Feb 6, 2008
Executives
Michael R. Haverty - Chairman, President and CEO Arthur L.
Shoener - President and COO Daniel W. Avramovich - EVP Sales and Marketing Patrick J.
Ottensmeyer - EVP and CFO David L. Starling - President, Panama Canal Railway Company
Analysts
Richard Paterson - UBS Christian Wetherbee - Merrill Lynch Randy Cousins - BMO Capital Markets Scott Nichols - Gilford Securities
Operator
[Starts Abruptly]. Turning it over to the speakers, I would like to read the Safe Harbor.
Presentation includes statements concerning potential future events involving the Company which could materially differ from events that actually occur. The differences could be caused by a number of factors including those identified in the Risk Factor section of the Company's Form 10-K for the year ended December 31, 2006, filed by the Company with the SEC.
The Company will not update any forward-looking statements in this presentation to reflect future events or developments. All reconciliations to GAAP can be found on the KCS website, www.kcsouthern.com/investors.
And now, I would like to turn it over to the KCS Chairman and Chief Executive Officer, Michael Haverty.
Michael R. Haverty - Chairman, President and Chief Executive Officer
Thank you very much, Bill, and I would like to welcome all of you to the Fourth Quarter and Year End 2007 Earnings Presentation. Got a pretty good crowd here today in New York, when you consider the work competing against the New York giants parade out here, I think we got a pretty good turnout.
Joining me today in presenting our fourth quarter and year end earnings will be Art Shoener, our President and COO; Dan Avramovich, Executive VP of Sales and Marketing; and Pat Ottensmeyer, Executive VP and CFO. Also with us today are Dave Starling, who is the President of the Panama Canal Railway Company.
And if any of you have any questions, Dave, during or after this meeting, feel free to visit with him. Also we have Michael Borrows, our Chief Accounting Officer, Kansas City Southern; Bill Galligan, the Head of our Investor Relations; and Ginger Adamiak, who is the Director of Investor Relations.
We will start out here. We will start out with the highlights of our presentation here, and we will talk first of all about the operating ratio and the record operating income revenues and the EPS.
We had a good operating ratio for the quarter, and we exceeded the 80% that we had projected for the year. Operating income and revenues and even EPS would also be a record, other than the year that we had the VAT settlement, as we had a little better EPS at that time that was a one-time type event, when you take that out, this is the best year that we also had from an EPS standpoint.
Let me just kind of, before I go forward here, talk a little bit about the year-end review kind of how we did during the year. At the beginning of the year, we said that we thought that the revenues would probably be up about 9% for the year.
We adjusted that in midyear to say about to 6%, as we saw the economy softening a little bit and we came in at 5%. We would have been at 6%, there were some tax law changes, down at Mexico at the end of the year, that caused some people to hold off on bringing some goods into the country, particularly grain and to some degree, auto parts because there was tax laws that were actually encouraged to deplete their inventories and that had an affect, particularly on our December revenues, had it not been for that, we would have been right at about 6%.
At the beginning of the year, we said that we intended to achieve below an 80% operating ratio and at midyear, I think there were some skepticism, but that might happen because at that time our operating ratio was over 80%, but if you look at the trend lines which you'll see here in some subsequent slides, we always start our first quarter a little slower. The revenues get better as the year goes on, so we had projected that we would in fact come in below under the [ph] operating ratio for the year, and we certainly did that.
I might also talk about the five year plan. The first quarter of 2007; we went into great detail about what our objectives were over the next five years.
Even though our revenues were down based on what we had projected that would be in the five year plan; we did achieve our operating ratio objective. We achieved our EBITDA objective in the five year plan.
Our return on capital employed objective was achieved, and also our EPS objective was achieved, in fact, we actually slightly exceeded all of these objectives of our five year plan. And we see no reason that going forward, from what we see right now that 2008 should not also be inline with what we had projected in our five year plan, even though we will make some adjustment to the revenues because of the economy.
We still believe that our earnings objectives would be what we said that they would be in the first quarter. A lot of our growth is based on new opportunities, we've said before we think we are the fastest growing railroad in North America.
And because of that even though the economy is slow, we have a lot of new growth opportunities, and particularly on the automotive side. You might say right now that the automotive business is terrible.
But if you look at a slide that will be coming up here that Dan Avramovich will show you, we have three new automobile assembly plants under construction in Mexico, and what's happening is more and more of automotive production is shifting to Mexico under our railroad. So even if this year is not a great automotive year, these are the years...
this is the year that those plants will be constructed. And certainly going forward we expect to see some great opportunities there along with many other opportunities.
And that's why we think we'll achieve our five year plan, is because of the growth. Just some of the other highlights for the quarter here, our earnings per share were up 37%, 3.7 points better than the operating ratio, revenue growth was up 4%.
If you look at this operating ratio trend line, as I said, it's first quarter, second quarter, third quarter, fourth quarter revenues get better, historically, and we see operating ratio improvement. A little tiny blip a year ago in the third quarter, but that's when we had some additional expenses because of our MCS implementation in Mexico.
But other than that we pretty much follow a trend that every quarter of the year gets a little better for us. Year-end highlights, earnings per share up 45%, operating ratio 2.5 point improvement over a year ago, and overall for the year our revenues up 5%.
With that I am going turn it over to Art Shoener, President and Chief Operating Officer, to talk about some of the results for the fourth quarter and for the year. Art?
Arthur L. Shoener - President and Chief Operating Officer
Thanks Mike. Just another view of the operating ratio here for the last quarter for the last three years, you can continue just another way of looking at the improvements we've made over the last three years.
And also over the last three years, the total year now, I might add Dave Starling is here with us and we are very pleased with the 79.2, but we are not nearly as good as Dave's 57 that he finished the year. So, we envy you Dave; we'll keep trying.
Let's take a look at revenue growth, it was up 4% quarter-over-quarter led by chemical and automotive volumes, particularly in Mexico; firm pricing in forest products and metals. Revenue growth for the year, as Mike has already talked about, up plus 5%, again chemicals and automotive pricing across the board; Dan will talk more about that when he is up here.
Let's look at the bar chart on our expenses for the quarter. Carbon benefits, a very big improvement that was led by a Mexican profit sharing benefit; which Pat is going to talk in detail with you about.
And overhead credits as well as managing our comp expenses. Fuel was up, due to fuel price, primarily.
Consumption is improving. The new locomotives are starting to show up, and we're using those, so we are going to see more and more fuel consumption improvements, but fuel price jumped dramatically up almost 2.5 gallon here in the US.
Purchase services and equipment, both are down, that's primarily because of turning locomotives back and reduced freight car expense. One that we are not real proud of, but we'll continue to work real hard at is the casualty side and that was because we've had fewer derailments, but we had some big ones throughout the year that hit us pretty hard.
We are pleased and it looks like we are on track to win another Gold Harriman Award in the safety aspect as we led all of our class of railroads last year. Looking at the full year same type story that we just talked about, fuel primarily a price issue.
And the purchase services in those types of things, we are starting to see the benefit of turning back in the old locomotives and reduced maintenance expenses. One of the highlights that we are especially pleased about, and lot of you know this, the first vessel showed up at the New Port facility at Lázaro in November and was unloaded at Hutch to quite a fanfare.
The President of Mexico was down there as well as a lot of other people. We have five carriers now calling on Lázaro, Cosco, Evergreen, Hapag Lloyd, APL and Maersk.
And we ran a trip in December with about 25 customers and the steam ship lines joined us. We toured Lázaro with a lot of the various customers and can describe that little bit here later, but...
I think we had the five steamship lines with us, had a lot of interest, took them from Lázaro up to Morelia that's about 250 miles, they were very impressed with what they saw. We are looking forward to great things from Lázaro, as we have mentioned.
In 2007, we continue to improve the physical plant at the KCS and KCSM, just a quick overview here of some of the things we accomplished, we continue to invest in the high-end rail process. Opened a new shipyard in New Orleans for some major plastics customers.
On the Meridian speedway, a couple of highlights there, we completed almost 95% of the CTC, rebuilt a major bridge on the Ouachita River, at Monroe. Which was a major project, we did it under traffic.
And in fact there was a highlight in of the engineering magazines the way it was rebuilt. And we continued to upgrade the route out of Lázaro, up to the US border.
And I can't overlook the new locomotive showed up, you can see we have got about 120 plus 30 pull-aheads that got in '06, little early. So we've retired 220 plus locomotives.
Going forward here's what we have got in store in '08. Victoria Rosenberg build out, I'll talk about it here in a minute.
We have spent about $170 million on the Meridian speedway we'll spend about another $40 million this year. That sidings, track improvements and finish up the CTC and we are spending some money in the Kansas City area on some new operation improvements that we are going to make new sidings on the Shreveport Beaumont line.
Continue our tie-in rail programs in both Mexico and the US. More sidings complete our siding spacing project on the Lázaro to the US border.
And get 60 more new locomotives which will finish the 210 that we said we are going to buy and continue our retirement and turn-back of leased locomotives. One thing I would add, in '08 you are going to see here in the first part of March some of you all have asked when are we going to start including the KCS and velocity dwell times inventory in our KCS numbers, and you'll see that here starting in March.
We'll add KCSM, you'll see it is KCS system numbers, and we'll report on, a few of the key terminals in Mexico also. The intermodal plan, we plan on opening IFG which is Kansas City, the new facility will be opened here in March, middle of March.
That's the one we have talked where we had the airbase. So great way to lay...
build an intermodal facility, we are laying 8,000 feet of rail track down the middle of a runway. So, we're excited about that.
We will have Rosenberg first phase opened in April for the intermodal facility there, and we hope to start on MEGAMEX, the site that we are working with both the state of Hidalgo and the state of Mexico in the final stages of deciding which location we pick. And we would...
we have went through the process and picking partners, who is going to develop it with us, and we hope to get that facility started in the second half of '08. Victoria-Rosenberg, just a quick update here where we are at, as you've heard us talk about, we've applied for a rip loan, we expect to see it by the mid-year.
We are going to save 160 miles of busy and congested Union Pacific trackage, the replace stage is about 70 miles. We did some work in '07, we clear to right [ph] away, we are starting construction this year, and think we have started some of the work already.
Like I said in April, we will open the intermodal facility and we expect to have the line open either in later part of '08 or right after the first part of '09. So, with that as a quick update, I am going to turn it over to Dan Avramovich.
Daniel W. Avramovich - Executive Vice President Sales and Marketing
As both Mike and Art had indicated we achieved record revenues in the quarter of $460 million or about 4% over 2006. We look at the details by market segment, we'll see that both chemicals and intermodal grew in double-digits, both 12%; Automotive grew little over 6% in a down sector, actually if you look at our third quarter we had a really robust growth in the third quarter.
So, it did slow down somewhat into the fourth quarter. Coal grew 2% but we lapped a rebasing in 2006 where we had a rebasing of a major contract for utility, ex that increase that we got from the fuel surcharge in the fourth quarter last year our overall revenues would have been up about 10%.
As both Mike and Art had indicated previously, we did get impacted in the Ag side from a volume perspective as customers weren't centered on reducing their inventories in the fourth quarter. We are actually seeing a lot of that volume come back in the first part of January, but clearly it was about 4% to 5% in the quarter that we experienced in the Ag side.
If you look at the mix of our revenue per unit, our overall peer pricing grew 8%, again fairly consistent with what we saw last quarter, which was up 9%. We did have a fairly major reduction from a mix perspective, about a little over 1.5, due to lower higher revenue per unit movements of both forest products and the Ag side of the equation.
As you will see shortly, there was a fairly dramatic movement between... within each one of the business units as well.
Overall volume, albeit down... on a pure sense down 2.5% in the quarter, we take out the haulage that we lost actually towards the end of March in 2007, our volumes actually grew 4.9%.
You think about last quarter, we are up about 3%. So, continuing to improve kind of the volume from quarter-to-quarter, excluding the haulage.
So, you will hear that we talk about that one more quarter, and then, as we get into the second quarter of 2008 will be kind of pure and without that. Here again, overall carloads are up 4.9% excluding the haulage fees driven by, both, chemicals and intermodal.
Intermodal ex the haulage up 27%. Our volumes through Lázaro was up 38% in the quarter.
So significant increases in our Lázaro business. For chemicals, we are up 13%.
Chemicals was actually been strong pretty much throughout the year, but we had new opportunities that we brought onboard, already talked about the storage and transit yard that we facilitated for a major chemical customer where we really redefined kind of their entire distribution, inbound and outbound from their plant structure. You will see some of that, actually, showing up into the first quarter, as well in 2008.
Lot of the movements were short-haul in nature, at least in the quarter which you'll see and kind of an impact on our RPU in this quarter as well. Automotive, as I mentioned earlier, up only 5%, somewhat disappointing given kind of the volume that we experienced in the third quarter.
I think a lot of the Mexican production players actually pulled back, based on sales inventories. I talked about the reduction somewhat in the Ag side, here again down 4% and two to three points of that is actually driven by the inventory changes.
Coal, pretty flat this quarter, we have been fairly consistent running anywhere from 3% to 5% volume growth for coal throughout the year. A lot of that, and here again the plans that we serve throughout our franchise have actually replenished their inventory, so fairly flat during the quarter.
Looking at the pricing side, although overall our RPU is up about 6.8%, you can see what I was mentioning early, you see a fairly dramatic changes from [Audio Gap] business unit to business unit. You will notice intermodal up 16.7%, a lot of that is driven by the fact that we had less, lower revenue per unit haulage traffic.
So, almost the entire amount ex 3% to 4% was driven by that change in volume. You'll see the drop in chemicals there were down or fairly flat, again a lot of that driven by the new business opportunity that we brought in with the shorter haul traffic, ex that we are probably pretty consistent with what the year-to-date number was from a pricing perspective of 5% to 6% improvement.
Automotive, we had a length of haul change within kind of the mix of business that we had in Mexico of about 7%. So, some of our longer haul inter-Mexico traffic was down, whereas some of our shorter haul traffic inside Mexico was actually up.
And you can also see kind of the impact on the revenue per unit from... on coal's perspective.
If you take out the fact that we had a rebasing in the quarter, actually RPU would have been up about 10%. Turning to number of the new opportunities that Mike had alluded to earlier, our pipeline sits at about $132 million.
We won $10 million of business, here again, a large percentage of that being in the chemical sector. You'll actually see a continued improvement, actually in the first quarter from a conversion perspective in 2008, specifically in chemicals.
And we actually added about $23 million to the overall pipeline, predominantly in Mexico opportunities. Looking at the highlights for 2007, the...
about a year ago, I guess, I was standing here talking about how much business we would actually convert. I said about 40% to 50%.
Actually our conversion rate was up about 75% for the year. We've added over $100 million of incremental business, 60% of which has been in automotive, intermodal and coal opportunities.
Additionally, we continue to replenish the pipeline when we added about $116 million of new opportunity this year. As Mike indicated, we are very bullish on the automotive industry in Mexico.
We have eight major plants that we serve across our franchise, two of which are actually going through significant expansions this year, specifically in Toluc and outside of Monterey, additionally we are adding five new plants... are being added across our franchise starting from the south stretching across their entire franchise going from Morelia, St.
Louis [indiscernible], Monterey, Oklahoma, and then ending in Toluca... Tupelo, Mississippi.
Turning now actually to an outlook for 2008, maybe starting on the volume side, a lot of these new business opportunities and continued expansion in automotive plants will drive the automotive volumes up fairly significantly. We anticipate the Lázaro volumes will continue to come on...
be in the double-digit area anywhere from 10% to 20% based on what we are hearing from the five liner companies that are currently calling on Lázaro. With Ag, metals and chemicals actually being in the low single-digits growth for next year is what we are anticipating.
Softness will occur and continue to occur, we anticipate, in the forest product sector. We will had, actually, a negative growth in coal as we lost a contract for one year, and a main utility in Mexico has changed, kind of, some of their sourcing of coal from Lázaro.
From a pricing perspective, we look at having Ag, forest products and chemicals continuing with the trend of pricing in 4% to 6% ex any new rebasing of contracts. From an intermodal perspective, I showed a slide here, flat basically, is probably low single-digits, due to the lot of the truck capacity and truck competitive nature of that business.
Automotive, we see is positive, we will be having the benefit of a rebasing of a contract there. So that could approach double-digits as we approach 2008.
And coal basically, low single-digits to flat. So, with that I will turn it over to Pat.
Patrick J. Ottensmeyer - Executive Vice President and Chief Financial Officer
Thank you, Dan, and good morning everyone. Just giving a little more of an expanded view of the income statement for the quarter.
As you already know, revenues were up 4% over the last year, operating expense is down 0.7% due to good expense control and performance in a number of areas including comp and benefits which... as Art mentioned...
was driven was, at least, partially by changes in the tax law and deferred comp expenses; I will talk about in more detail later. We had a small currency profit for the quarter, down from the previous year.
Equity earnings were up significantly, and just as a reminder the three main contributors to equity earnings are Southern Capital, which is a leasing company, Panama Canal Railway which was the main driver for the increase year-over-year and Ferroviaria de México which is a terminal operator in Mexico City. Interest expense was down about a little over $5 million for the quarter, and that has to do with the full quarter impact of some of the successful refinancings that we have completed recently, particularly in Mexico.
In context expense was up noticeably, and again that's driven by the changes in the tax law in Mexico which I will talk in more detail. Net income up 35%, and as you saw, the operating ratio show a significant improvement year-over-year.
Earnings per share for the quarter up $0.56, up 37% from last year, for the full year $1.57 up 45%. Another look at earnings per share, in sort of sequential time line, obviously, you see good improvement quarter-over-quarter.
One thing I will point out here, if you look at the box at the bottom of this page you will see we had about 2 million fewer shares in the fourth quarter of this year compared to the fourth quarter of last year. And that relates...
you may recall we drew attention to this earlier this year. When we reached agreement to settle our remaining obligations with TMM, we paid those obligations in cash rather than shares.
Through the fourth quarter of '06, our fully diluted share count included shares that could have been used to repay those obligations. So, the effect of us paying those obligations in cash; essentially reduced our shares outstanding by about 2%.
Again operating income on a sequential basis for the quarter-over-quarter was up about 23% and for the full year up about 19%. Net income, similar trend lines, up 35% quarter-over-quarter, and up about 41% for the full year.
EBITDA, $157.8 million in the fourth quarter was up 10.6% over the last year; and for the full year, EBITDA $533 million, was up 12.5% over the full year of last year. As Mike mentioned, in his opening comments, the EBITDA was above our targets set in the long range plan, even though, obviously, revenues were a little bit lower than we had expected for the full year.
Free cash flow, obviously, you will see, compared to full year of last year, we had slightly negative cash flow, but the big driver to that was a decision, I think, that we mentioned in the third quarter Analyst Call that we were going to be purchasing locomotives in Mexico rather than leasing and again that was primarily tax driven. So you can see in the box at the bottom, our cash flow included in the capital expenditures line, $118 million that we spent on locomotives in Mexico.
Those locomotives were in our original capital plan, but they were intended to be leased, and due to the change in the tax law, it made tremendous sense for us to change that. And we purchased some, which drove our capital spending to $411 million for the full year and a cash flow at negative 22.
Net cash provided by operating activities was up significantly over last year and that was because of higher net income, deferred taxes, improved receivables performance. If you look at our balance sheet which is included in the press release, our total receivables were down about $90 million from the previous year.
It was offset by lower payables which was primarily driven by some locomotives that we had financed at the end of 2006 that we paid for in 2007. Credit statistics, you can see our, generally our credit statistics are improving, interest expense about $10 million lower for the full year $5 million lower in the quarter.
So, you can see some of the financings that we did in the early part of the year haven't quite rolled through to full year impact. If you look at all of the refinancing we've done in the past two years or so our total interest expense is going to be reduced by $22 million on an annual basis, and all of our credit statistics generally improving over where they were last year.
Liquidity summary this is a chart that you've seen in the past few quarters, you'll see, again, because of the decision to finance locomotives instead of purchase locomotives, instead of leasing them, our liquidity was quite a bit lower at yearend. We had already taken delivery of and paid for out of cash balances, $98 million, actually it was more like $110 million or $108 million of locomotive purchases of which $98 million of liquidity will be replenished when we complete the permanent financing which we are expecting as early as this week or certainly before the end of the month.
So, once we complete that our adjusted liquidity will be closer to where it was at about $220 million, the other thing, I'll mention, just shortly after the third quarter of '07, where we had $282 million of total liquidity, we made the payment for the settlement of the remaining TMM obligations which was $51 million. So, really when you look at some of those adjustments, our liquidity remains good and fairly stable from where it was at the end of the third quarter.
2007 finance highlights, as you know, we completed the refinancing of the Panama Canal Railway in November, very attractive financing, $100 million total deal which refinanced all of the debt at Panama Canal Railway plus returned, at closing, approximately $25 million to each of the two owners. Since then there have been release of some escrowed funds that were held back at closing that would take us to about $29 million for us.
And we expect there are additional escrowed funds that will be paid out in the future. And as we had previously reported, we expect our share of the total proceeds still to be about $35 million.
We completed a new term loan, bank term loan early last year at KCSR just to improve liquidity, very attractive financing, LIBOR plus 175 for that additional term loan. We replaced and refinanced credit facilities in Mexico, probably the biggest and most significant refinancing was the early redemption and refinancing of the KCSM 12.5% notes, which was done, unfortunately, in better times in the credit markets, at seven and three-eights resulting in a substantial savings in interest expense.
And then couple of large locomotive financings, one for KCSM and one for KCSR. And then probably the one that people are focused on and more interested in, is the passage of the new tax legislation in Mexico.
This was published on October 1, 2007 and became effective on January 1, 2008. It is essentially like an alternative minimum tax concept.
You continue to calculate income tax, but if the flat tax, which is referred to as IETU is higher than that then you are subject to paying the IETU tax as well. It's imposed on a broader base than the income tax.
You do not get the benefit of interest deduction, NOL deduction and limited deduction for existing capital base. On the other hand, and the good news is that new capital investment is deductible for purposes of calculating IETU.
So, that is one of the reasons and probably the biggest reason for things like the decision to purchase locomotives instead of leasing them, because you get essentially an investment tax credit type of impact. Tax rate is 16.5% initially, rising to 17.5% by 2010.
And going forward, we expect to be a regular income tax payer rather than an IETU tax payer, although our tax rates will increase. Go back and don't want to get into all of the details and technical implications of this, but we think there are couple of key points that you are interested in and investors should understand about the impact of this in the fourth quarter and going forward.
The impact of the new tax legislation, on our comp and benefits expense, in the fourth quarter was a non-cash credit of about $10 million. And that, at that level that will essentially be a non-recurring type of credit in that magnitude.
So, if you think about, just the impact of this initially is about a $10 million credit to operating expense which if you go back to Art's slide, we would still have shown a decrease in comp and benefits year-over-year due to some of the other things that Art mentioned in his part of the presentation. On the other side of that we had about a $5 million increase in income tax expense.
Again, driven by non-recurring, non-cash items which is the reason for the increase in the effective tax rate for the quarter and the year. Boiling that all down to earnings per share, probably about a 2% to 3% improvement in earnings per share, because of all of the moving pieces related to the impact of the tax legislation, and again going forward, we would expect that our effective tax rate on a consolidated basis is going to be in the area of 31% to 32%.
Next, I'll talk about our capital structure and financing maturities. You'll see, again, I think we first mentioned this in the third quarter Analyst Call that due to a provision in our bank debt, bank agreements, that have a stated maturity of 2010 and 2011, but have a trigger that the maturity can be accelerated to a date which is 90 days before our next major bond maturity, which in this case is October of 2008.
We began to show all of our bank debt as current at the end of the third quarter of 2007. If we refinance, which we plan to do, the $200 million, 9.5% bonds early, then the maturity of the bank debt will automatically extend and the facility and all the term loans and revolvers will stay in place and we will have no change to them.
So, it is our expectation that in probably a March-April timeframe, we will approach the markets and refinance the $200 million, 9.5% bonds. And obviously credit markets have deteriorated since for the last financing that we did, but we believe we have access to the markets.
It's going to be more expensive for us, probably still a savings over the 9.5% coupon that we're showing here, and again that will probably be accomplished in the March-April type of timeframe. Talking about financing activity, in the first quarter, we will complete the financing of the locomotive purchases in Mexico that will be about a $108 million for 60 new locomotives, and that again will close in the next couple of weeks.
We'll also have a leverage release financing in the US. In the second quarter, again, we'll issue probably something larger than the $200 million expiring.
We'll definitely want to refinance the tender premium and fees and expenses, and replace the 9.5% notes again in the March-April timeframe. And then we have the 4.25 Series C convertible preferred that we will convert the common equity in May and that's about 13 million shares, and those shares have been shown in the fully diluted share calculations for the past several quarters.
And then in the third quarter, we have got a couple of additional locomotive financings, purchases in Mexico, and debt finance in Mexico and then a lease in the United States. And then as Art mentioned, in the third quarter we would also expect to have a final determination and approval of the $100 million rift loan for the Victoria Rosenberg buildout.
And with that, I will turn it back to Mike for some concluding comments.
Michael R. Haverty - Chairman, President and Chief Executive Officer
Thank you, Pat. What I would like to do is conclude here with kind of a 2008 outlook.
We expect the revenue growth for the year to be in the high single-digits. We expect continued operating ratio improvement.
We said in the five year plan projection that every year we would look at between one and two percentage points improvement on the operating ratio and we did little better this year than we had anticipated. Going forward in 2008, we think that there should be an improvement of a point plus on the operating ratio.
Cash capital expenditures will be approximately $500 million, if you also add in the Meridian speedway capital plus some leases that the rating agencies look at as capital; we are going to be around $700 million this year which is about 3% above what it was in 2007. And both of these years are big years for us, but we have said that we expect to see a lot of new business and have a lot of great business opportunities with not only the new automobile assembly plants but many other opportunities as well.
So, we do not intend to skimp on the capital. We think that capital going into infrastructure and equipment to be able to handle this business is the right management decision to make at this time.
And we will continue to spend the capital that we have planned. We will focus on execution, and we are committed to the achievement of the five year plan that we presented in the first quarter of last year, and as I said earlier we think we will be on target for that plan this year.
Let me close by making a few comments about the Panama Canal Railway Company. We introduced Dave Starling here earlier and Art gave...
you may compliment on having a 57 operating ratio. I might also say that financing that Pat talked about turned out to be the best financing deal, and got an award in Central America this past year 2007.
So, things are going very well in Panama. And if you look at the growth of the units that are shown on this chart here and you look back in 2005 when we were about a 109,000, and then 2006 about 114 and last year jumped up to almost 225,000 and this year almost 263,000 units are projected.
And it took a little while to get this project off the ground we talked about Panama Canal Railway Company was going to happen. And I think some people just didn't quite see it on the radar screen, but it's going to be a great generator of the cash for both of the owners, ourselves; and my jack [ph] reach on, 50%.
And I would like to maybe also say that there is some similarities between Panama Canal Railway Company and the Lázaro Cárdenas. I know there is lot of people that had skepticism...
do have skepticism about how Lázaro Cárdenas will really develop. But it is developing...
you look at Hutchison has put $250 million into a three plus phase project down there, and you have got enough room down there for probably five more ports, the size of Hutchinson. And as we've said before, when you look north of Lázaro Cárdenas into the Mexico City Guadalajara, San Luis Potosi area, you got 55 million people, get a shorter route to Houston, you get a shorter route to Atlanta.
So, the same skepticism that might be there about Lázaro Cárdenas is what we saw with Panama. Just watch the San develop because that's going to happen.
Okay, with that why don't we open this up to questions for those here in the audience in New York. Question And Answer
Michael R. Haverty - Chairman, President and Chief Executive Officer
Would you please identify yourself?
Richard Paterson - UBS
Hi, Mike, it's Rick Paterson from UBS. Question on the locomotives, can you talk about exactly when they'll be fully implemented and what that is expected to do in terms of the loss in dwell and the potential magnitude of improvements there and then how it runs through the income statement?
Arthur L. Shoener - President and Chief Operating Officer
Well Rick on the locomotives, we'll get another 60 in the second quarter. And early third quarter we will finish that.
For the last 60, we've got 150. As we said, we retired and/or turned back a little over 200 plus.
Part of our implementation of that locomotive, we've been using those locomotives in the last quarter of '07 to pay-off a bunch of horsepower hours that we owed people, now we are have worked all of them down and/or paid them off. In fact, we actually have some people owing us, but our plans going forward with the new locomotives and the fuel efficiency; there is a cornerstone around making sure we use the locomotives and use them in the service they are needed and really pay the benefits.
And we've developed a plan, sort of, modeled after South West Airlines. We look at how quick they turn their airplanes; we want to do the same thing.
We want to sort of run the transits alike, particularly, for the merchandise and intermodel network, and we sort of nicknamed it the 737 plan. Basically, two ACs put together, will basically handle just about everything except for the some other bulk trains that we shove over the hills in various places.
But with quick turnaround in sort of a commonality, we are going to get away from having to do what we call a lot of slicing and dicing of locomotives and terminals. Basic concept will be able to move quickly through the terminals and turn quickly at the endpoints.
We think all of these things, plus the reliability of good locomotives will decrease our hours of service tie ups, allow us to increase the velocity on the railroads. We have been in the 23, 24 range here last year, part of that was maintenance or weight related on the North South line, part of it was some of our locomotive issues.
We look to see that go up in the 25 range in both Mexico and the US. And the 737 plan is for Mexico and the US, and we have already started running those kind of operations in Mexico.
They've got I think about 50 sets put together like this, and we are starting to use it. In the US we probably got about 30 or 40 sets put together, but there is, that's just some of the mini-savings we see.
There is probably a lot of quality failure costs out there, we know that we've had in service and other things that will bubble up, as we run a better operation with good locomotives. We still got some, we are going to overhaul some of the early ACs that we've bought, the ST 70s [ph], we will continue that plan.
They're six years old and we'll finish the GEs, but half of our fleet, a little over half of it is the road power and of that probably 85% to 90% of it will be AC power. So this 737 thing that we are talking about, we think, that we look forward to having that implemented by the middle of the year.
Across the board we think that's going to improve our reliability, our dwell and our velocity.
Michael R. Haverty - Chairman, President and Chief Executive Officer
Okay other question.
Christian Wetherbee - Merrill Lynch
Hey it's Chris Wetherbee from Merrill Lynch. Just a question on the casualty and benefits line...
I missed it, I apologize, if you guys covered this before. What was the cause for the bump in the quarter, specifically, I think you mentioned the year, but I was curious about the quarter change?
Arthur L. Shoener - President and Chief Operating Officer
Chris we had, I think, a couple of things, couple of things, we had a couple of derailments on the North South line, broken rail. That's why we are going to lay about 50 miles of rail on the north south this year, and we have increased our testing, coupled with an accumulation moving across from another accounts, some vandalism that we had in Mexico to our cars.
That was an other account that was probably the bigger drivers of that.
Christian Wetherbee - Merrill Lynch
Okay, and then just jumping back to the locals for a second. I don't know if you mentioned.
I know you said that you took out about 220 in the year, you retired 220 old locomotives. What do you think is the total target for the full replacement program...
you have 210 total coming in over the year and some change period, what would be your target foreseeing it now.
Arthur L. Shoener - President and Chief Operating Officer
Somewhere between 325 and 350. So, I think we are also examining our four-axle fleet.
When I've got this floor, I will just give a pitch for it... we're taking a look at some innovation in the four-axle fleet too that might even give us some more benefits, but we are not ready to talk about that yet, but we believe the new ACs, and the utilization plans, and the reliability are going to enable us to get rid of just about all of our old ST 40s [ph], we've got much of the super sevens in Mexico.
We are going to retire and/or sale. And we will have probably one of the youngest road fleets in the country.
We will grow from about 22 to 23 years old, down to about 9 years old.
Christian Wetherbee - Merrill Lynch
Okay, yes, that was my next question, so thank you for answering that. And then just finally, on the coal situation, Dan, I think you mentioned there was a coal contract that went away.
I think... did you say it was a one year impact, or was that, that just is going away, is there an expectation to bring it back.
And then just following on that, does that impact kind of what you guys have said in the past about the opportunity for coal through Lázaro and just kind of where that stands now?
Daniel W. Avramovich - Executive Vice President Sales and Marketing
Yes the, it's an one year impact, so it is a one year contract, actually the customer went out in anticipation that we would be actually into routing, all right, and it didn't work out that way. So, they saw the error in their way, all right, so that's why it's limited to a one year deal, which will be good for us, bad in 2008, but good as we approach 2009.
And the piece I mentioned on Lázaro was really more of a one-time opportunity. We had fairly small volume, $3 million to $4 million of volume for CFE, but here again they make sourcing decisions every year, so they are not tied into long term pieces, but we are working with them on potential opportunities to source coal from other locations for them.
Randy Cousins - BMO Capital Markets
Randy Cousins, BMO Capital Markets, I wondered if you guys can talk about productivity. I noticed that headcount was basically up a little, and your GTMs were kind of flattish.
Your goals for, in terms of sort of labor productivity for 2008 and how should we model up our headcount, in terms of thinking about KSU and the total organization.
Michael R. Haverty - Chairman, President and Chief Executive Officer
Randy, you are right, our headcount has been flat, we took a couple of hundred out here in '06 and we have flattened out right now. I think with some of the growth areas getting our people in the right place, we have got some negotiations in Mexico that may, but we are not really privy to say, but when we come out of that we hope we can get a little more efficient in some of our headcount down there as well as we will continue to squeeze up some things.
We have changed some of our operations around in the US, we think the Rosenberg Victoria thing, while, if you would think immediately, you would see some productivity activity, and we will because we will save about 8 to 10 hours on that route and look at crew opportunities, but we think we will fill it right back in with new business coming out of Mexico. So, I think, the productivity would be to handle more business with the same people and take them out where we can as we make some of these capital improvements.
Randy Cousins - BMO Capital Markets
Okay, Dan, you've got a number of lines that are now pulling into Lázaro. Have any of them committed to move product into the United States yet?
And when would you start to expect seeing volume going into the US using Lázaro as a staging point?
Daniel W. Avramovich - Executive Vice President Sales and Marketing
In regards to, liner companies are actually looking to go across border. Of the five we have, two have actually voiced some interest, okay, in fact in one case we are actually doing some test movements as we speak grounding it in Laredo and bringing it into Texas.
Texas actually is a huge opportunity for us. I mean, if you look at the flow of traffic coming into Asia through LA Long Beach and then destined to Texas, it probably represents close to 40% of the South East traffic, goes to kind of our sweet spot.
So, I think a lot of the liner companies are looking at as we open up Rosenberg in end of April, first part of May, in getting some traction that that will further our kind of our position going into both Texas as well as the South East, and actually going into the lower Ohio Valley as well.
Michael R. Haverty - Chairman, President and Chief Executive Officer
Okay, one more question here.
Scott Nichols - Gilford Securities
Scott Nichols, Gilford Securities. Mike, could tell us what the status is currently of the legislation in Washington that would give the industry a 25% investment tax credit on capital spending?
Michael R. Haverty - Chairman, President and Chief Executive Officer
Scott, that's still in discussion stages at this point in time, and even though there is going to be a presidential, kind of, stimulus package, I am not sure that that will make it this year. It's not necessarily on the priority list, at least, that's our understanding.
It is for us, but from a government standpoint, so I think that perhaps it probably would not happen this year, but hopefully maybe next year we might see that. Okay, and one last, Tony.
Unidentified Analyst
Okay, Tony Hatches [ph]. Two quick ones for Dan.
Can you give us an update on business on Meridian, and with the CP, do you have any deal. Have you guys talked to [Technical Difficulty] CP, [indiscernible] have you kind of explore doing any more business, [indiscernible] high operation of that number back in the ocean line [ph].
Michael R. Haverty - Chairman, President and Chief Executive Officer
Let me take the second question, and then I will let Dan answer the first one about business on the Meridian speedway. We have had a great relationship with the railroad when it was CPE, when it became the IMRL, then when it became IC&E, and we still have a great relationship with them.
And in fact we have haulage agreements that allow us to price grain out of Northern Iowa and Southern Minnesota into our territory. And we expect to be able to protect those contracts, and we have a good relationship with DM&E and with CP, so we think there should be opportunities there.
Dan, Meridian.
Daniel W. Avramovich - Executive Vice President Sales and Marketing
In regards to Meridian speedway, actually we're... we picked up some traffic from one of the largest domestic intermodal players, truckload domestic intermodal players going from Dallas into Charlotte and Jacksonville.
So that was a big win for us this year, actually started April, May of this year, and in regards to kind of other international business, obviously, a lot of that is driven by NS, albeit that we are getting back close to about 30% to 40% of the volume that we lost as a result of the BSR haulage changeover.
Michael R. Haverty - Chairman, President and Chief Executive Officer
And we have built a lot of capacity into the line, really in the last year and a half. And the centralized traffic control will be finished here this quarter, Art says, and.
So, we certainly can handle additional business on that line, there is plenty of capacity. This is the final question here.
Unidentified Analyst
Thank you David Link, [ph] Stockholder. I was curious as to what you thought the long term impact should be on the Panama Canal Railroad intermodal traffic with the enlargement of the locks and the capacity improvements that are projected for the canal itself?
Michael R. Haverty - Chairman, President and Chief Executive Officer
Okay I am going to let Dave Starling, our President of Panama Canal Railway Company answer that question, and we certainly have considered that going forward. Dave, here, why don't you.
David L. Starling - President, Panama Canal Railway Company
Justify my trip. A lot of the volume that we have today, and lot of the growth that you see are actually not post-Panamac ships, these are vessels that like Maersk, for instance, they had a trade shipment center in Kingston, and it was actually their own terminal.
So about a year ago they chose to take the AC-2 deployment and pull it back into Balboa, and then they could save 104 transits, 330,000 each, and a vessel. So, that was about $52 million in savings.
If you take the rail cost and the port cost, it's about $30 million. So you've got about $22 million savings for one carrier one deployment.
They are now doing the same thing they recently have done with the AC-1. So, as you can see this model is not built around the construction of the canal, it's really built around the savings for the carriers, so.
Michael R. Haverty - Chairman, President and Chief Executive Officer
Okay. I might follow up on that, when we invested in Panama we never considered that the railroad was ever going to be a competitor with the Panama Canal.
And what we did is we figured there was a niche business there, particularly traffic going up and down the coast that we could reposition from one side to the other and we could do pretty well off of that. And with the rates that keep going up and up and up on the canal passage there, more people, in fact, are taking a look at this, in some cases, as Dave said, they can actually save a ship maybe by using the railroad.
So, clearly the canal is going to be much more efficient when they add the third set of locks. But again I think we are going to be a in a great position.
We are going to handle a lot of business. And I never thought that I would see the rates go up and up and up on the canal to where our rail rates are actually not all that far off of being competitive.
But again, we still don't consider the canal as a competitor. Okay, with that I am going to close the meeting.
And I want to thank everybody for being here in New York, and also thank everybody for joining us on the telephone. Thank you very much.