is up 21% versus last year on an adjusted basis and our year-to-date free cash flow is nearly C$1.9 billion and that excludes almost C$200 million of asset monetization that Luc has seen delivered over since the last few months. So clearly strong financial performance and it underpins our ability to create good financial results and create value for our shareholders.
So Luc will give you the contour of those results in more detail in a minute or so. So clearly we are delivering on our strategic agenda.
We have a lot of momentum in the marketplace and we are gearing up to deliver another strong year with strong performance in the fourth quarter. With that I will let the team go over and come back at the end with a wrap-up and Q&A.
Jim over to you.
Jim Vena
Hey, thank you very much Claude. Solid third quarter with strength and fluidity shown across the board.
The results show our ability to have balance operating and service excellence. We handled 15.4% storage in more RTMs with fluidity and no incremental cost.
Looking at train and terminal productivity it continues on a positive trend. Terminal dwell, car velocity and train speed came in as expected given growth in net traffic mix.
We added locomotives already this year and we were able to put them to work efficiently increasing the GTMs pulled per locomotive. Our fuel conservation focus continues with a third quarter betterment of 3% which puts us in a good position to deliver on our goal of 1.5% for 2014.
We remain fluid into the fourth quarter with metrics pushing up against last year and with the network operating in a fluid state while handing more traffic. We continue our strong relevant position amongst our peers.
If you turn over to the next page, we have invested and will continue to invest in our operation for safety, operational and service excellence. We continue onboarding new employees and have improved our onboarding quality with the opening of two new training centers in Chicago and Winnipeg.
The centers provide our employees a campus with new facilities, curriculum, class training as well as hands-on real life equipment to make them the best trained and safest railroaders we have ever brought on. We continue to add locomotives to handle growth and we will be receiving 40 more before the year end.
We have also placed orders in 2015 and ‘16 to ensure we are well positioned for continued growth as well as the change to the tier four locomotives next year. We have stress tested our car fleet and have added cars strategically to handle the growth.
Finally we continue to invest in our plant, first and foremost for safety as well as growth. We have invested in many areas but have concentrated on the Edmonton to Chicago corridor with investments on branch lines, double track and yard capacity.
Before year end we expect two double track segments between Edmonton and Winnipeg, the development of Transcona Yard in Winnipeg to help with fluidity through Winnipeg, siding extensions of Fort Frances and Superior and the first phase of the Steelton Hill double track to come online. With that I wanted to pass it over to J.J.
and he can give a little more color of where this business is coming from that we are investing for.
Jean-Jacques Ruest
Thank you, Jim and good afternoon to all of you joining us on the phone and later on the webcast. For the next few minutes I will walk you through the third quarter results as well as our commercial outlook and some price and yield comments.
The revenue for the quarter totaled C$3.1 billion or 16% increase over last year. Breakdowns as follow volume and mix produced 11%, same store price was up 3.2%, and you will recall that the second quarter same store price was just under 3%.
About 70% of our revenue are same store revenue. The strong U.S.
dollar give us 3% and also helped our Canadian manufacturer and there was minimal impact on fuel. Now let’s do the review segment by segment as we do usually on the FX adjusted basis.
Starting with petroleum and chemical which posted solid growth of 18%, we doubled our crude carload from last year, we ran the Canadian rail with a third quarter annualized run rate of 135,000 carloads and Canadian heavy crude remained around 60% of our total. We are ramping up two unit train loading facilities operated by mid-stream and pipeline companies which are backed up by long-term commitment from large oil companies.
Propane, gas and diesel were up also nicely and have ongoing potentials. On the metals and minerals revenue which include iron ore, it grew 13%.
We moved 50% more frac sand carload than last year. Third quarter annualized run rate was 95,000 carload.
This was driven by a production ramp up on the plant that we serve in Wisconsin as well as an uptick in unit train volume and by strong demand from oil shale drilling areas. Semi-finished steel continues to perform reflecting good demand from automotive and energy sector.
Iron ore revenues were flat for the fourth quarter, restocking looks constructive. Forest product revenue increased 4% but the carload fell 3%, lumber and panel shipments to U.S.
market increased 11% driven by steady improvement in U.S. housing start.
Short-haul lumber carload to offshore market continue to be down but some revenue was recaptured in our intermodal export match back service from Prince George to the Port of Prince Rupert. Pulp and paper revenue were lackluster in the quarter.
Coal revenue was down 6%. The global over production of met coal caused one Canadian mine to be shut this summer and two more will be closed at the end of this year.
Our bright spot remained our U.S. utilities coal volume which was up 75% driven by restocking.
Grain reported the biggest gain at CN with revenue of 37%. The Canadian grain revenue was up 50%, yes I said 50% more than last year as we started a record 5,000 hoppers per week in the prairies.
Contrary to some media report we are moving a lot of grain and we have the fact to support it. In our U.S.
grain revenue increased about 15% on strong corn volume. CN takes pride in keeping up with U.S.
demand and service both grain countries very well. Fertilizer revenue was up 5% driven by strong potash overseas export and automotive revenue was up 13% from the Chrysler business along with improved North American network car supply.
Our intermodal franchise continues to deliver result. Their revenue was increased 12%, international revenue increased close to 25%, domestic revenue was basically flat.
We have strong vessel discharge over the West Coast driven by new business, strong import into the U.S. Midwest partly related to the U.S.
ILW diversion. The volume at Port of Montréal was also up a solid 45% which is nice to see in our underutilized eastern network.
In domestic it was a mixed bag. We had good door to door retail volume offset by lower hub to hub wholesale volume related to market pricing.
Other revenue grew 7%, most of that related to better lake vessel business. Now turning to the outlook we have a strong demand across many segments, we continue to seek out and aggressively develop opportunities within the energy space.
We have a strategy of organic growth and strategy of improving yield with inflation plus pricing and selective upscaling. If we start by intermodal the import export market demand remain constructive and we have several initiatives in the works.
In the Canadian market domestic market we are balancing volume with pricing pressures and will leverage our service offering and our low cost leadership. The reduction in gasoline price currently taking place in North America is equivalent to a big tax reduction on the North American consumers leaving disposable income that should be constructive intermodal volume in the mid-term.
Regarding this year’s grain crop, in Canada it is of a lower quality and the volume is less than predicted and more in the range of 58 million tons. We expect to be running hard on grain well into early spring.
In the U.S. we are bullish on corn and soybean production in the CN draw territory which are reported to be above last year and of decent quality.
On the coal side the outlook is upbeat for U.S. domestic utilities and bleak for export.
Recall that export coal is only 3.5% of CN revenue. From the energy renaissance we aim to achieve our target of doubling the 2013 carload ahead of schedule.
Our unique access to Canadian production regions the trend toward unit train operation on network and our strong destination franchise should make the continued growth in the fourth quarter and into 2015. We have the network capacity, the locomotive capacity the crews and the Chicago solution to meet the need of the crude industry.
The outlook for frac sand is also very positive. We have new production facility ramping up and we have new receiving facility as well ramping up.
We had guidance to get to $300 million in 2015 for frac sand which we now expect to achieve this year. From a housing start the growth in lumber and panel will be in line with the U.S.
housing start progression, the Canadian lumber and panel will continue to be largely dominated by the CN large originating franchise and by the CN much larger rail fleet as well as by a reserve power – reserve capacity entering in 2015. Moving to price and yield management we find the overall environment to be constructive.
The North American rail capacity remains snug and specific geographic network pockets or in specific equipment type or in specific time period of the year. On price we continue to focus on earning inflation plus pricing which we now define as 3% plus and focusing on upscaling marginal business a discipline that pays dividends.
On yield we find that revenue per car and same – are very weak measure of yield execution. For yield we like to use the more decisive tool of revenue to cost ratio for customers private car contribution for cartage for CM provided railcars investment and our round-trip of revenue to cost ratio model for intermodal.
In conclusion on volume we aim to grow faster than the economy at mid to high single digit carload, getting our fair share of the emerging market and on yield we are focused on getting price value for our service and for our capacity to produce industry leading operating margin. So here I will leave it – transfer it to Luc.
Luc Jobin
All right, thanks very much, JJ. Starting on page 12 of the presentation let me walk you through the key financial highlights of our third quarter’s performance.
As J.J. outlined revenues were up $420 million or 16% slightly over $3.1 billion.
We handled an all-time record volume of nearly 1.5 million carloads in the quarter. Operating income was $1.286 billion, an increase of over $200 million or 19% versus last year.
Our operating ratio was 58.8%. That’s an improvement of one full percentage point over last year, as we grew the business at low incremental cost.
Now this represents our best quarterly operating ratio performance ever. So it’s beating the 58.9% achieved back in the third quarter of 2006 after adjusting for one time fuel hedging gains recorded back then.
Other income was $2 million on the expenses side versus a $5 million gain in 2013. Net income for the quarter is $853 million, up 21%.
Foreign currency translation contributed to a favorable impact on net income of $22 million or $0.03 of EPS in the quarter. So the reported diluted EPS reached a $1.04, up 24% versus last year.
The adjusted diluted EPS also stands at a $1.04, in this case up 21 % versus the prior year. You will recall that 2013’s adjusted results excluded a deferred income tax adjustment relating to a change in provincial corporate income tax rate.
Turning to Page 13, our operating expenses were $1.832 billion, up 14% versus last year or 11% on a constant currency basis. At this point I’ll refer to the expense changes in constant currency.
First, labor and fringe benefit costs were $580 million, an increase of 9% versus last year. This was the result of three elements.
First, an increase in overall wage cost of $33 million, or about seven percentage points. This is the product of 3% wage inflation, overtime of about 3% and a 5% increase in average headcount versus last year in the quarter.
This was partially offset by higher capital work being performed in the quarter versus last year. Second element is a higher stock based compensation expense in this quarter versus last year which represents a $37 million variance or seven percentage points.
The third element is a favorable variance of $21 million or 4% percentage points due to lower pension and benefit expense. This was the result mostly of the pension expense being lower, which offsetted increased benefit costs in the quarter.
That pension tailwind is likely to shift to a headwind for 2015 however, since as we stand today interest rates are lower than at the end of 2013. Using the present discount rate for Canadian Pension plans which is just under 4% and assuming it remained as such until December 31st this would translate into approximately $75 million increase in our pension expense for 2015.
Turning to purchased services and material expenses those were $378 million, an increase of 16% or $52 million. The key driver here is the 15% increase in GTMs in the quarter.
As such, repair and maintenance crew and other volume driven expenses were up $19 million, as were material cost up $23 million, while intermodal trucking and transloading expenses were up $10 million. On the fuel side, fuel expense stood at $446 million, up $37 million or 9% versus last year.
Higher volume represented an increase of 14 percentage points in the quarter, while a lower price was an offset for two percentage points. Our overall fuel productivity was very strong in the quarter with 3% improvement and a favorable variance of $12 million.
Equipment rents were $83 million, $12 million higher than last year. And this is mostly attributable again to higher equipment leasing cost and more car hire expenses.
Casualty and other costs were $87 million, by $8 million or 11% higher than last year. This was due to higher fees, taxes and other cost as well accident related cost which were partially offset by lower cost relating to legal and environment expenses.
Turning to free cash flow on Page 14, we generated just over $2 billion of free cash in the nine months of the year, an increase of $738 million versus last year. Excluding proceeds from major asset sales this meant over $108 billion of free cash flow.
This was the product of strong cash flow generated from operations including favorable working capital. The working capital improvement is in part due to the timing so expect a lower benefit when we reach year end.
Cash used in investing activities was $1.2 billion and this was mostly the result of our capital expenditure program where we have spent to-date $1,350 million which was partly offset by major asset sales of approximately $175 million. So we still have $900 million of our capital program to complete in the fourth quarter.
We have also completed earlier this month our 2013 and 2014 share repurchase program, returning $1.4 billion of capital to shareholders after acquiring 22 million shares at an average cost just under $63. I am pleased to report that today our Board of Directors has approved a new share repurchase program for 2014-2015 providing for up to 28 million shares to be repurchased and we intend to vote approximately $1.7 billion of capital towards achieving for this objective.
Our record of continuous dividend growth at a compound annual growth rate of 16% over 18 years along with the substantial share buyback overtime, I think that record speaks for itself. We continue to invest significantly in the business while enhancing shareholders returns.
On dividends going forward we will be back to you in January while our decision with the board is very productive and should make our shareholders happy on what will be in 2015 our IPOs 20th Anniversary. Finally on page 16, our financial outlook.
We are now in the home stretch and we have a very good momentum. We continue to be optimistic with our prospects for the balance of the year.
Our objective remains the same to grow faster than the economy and to do so at low incremental cost. As we stated in our last earnings call we believe that we have the potential in the second-half of 2014 to slightly exceed the overall earnings growth achieved in the first half of the year and that is of 17%.
Given this perspective we are maintaining our annual guidance, that is aiming for solid double-digit EPS growth in 2014 over the $3.06 of adjusted diluted EPS in 2013. We are also affirming our guidance for free cash flow to reach the higher end of the $1.8 billion to $2 billion excluding major asset sale.
We are also maintaining our capital investment program at approximately $2,250 million and if weather permits we will try to push the envelope even a bit more before winter sets in. So the CN team remains as committed as always to delivering superior results and we continue to unfold the strategic agenda for 2014 and beyond Back to you.
Claude Mongeau
Thank you, Luc and it’s clear the team will be there deliver that outlook for you and so we can report on it in January and start the 20th year of CN’s IPO on a good note. As Jim and J.J.
explained we are driving clearly end-to-end efficiency, service and profitable growth and we are doing it with quite confidence leading the way in the industry. We continue to have a very disciplined approach to investment to increase our safety, increase capacity, boost the resiliency and do all of that with a view to stay ahead of the curve on all these key fronts.
The goal is to create solid shareholder value for our customers and our shareholders and that’s what this team of railroader is all about. And with this we will turn it over to your Patrick, for the Q&A.
Operator
Thank you. We will now take questions from the telephone lines.
(Operator Instructions). The first question is from Fadi Chamoun from BMO Capital Markets.
Please go ahead.
Fadi Chamoun – BMO Capital Markets
Good evening everyone and congratulations on the good results. Maybe my question is more on the topic of the day, I guess Claude if you can give us your thoughts on the possibility of M&A in the rail sector specifically among the class 1 railroads?
Claude Mongeau
Yeah, I would have thought you had your share of the M&A question today Fadi but let me just quickly put my view. We won’t comment on other railroad’s strategy but we have been very consistent and we believe with fixed railroad in North America the ability to provide service, the ability to grow organically, the ability to unfold an agenda of supply chain collaboration and create end to end service that will allow secular shift of growth ahead of inflation and solid pricing in the industry is the best going forward strategy that’s certainly our strategy at CN and we haven’t change our views on that matter.
Fadi Chamoun – BMO Capital Markets
Maybe one follow-up, just sort of, if they were to be hypothetically a merger in the industry, do you think that one merger is possible and that the industry can drive on with five class ones or is it more likely that if they were to be a merger it would be the start of round that will take the industry down to three or four participants.
Claude Mongeau
I think the keyword in your question Fadi is hypothetically and if there was a merger I believe there will be networks effect then I believe it would likely start with the four arrows in the US going down to two. That’s just my own personal assessment but I emphasize again the keyword is hypothetically.
Fadi Chamoun – BMO Capital Markets
Okay. Thank you.
Operator
Thank you. The next question is from Scott Group from Wolfe Research.
Please go ahead.
Scott Group – Wolfe Research
Hey, thanks. Afternoon guys.
Claude Mongeau
Afternoon Scott.
Scott Group – Wolfe Research
So back to a record operating ratio I want to ask you if you think that is it realistic to do a full year at 68 or better than 60 or is the seasonality of 1Q just make that unrealistic and just along those lines on the topic of margins, we are facing seems like set to accelerate but pension becoming a headwind, do you think incremental margins are better or worse in ‘15 than ‘14.
Claude Mongeau
Clearly the pension headwind is one headwind that’s out there, Luc shared the discount rate for Canadian Pension plans at the moment is 39, 39.5 and we’re two month away from December 31st, it’s looking like next year most likely this will be headwind. But we have headwinds, we have tailwinds, we focus on what we can control and we have guidance that we believe we can continue to improve our margins and achieve sustainable low, fix the operation ratio and that’s what we’re trying to deliver but if you look at our third quarter results, we have again a sub 60 operating ratio it’s not the first time in our history we typically have again a sub 60 operating ratio.
It’s not the first time in our history, we typically sub 60 operating ratio in the third quarter. That’s the best quarter to have that in the summer when things are rolling and all of our capital programs are happening.
In the fourth quarter when the trains wind down, when winters comes in the fourth quarter and the first quarter typically have much higher operating ratio just because of the accounting for capital work and also the weather and network effect that comes with operating conditions that are more difficult. So we’re going to finish the year with a record operating ratio, it looks like and we’re going to continue to improve like we have the last few years and in the third quarter with a one point improvement in the OR we delivered 19% of operating income.
We’re pretty pleased about that, it’s our strategy, it’s working and we will continue with it.
Luc Jobin
Hey Scott, it’s Luc. Just I mean year-to-date we’re 62.2% in terms of OR and if you recall I mean the first quarter was extremely, extremely difficult.
So clearly in my mind, I mean there will be puts and takes like pension as an example but clearly we think that the low 60s is imminently doable and that’s what we’re striving for.
Scott Group – Wolfe Research
Okay. Thank you guys.
Claude Mongeau
Welcome.
Operator
Thank you. And the next question is from Cherilyn Radbourne from TD Securities.
Please go ahead.
Cherilyn Radbourne – TD Securities
Thanks very much and good afternoon. I wanted to ask you question on grain.
Clearly we’ve had a historic year in grain in Canada. So I was just wondering if you could update us on the state of the grain supply chain and address the reasons for some other recent well publicized instances where CN was unable to move the weekly volumes mandated by the government.
Claude Mongeau
Well thank you for that question. Cherilyn you’re right.
We did a record movement last year, it’s about 15% more than our prior record for grain movement in Canada and 20% more in an average. The good news is the Canadian grain system is back in balance.
If you look at it with the late August, the carry out for grain was less than 10 million metric tons when the orders started to pick up couple weeks ago. Our orders in August and early September were temporarily down a little bit too around 4500 cars just because we were waiting for the new harvest and we have caught up with the supply chain.
Grain companies took advantage of that short term lull to do their annual maintenance, Rupert for instance for us was down for 10 days for their annual maintenance, Vancouver terminals were down also the same and so you have all the signs of a supply chain that is back in sync and it’s actually quite good news for us. At the same time while we’re not quite moving the minimum order in council for a few weeks because it was increased on August 1st by 7% exactly when we hit balance back, we’re actually moving record volumes.
JJ said it we’re up 50% on a year-over-year basis in the third quarter. We have and it’s also important we have maintained our market share which is slightly above 50% of all the grain that moves in Western Canada and that’s true of the last two months as well coming into the new crop and we’re doing our best to move all the grain that’s coming our way and do so for Canadian farmers, so that we can stay in balance and move the crop that’s coming, if JJ is right at 58 million tons or so.
We should be able to move hard through the fall and winter and we should probably be done in early spring at the latest early summer be back into a position where we’re storing cars, waiting for the next harvest.
Cherilyn Radbourne – TD Securities
That’s great. Thank you.
That’s my one.
Claude Mongeau
Thank you. You are very discipline about your one question, Cherilyn.
Operator
Thank you. The next question is from Chris Wetherbee from Citi.
Please go ahead.
Christian Wetherbee – Citi
Thanks. Good afternoon.
Maybe a question on the energy markets, just thinking about the recent volatility, I was just kind of curious how to think about sort of the sensitivity of the crude business and the sand business in respect to that and if you see the potential for any slowdown in either one of those commodities, it sounds like on the sand side you’re ahead of your expectations, just want to get a rough sense of maybe how we think about moving into 2015?
Claude Mongeau
Thank you Chris. I think roughly we’re looking at – you have the oil, or oil shale gas, you have oil sand and you also have SAGD.
The question really right now is more about the shale oil. I think the oil sand and the SAGD those production are much more difficult to curtail or change course.
So shale oil which is really a Bakken or Eagle Ford or Permian, the last two being in Texas is where the question is more about at what price do you slowdown. So some expert would say at $80 you might start slowing down these drilling activities in these shale oil area and these three area at $70 you would have a major cutback but broadly and that would affect both the – whatever you move out there, by crude, by rail or by pipeline and that would also potentially I think the franc sand.
So it’s really when you look at shale oil in the area where people are drilling for shale oil and we have the different list of all areas what you drilling for is where the question where they come in. So at this point we just look our frac sand as an indicator of what’s happening in the shale oil area.
Two of the three are up, one is slightly down and right now we’re not saying as we speak in the third week of this quarter. We’re not seeing things that already indicate something of the fundamental trends either up or down even in these three area.
Christian Wetherbee – Citi
Okay. That’s very helpful.
Thank you.
Claude Mongeau
Thank you.
Operator
Thank you. The next question is from Walter Spracklin from RBC.
Please go ahead.
Walter Spracklin – RBC Capital Markets
Thanks very much. Good afternoon everyone.
I guess my question is on cost and I know Claude you had indicated some of the seasonality impacts that exist when you move to fourth quarter, but given that is, I think it was JJ might have been, as JJ mentioned with the snug capacity, how might you be increasing your employee base or preparing for winter where you had somewhat full capacity utilization as you go into that, what can be a troublesome period?
Claude Mongeau
Whether it’s investment in capacity and Jim gave you a good run down on it, so whether it’s our crew base we want to be ahead of the curve, we have a lot of attrition, we’re hiring this year more than 3,000 people, the large majority of that is attrition of our employees who are coming to retirement. So really being ahead of the curve the worst that can happen is we are – we are going to have to wait for the quarter before we can correct the situation.
So we want to be hiring a little ahead of the curve so that we can handle the business appropriately. It’s no secret that last winter was very difficult.
We know we don’t control weather and but we do want to do a better job this year subject to the elements it and so we have the locomotives, we have the crews, we will continue to invest ahead of the curve in terms of capacity and we will do this to be able to serve our customers and keep our supply chains in sync.
Walter Spracklin – RBC Capital Markets
So your employee base is where it should be right now or do we see a big tick-up in fourth quarter?
Claude Mongeau
We continue to increase it but Luc maybe you want to give a little bit there?
Luc Jobin
Yeah, if you look at the run rate through the third quarter it’s actually about 3% up. In the third quarter we have been stepping it up so I mentioned 5% is the average work force that we were carrying through deferred and probably we will higher at that level, somewhere at that level in the fourth quarter.
Remember it takes about six months to get a conductor fully trained and on the premises, working productively. So we want to make sure that we fill the pipeline and so we can get through the winter with as many crews as we can.
So there is a little of a seasonal push that we are doing right now. If you look longer-term I would say it’s probably back down to the 3% give or take 3% of the run rate is probably a good place to be but you know we also have handling a lot traffic I mean labor productivities are up 10% in the third quarter and is being running about 8% year-to-date.
So we have visibility on the business that’s coming in our way and that’s why combined with the downside protection of attrition that Claude talked about that’s why we are taking this opportunity for renewal and beefing up a little bit for the winter challenge.
Claude Mongeau
And we have a little buffer that we always keep as we have transportation offices and officers ready to fill in what they have to from Chicago North. So we are building the right number of people, making sure we are just ahead of the curve.
We know we have to hire for the first quarter and second quarter next year so we are little ahead and on top of that we got a buffer with the managers that we need to use.
Walter Spracklin – RBC Capital Markets
Perfect, it makes sense. Thank you very much.
Claude Mongeau
Thank you Walter.
Luc Jobin
Thank you Walter.
Operator
Thank you the next question is from Brandon Oglenski from Barclays. Please go ahead.
Brandon Oglenski – Barclays Capital
Hey Claude I hate to do it, but I want to ask one more on M&A because I heard there is hokey team in Florida looking for a home so if you guys have any insight in to maybe future in Quebec but, nevertheless J.J. you talk about domestic intermodal and I think you threw in some commentary about pricing competition in Canada.
Can you elaborate a little bit more in that, what does that mean for the outlook as it can be more difficult to share there just given what you know your competitors folks done right now?
Jean-Jacques Ruest
Our revenue on the domestic intermodal which is a combination of Canadian domestic and cross border east and west as I said was flat in the quarter. We are not necessarily sort of shy with being flat but it starts on the basic principle that yield is a critical component.
So yield for the enterprise, yield for intermodal moment and yield for Canadian domestic market, so we are pacing our effort in volume with our – what we believe is the price that is the right price for marketplace and that’s why right now in the third quarter we were flat and it is what it is, it’s a choice that we face and we will see in the next few quarters how we manage that.
Brandon Oglenski – Barclays Capital
Okay, appreciate the color, thanks.
Claude Mongeau
Thank you Brandon.
Operator
Thank you. The next question is from Benoit Poirier from Desjardins Capital Markets.
Please go ahead.
Benoit Poirier – Desjardins Securities
Yeah, when we look at our RTM they were up 13% in the quarter. I was just wondering if you could provide more color on the expectation for Q4 and also more color about more specifically what we should expect on the grain and intermodal side given they are facing a tougher comp for growth.
Claude Mongeau
On grain last year we were running very hard. We had a bit of the setback last year as you recall in October we had miss-up on the main line so this year if everything is okay and network runs well and the winter starts late we might actually to be able to do better than last year on Canadian grain, that would be more of kind of operation condition from a weather point of view especially in December.
U.S. grain last year was also very strong but it could actually be as strong if not stronger this year as we got a good crop in front of us and our network in the U.S.
is very fluid and I want to emphasize we serve the U.S. framer just as well as fairly the Canadian farmer we serve both.
I think your other question was on the Intermodal, Benoit?
Benoit Poirier – Desjardins Securities
Yeah, weather you see the flow moving back to the western ports in the U.S. I was just wondering there was an impact as well.
Jean-Jacques Ruest
So on the Intermodal at the national side or the overseas business came in earlier this year, customers wanting to bring their product earlier because of fear of issues on U.S. west coast.
We are over that surge if you wish as we speak right now the whole network and the Canadian ports are very much in balance and very current. At the same time we hear more and more that LA Long Beach has congestion issues as this point as we speak which means that maybe in three weeks from now we start to see some more diversion of traffic again if customers decide to load for Canadian ports in Asia as opposed to people loading for Long Beach.
So we will see if there is a bit of the pick-up in November which pick-up would be related to congestion in Long Beach to be seen.
Benoit Poirier – Desjardins Securities
Okay, thanks J.J. for the time.
Jean-Jacques Ruest
Thank you very much.
Operator
Thank you. The next question is from Allison Landry from Credit Suisse.
Please go ahead.
Allison Landry – Credit Suisse Securities
Thanks, good afternoon. Thinking ahead a little bit, just given a couple of large contract wins this year in conjunction with some difficult green comps what are your initial thoughts for car load and RTM growth in 2015?
Claude Mongeau
We are not – we are going to give you a better color for that Allison in January when we talk about the guidance for the next year. But broadly speaking as you would know following the market there is no question that global trends are – they are watching at the moment, China seems to be slowing, Europe with Germany appearing to stall a little bit, it’s certainly not a bright spot and so global trends are not the best.
There has been a bit of deterioration over the last couple of months. The U.S.
economy is a bright spot and we see that continuing. There’s quite a bit of momentum, both in durable goods, housing starts, there is a whole gamut of what needs to get moved in the U.S.
So it’s a mixed bag but we are constructive. There is going to be not as much as 2014 but there is going to be a lot of grain to move, there is going to be good growth with everything that touches our U.S.
North American types of flow and perhaps uncertainty and sluggish in global offshore market. We are monitoring everything and we are broadly constructive and we will give you a better more precise update in January.
Allison Landry – Credit Suisse Securities
Okay, thank you. That was a great answer thanks.
Operator
Thank you. The next question is from Steve Hansen from Raymond James.
Please go ahead.
Steve Hansen – Raymond James
Hi, guys good afternoon. Just circling back on the frac sand question, just a little more specifically given that you have gotten into your target here already, what kind of visibility do you have on new mines coming online in addition from the recent announcements around growth going forward and I suppose as a follow-up to that what kind of constraints do you still see in the system on receiving terminal side you know that’s been a constraint up in Canada of late, trying to get a frame of reference for growth into 2015?
Claude Mongeau
Yeah, Steve the growth will come from the plants which are already on line to fully ramp up to full capacity. Also we need more destination terminal either bigger one or unit train one which are being built as we speak and there might be some other mine being built on the CN network in 2015 time will tell.
And any other fundamental demand for what’s the price of natural gas, what the price of WTI, for shale oil and much of the prices are liquid, natural gas and liquid right now look promising. Shale oil, people have different views and different questions but frac sand has still a long way to go.
I mean that’s still very much an emerging market and CN is in good position to – you can have different views how big that is, the same thing with crude oil by rail you can have different view how big that is but when you decide how big it is in your model you can assure that CN will get its fair share of both these markets.
Jean-Jacques Ruest
No question Steve that we have a very strong origination franchise that we now ship in both frac sand and energy markets in general with an equally if not stronger destination franchise. So we see those markets as constructive.
Claude Mongeau
Yes people like our destination franchise, they also very much like super Chicago solution. Now obviously frac sand is a big interline business and the interline with CN is by and large the Chicago and we can get in and out of Chicago very fluidly.
Steve Hansen – Raymond James
Very helpful, thanks.
Claude Mongeau
Thank you.
Operator
Thank you. The next question is from Bill Greene from Morgan Stanley.
Please go ahead.
Bill Greene – Morgan Stanley
Hi, good afternoon. I just wanted to return to the revenue question and that is when we look at the long-term here at least in 2014 CN and CP for that matter the Canadian rail markets grown quite a bit faster than the U.S.
rail market and maybe some of these things Claude that you just referred to in terms of structural opportunities but I am curious if you can sort of talk about how you think about that long-term market if you thought the total addressable market, is it fair that it continue to grow in the double-digits or do you feel this is a unique year and we are really more of a mid to high single-digit kind of sustainable growth rate for the revenue? Thanks.
Claude Mongeau
I think Bill you just have to look outside the window at the global economy which is slowing and you have to look at all the key markets, grain we are coming off of a 100 year crop. So over the next two years there is a $170 million or so of grain movement in Canada to go back to an average crop.
Now an average crop is just that is an assumption but there is no question you are starting off of a very high base in grain. Some of the export markets that are tied to global activity, whether it’s coal or potash are in a slower growth to flat mode.
Energy markets are constructive and will continue to do so if unless prices continue to decline as they have recently and we had a good North American economy supporting the other commodities whether it’s automotive, forest product, industrial products, intermodal. A lot depends on innovation, supply chain, thinking, our ability to grow against market share, to grow market share against trucks, to help our customers win in the market and our revenue model has not changed.
You can decide on the economy and then add a little bit more volume as we outpace the economy on a volume basis and add pricing a little bit of ahead of inflation. You certainly get good growth but in my model you don’t get to double digit unless you have a much stronger economy or something that turns around.
Bill Greene – Morgan Stanley
Okay, very helpful, thank you.
Operator
Thank you. The next question is from Tom Wadewitz from UBS.
Please go ahead.
Thomas Wadewitz – UBS
Yes, good afternoon. I have a question for you J.J.
I know you have had some on the crude by rail topic but wanted to see if you could give us a sense of what crude by rail carloads might be in 2014 just a kind of framework? And then how you might think about that number for 2015 as kind of a framework and then on sensitivity is there a lever you said the oil sands production is pretty robust you have to fall pretty far to see that reduce, but is that – how far would it fall to maybe put risk at your 2015 expectations?
Jean-Jacques Ruest
Well we are not providing at this point 2015 specific targets carload for crude by rail. We think our business will ramp up significantly that’s because of customers investment either in loading facilities, unit train or loading facilities, many of them being unit train also as well.
Also on the belief that the cars will come out of the shop we are talking to new cars and customers that we are dealing with will have them early enough in the year for everything to pan out. Regarding the price of WTI and Brent and the Western Canada Select and all these spreads, many of these capital investment at origin and destination fleet are quite significant, and so once you start the momentum going in whether the price is up $5 or down $5, I don’t think the big oil company will start to change the strategy in the same way as they don’t when they invest into pipeline.
So I think the issue is more of a mid-term and short-term unless as I said earlier when it maybe relates to shale oil where will you drill a new – when you start drilling against a new hole at $70 maybe not, but once you get going on oil sands you keep on going. But we are not providing specific numbers and but we are in position to capitalize on whatever that is out there where it’s big, it’s big for us to.
Claude Mongeau
And we’re clearly we’re ahead of our own guidance on the energy markets Tom and continue to see good momentum. As I said we had an extremely strong franchise both at origin and destination.
And as J.J. said shale plays in the U.S., the fast replenishments, drilling maybe more susceptible to short-term pricing, long-term oil plays in Western Canada, not in the short-term, it would be more long-term the pace of investments and how that pans out three-five years from now as opposed to next year.
They got the commitments, the capital’s in the ground they will move what they produce.
Thomas Wadewitz – UBS
How far out is that time lag, that’s more than a year that actually…?
Claude Mongeau
Yes, for heavy oil sands you are talking like multi-year time frames for these capital deployment. So three, five, seven, ten years.
Jean-Jacques Ruest
Yes what’s constructive is more and more you hear Executive or CEO of a larger oil producer or oil buyer who talks about crude by rail being a permanent part of their portfolio, how they get product to markets. And how they are waiting to continue to support major capital investment or to do take or pay for product with people who make these capital investments to keep that going because obviously there is a challenge when it comes to building pipeline or getting the permitting and there is also a challenge how – where the pipeline gets you in terms of what kind of net back you get there and I think the acid test of crude by rail for an oil producer an oil buyer has passed.
We made that test more than one time this year and last year. So the market sees the value of that transportation mode.
Claude Mongeau
Specially at the margin because the I mean the total for the pipelines that are not yet built is obviously much higher than people thought when they started the approval process six years. So you move as the price of pipeline goes up, as we move more and more into an under dilutive mix or bitumen we have a chance the price competitive and we certainly provide mass market access.
As long as we can do it safely we see a long-term trend for CN to be able to help market access to energy markets across North America.
Thomas Wadewitz – UBS
Okay. Just to be clear you see very little sensitivity of production in the next year, two, three years at current oil prices you just think there is a big long time lag.
And so very little sensitivity to declining oil prices?
Jean-Jacques Ruest
Canadian heavy crude has different sensitivities than shale oil, different model.
Thomas Wadewitz – UBS
Yes, they do, yes, talking about Western Canada.
Jean-Jacques Ruest
Yes.
Thomas Wadewitz – UBS
Thanks for the time, I appreciate it.
Jean-Jacques Ruest
Thank you, Tom.
Operator
Thank you. The next question is from Turan Quettawala from Scotia Bank.
Please go ahead.
Turan Quettawala – Scotia Bank
Yes good afternoon. J.J.
could you give us a sense of what percent of your contracts on crude by rail are take or pay?
Jean-Jacques Ruest
I will not do that and I think the question maybe you guys should ask is who has a take or pay with whom. There is take or pay but maybe it’s more along the line of those who actually invest major capital.
It’s an industry that works along the line with the pipeline industry. People commit to it, they commit to investment.
I think that there may be different ways to maybe understand what this is all about.
Turan Quettawala – Scotia Bank
Okay.
Claude Mongeau
The underwriting tends to be with the loading facility clients and we furnish line haul and locomotives and resources to commit to markets. All of these supply chains are backed by very significant investments on the part of those who are selling them up.
Cars, loading facility, unloading facility and the railroads are linking the two.
Turan Quettawala – Scotia Bank
Okay, fair enough. And I guess maybe one more quickly on intermodal volumes, so over the last three years I think CN has done extremely well here on the intermodal side I think your average RTM growth is about 9% or so.
Now looking into next year you obviously going to have some tough lap periods on the international side and the domestic business maybe gets to be looking more competitive. So I guess my question is J.J.
or Claude maybe in terms of your growth in intermodal over the next one to two years, can you still do sort of significantly above GDP as you have been doing the last two years or do you think it will sort of start going closer to GDP?
Claude Mongeau
Well lapping tough years is our usual challenge Turan.
Turan Quettawala – Scotia Bank
I know.
Claude Mongeau
We have been at it for 15 years and we feel good about our prospects and we’ll provide you with more detailed guidance in January. There is no question, just the sheer size of the initiatives we have in place and the carryover effect into next year, we’re broadly constructive that we will continue to grow and clearly we will grow faster in the economy.
It’s just a question of putting that in context and then assessing what the economy will be and lining up all the initiatives and we’ll do that in January.
Turan Quettawala – Scotia Bank
Okay. Thank you very much.
Operator
Thank you. The next question is from Ken Hoexter from Merrill Lynch.
Please go ahead.
Ken Hoexter – Bank of America Merrill Lynch
Wonderful. Good afternoon and Jim great job on the operational performance, but when you think about heading it to winter and next year and given the growth that you and Claude and JJ are talking about, can you talk a little bit more about access to locomotives and I know you threw out some numbers on the prepared comments but talk about, given that we’ve got one manufacturer kind of disappearing at the bidding next year the ability to get access to those locomotives and what size and amount are you bringing on board.
Jim Vena
Okay, Ken thank you very much. So, take a look at what was happening.
We’ve got one manufacturer and it looks like late ‘16, early ‘17 before the second one comes in and we’re planning for 2017. So when we built in our model and growth and how the efficiency of the locomotives, we’ve got securement for 120 as we labeled but we also have options to bring in more, so that we could make a decision over the next 12 months to decide exactly what the final number will be but I think we were set up in the right position.
We’ve brought in locomotives for this winter, we got some more coming in January and through the rest of the year next year committed and we have an option to build on that 120.
Claude Mongeau
And it’s important Ken because some of these unit train service in energy markets in particular, they tend to be very locomotive intensive. So you get a lot of good growth but you have to have the ability to match it up with right locomotive power and that’s exactly what Jim and Luc have been working on and I feel very good that we have our base commitments lined up and we have options to get us through well into ‘17, ‘18 when we will hopefully have two manufacturers back in the market serving class one railroads.
Ken Hoexter – Bank of America Merrill Lynch
Claude, do you think that’s going to be an issue into next year in terms of access to the locomotives or is the industry prepared?
Claude Mongeau
What the last year locomotive power was very tight across the entire North American industry and that’s a function of velocity with the congestion that we face with winter. If you assume a more normal winter, you assume continued preparation like we have discussed and all the investments we’re making to make sure we’re fluid and we feel good about where we stand, we certainly are resourcing to be able to handle the growth that we see in front of us.
Ken Hoexter – Bank of America Merrill Lynch
Great. Appreciate the insight.
Thanks guys.
Claude Mongeau
Thank you Ken.
Operator
Thank you. The next question is from Steven Paget from First Energy Capital.
Please go ahead.
Steven Paget – First Energy Capital
Good afternoon and thank you. Jim I recall in Chicago that you asked rhetorically what is it about CN and gave a good answer and in light of your operating ratio and other results today I think people might want to hear that, would you mind repeating that today?
Jim Vena
I said so many words, I am not absolutely sure but I think it’s basically the people and I’ve got one heck of a strong team out there. So you’ve got to have the right leadership from the very top of the house and I think we’ve got a CEO who understands how to balance what we’re trying to deliver, not having a short term view.
He has got a long term view of building this company and keep on growing but people out in the field that we’ve got. I’ve got a lot of bench strength whether its Mike Corey out west, whether it’s Jeff Liepelt or John Orr and I can go through them, it’s about, we’ve got a lot of experience from the ground up.
These guys have all started switching cars, cleaning locomotives and they know their business. We’ve got a strong team and we’re driven with one thing and that is to be able to move a box car as fast as possible.
So the agenda is clear, we want to get ahead of the game and it’s the team that does it.
Claude Mongeau
And I would say if I could just add my own a little sprinkle on Jim’s rhetorical question, how do people come together, the chemistry, the cross functional approach, the ability to be nimble but connect the dots, the vision, the right agenda, all those things come into place and it’s a people business, it’s all about execution and we think we have good momentum and it will carry through and continue to deliver solid results for both our customers and shareholders.
Steven Paget – First Energy Capital
Well thank you both. That was my question.
Claude Mongeau
Thank you so much.
Operator
Thank you. The final question will be from David Newman from Cormark Securities.
Please go ahead.
David Newman – Cormark Securities
I will back clean up here guys. So god forbid but we’ve got another potential tough winter according to the Farmer’s almanac not sure of their crystal ball but obviously your network in Chicago advantage loom large in a congested North American framework and certainly some of the earlier calls today they talked about grid lock and I have to think that given our trip down there recently that you can leverage this for market share gains, some pricing volumes et cetera, associated crude and intermodal.
I mean how can you actually, can you quantify the advantage in terms of the top line, your ability to leverage that asset down there, it obviously is quite fluid around that Chicago and it’s showing up in all day operating metrics as well.
Claude Mongeau
Jim can add a little bit and JJ might want to pitch in, but I think you put it right. It’s all about connecting the dots and it’s a multi-faceted advantage that we have.
From a resiliency standpoint we saw it last year. The ability to connect our own networks in these webs around Chicago is just huge, it’s a great asset.
We worked hard. It took us many years to negotiate, many years to get the approval, all the work to get it done in terms of integration and we’re reaping the benefit of all this hard work in terms of resiliency and services.
It’s also a huge opportunity from an asset standpoint and efficiency standpoint. We don’t have locomotive waiting on either side.
We don’t have re-crews, we are able to deeply our assets and address the issues elsewhere in our network because it’s not like we don’t have issues elsewhere. And so it’s cost, it’s revenue, it’s service and it’s who we are and we think it’s a great advantage how to quantify that, separately from the guidance and the success we’ve been having over the years is a bit difficult.
This is why we’re growing faster. This is why we’re growing at low incremental cost.
This is why we bounce back quicker when we face adversity. This is why we’re back in sync across all our supply chain at the moment.
This is why we’re in business, it’s a big asset.
David Newman – Cormark Securities
Sure. And just the segments maybe JJ where do you see it the most, does show up in crude by rail for the interchange down to the Gulf Coast, does it show up in intermodal, where does it actually show up in the best for you guys in terms of managing that asset?
Jean-Jacques Ruest
I mentioned that earlier so the frac sand, when we do it, there is a lot of interline business, crude which is also a lot of interline – intermodal obviously because you want to go south maybe Memphis or east to Detroit, lumber long haul. If you any kind of these different industries they try to go through Chicago I think the EG&E Ring Road is lot more attractive for you than a mega merger root canal.
Claude Mongeau
And maybe Jim you want to talk about – we’re just finishing cutting over, I think this weekend Kirk Yard basically upgraded plan, how we’re going to use that to build resiliency.
Jim Vena
Absolutely, Claude. So when we started on the EJ&E we looked at Kirk Yard and tell you the truth it’s been sort of our secret little advantage within Chicago is that hump yard now they can handle the traffic.
We had 25% of our business touch Chicago, so that’s the first piece as we got to be able to get through Chicago and we spent hundreds of millions of dollars to make sure that we’ve got our infrastructure to be able to handle it. So now we’ve got Symington and we got this triangle of hump yards, Symington, Mac Yard and Toronto and Kirk Yard and what we’ve been able to leverage and we will continue to leverage is Kirk Yard can build blocks to bypass Symington.
We have our length to haul and further and the same thing with Winnipeg coming south, we have with the frac sand business that’s growing. So when you put in the mix that you got 25% of our business touches Chicago, it cuts the new hump yard that is able to handle more than what that we normally have to handle.
We’ve got a little bit of buffer there help Symington and helps Winnipeg. I think it’s a win-win for us and it will help us through the ebb and flow that you normally get with traffic coming into interchange.
David Newman – Cormark Securities
That’s terrific. Thanks guys and let’s hope we don’t get that winter.
Appreciate it.
Claude Mongeau
Okay, well thank you. That was a good closing question for us.
We are very, very pleased. We have a lot of momentum.
If the economy continues to be constructive we should have very solid guidance when we meet you again in January and Luc gave you a little heads up or a little hands up about our focus following this share buyback that we just announced today about our intention to look at the dividend payout ratio and continue to reward our shareholders. So that’s the strategy, the game plan is working, the team is firing at all cylinders and we look forward to have you on the call again at the end of the year.
Thank you very much.
Jim Vena
Thank you.
Operator
Thank you. The conference has now ended.
Please disconnect your lines at this time and thank you for your participation.