Canadian Pacific Kansas City Ltd. (CP) Q2 2023 Earnings Report, Transcript and Summary

Good afternoon. My name is Leo and I will be your conference operator today. At this time, I would like to welcome everyone to CPKC’s Second Quarter 2023 Conference Call. The slides accompanying today’s call are available at investor.cpkcr.com. All lines have been placed in mute to prevent any background noise. [Operator Instructions] I would now like to introduce Chris de Bruyn, Assistant Vice President, Investor Relations and Treasurer to begin the conference.

Thank you, Leo. Good afternoon, everyone and thank you for joining us today. Before we begin, I want to remind you this presentation contains forward-looking information. Actual results may differ materially. The risks, uncertainties, and other factors that could influence actual results are described on Slide 2 in the press release and in the MD&A filed with Canadian and U.S. regulators. This presentation also contain non-GAAP measures outlined on Slide 3. Please note in addition to our regulated quarterly financials there are supplemental -- combined and operating performance data available at investor.cpkcr.com which some of today’s discussion we’ll focus on. With me here today is Keith Creel, President and Chief Executive Officer; Nadeem Velani, our Executive Vice President and Chief Financial Officer; John Brooks, our Executive Vice President and Chief Marketing Officer; and Mark Redd, our Executive Vice-President and Chief Operating Officer. Formal remarks will be followed by Q&A. In the interest of time, we would appreciate if you limit your questions to one. It is now my pleasure to introduce our President and CEO, Mr. Keith Creel.

Hey thanks Chris and good afternoon. Let me start by thanking our CPKC family of rail orders across all of North America that has been hard working in bringing these two companies together, so that our customers and [Indiscernible] each other. You can imagine the quantum of work has been monumental, now the effort against the quantum the work has been inspiring. So let’s take a look at the results from the quarter. In the second quarter, we produced revenues of $3.2 billion and operating ratio of 64.6% and core EPS of $0.83. We saw volumes down 5% in the quarter, head count up 6% versus last year, so no doubt, a challenging quarter as we dealt with the softer demand environment that John's going to speak more about that in a few moments. Now despite the challenges in the quarter, as we stated in our press release, we continued to expect to deliver on the guidance that we laid out at our investor day. Let me spent a few moments talking about some of the early wins, so looking where we stand today, we're just over 105 days old, forever into this combination, but I'm extremely proud of the work this team has done to get us to the point and what we've accomplished so far. Now first and foremost, a seamless transition operationally, and combining the two networks which is no small feat, but think in historical terms, it's refreshing to see the results versus most merger histories, but understandably, based on those histories, there's been no shortage of skeptics that pointed to an industry with the history of merger related services challenges. As I said, we would, we’ve taken a realistic and measured prudent approach and more humble approach to bring these two networks together and its paid dividends. If we bring the networks together, we'll continue to identify areas of opportunity to make the service better and improve operationally. In the second quarter, we're proud to announce several key customer lands, Schneider, Knight-Swift to Maricold [Ph] these are deals that we said before in some instances for 18 months to 24 months in the making. They utilize the advantages of this unique network including our land holdings, as well as the only single line service spanning U.S. Canada and Mexico. And again on March the 11th, we launched our flagship, 1881, Mexico, Mid-Bus Express service, which again is the only single line fastest transit time consistently across our three nations, or I guess from Chicago and to SLP, we've executed well beyond our advertised transit times of less than $100 each way. Now we’ve also not been resting on our laurels from a strategic point of view, we continue to expand the service offering in our reach within the R-Transaction that we announced, connected CSX, and Alabama, creating a new gateway between Mexico, Texas, and the Southeast, United States. And on the sustainability front, again, we announced a various strategic partnership with CSX to expand on our hydrogen locomotive program. And finally, we also announced part of our extended partnership with the tech and the contract that we just renewed, plans to utilize the hydrogen locomotive in our Western portal. So, listen, a lot of tremendous work leading this combination applaud the great rail orders that’s made this possible prior to, and since day one, to come out to this result. And listen, this is not to say that everything's been perfect. Certain have been challenges, this softer macro environment, the strike at the port. That said on the strike, I'm encouraged that the assured of back-to-work, we've got a contract that's out for ratification, and should get a result from that, if not today tomorrow, and I'm anticipating a best outcome for everyone involved with the ratification of that agreement. I’m heading into the combination of these companies, the last thing also that we were going to allow is to be short on the resources. You certainly can't grow without the resources in place to accommodate it. You'll see that reflected in our cost this quarter, but if end of the day, that is the absolutely right thing to do. This is a long game. It's not about the first quarter of a combined company. It's about ensuring that we're prepared to grow with the growth of VC coming in position this company for long-term success. So, in closing, we're in the early stages of this combination, despite some short-term headbands and unique growth outlook that we laid out last month is unchanged. CPKC is poised to be the most relevant, well-known network in North America, where you're not in a continent, we're enabling commerce, amongst the United States, Mexico, in Canada. With that said, I'm going to turn it over and Mr. Mark Redd to speak to the operations before John brings some color for the markets, and they do and elaborate on the numbers.

All right. Thank you, Keith, and good afternoon. I'd like to start by thinking to CPKC operating professionals who continue to work tirelessly to deliver best and classy performance, or delivering on our service to members to our customers. As John would have discussed the long-term opportunities in the pipeline, not to use them working closely with the marketing and asset management team to evaluate and onboard new business updates within our network. Turning to our safety performance in the quarter, I'm pleased to report that, during the first quarter, as a combined company, CPKC, we continue to build upon its industry-leading lowest-trained accident frequency which declined at 48% to a 0.79 comparable to Q2 at a 1.51. From a personal injury perspective, our Q2 FRA reportable personal injury rate increased to 25% to a 1.25. It's just a continuing reminder that safety is on-going journey. We still have a lot of work to do in that space. Safety and leadership development is critical to CPKC success. It would continue to be it would continue to be a key area of focus. In the first 90 days we have rolled out our Home Safe program across our CP or CPKC U.S. property and we are now in the process of introducing it in Mexico. Home Safe is an initiative designed to build on the safety culture by tapping into the human side of safety but also promoting both safety engagement and feedback. We launched Home Safe back in 2016 back on CP property to help drive record improvements in the reduction of personal injuries across our system. This program along with our safety walkabouts where we directly engage with our employees across the property is essential to building strong consistent safety culture across the entire network. Safety has been and remain our top priority. I'm also pleased with the nearly 100 KCS operating leaders who have already gone through our two-day leadership program. We fully expect to have U.S. based leaders through this program by year end. Turning the metrics, I'll speak to our metrics on a comparison versus CPKC we had and if we combine during the 2020-2022 year. Average train speed is 1% versus last year. Average train weight is down 2%. Our average train length is flat versus last year. Our productivity for locomotives improved 4% versus the Q2 2022. Bringing two companies together in the size of CPKC is no feat. We have spent a lot of time planning, preparing in advance. I'm pleased to say that our network is running smoothly. As part of that, as Keith spoke to, heading into the merger, we're ensuring we are prepared for a resource perspective of hiring and training. This puts us in a strong position to generate operating leverage as the volume environment improves. We're also continuing to identify and implement opportunities to improve operating practices. We talk about and yesterday I spoke about 130 locomotives that we reduced from the network, 1,000 cars that we reduced from the network by aligning operating models and improving efficiencies. These efforts will continue to happen. We'll stay focused on the recovery of the strike of Vancouver, which will take some time to achieve. In closing, I'm confident the changes we have made in the first three months or continue to make will generate benefits in the back half of the year. With that, I'll turn it over to John.

All right. Thank you Mark, and good afternoon, everyone. So as Keith said, we're just over 100 days in CPKC. I'll tell you, I'm extremely proud of the work my team has done to begin to capture and deliver the growth that this new French franchise will undoubtedly unlock. And while we are certainly not immune to the broader economic headwinds and supply chain challenges, our unique business and self-help initiatives continue to serve us well compared to the industry and put us in a strong position as the volume environment recovers. Now looking at our second quarter results, on a reported basis versus CP standalone in 2022, total revenues were up 44% on the quarter while volumes were up 24%. On a combined basis, CPKC saw total revenue grow 2% while volumes declined 5% versus pro forma CPKC a year ago. FX was a 4% tailwind and fuel was a 3% headwind on the quarter. The pricing environment continues to be in line with expectations with inflation plus renewals across our book of business. Now we'll take a closer look at our second quarter revenue performance. I'll speak to the FX adjusted results on a comparison versus CPKC had this combination occurred in 2022. Grain volumes were down 5% on the quarter, revenues were down 2%. Canadian grain volumes were strong on a year-over-year basis, driven by an improved harvest for the 2022-23 crop year. However, that volume was offset by stronger or softer demand for U.S. grain driven by the challenging year-over-year comps we faced by moving a lot of corn out of the U.S. into Western Canada due to the drought. As we move into this year's harvest, I expect our grain franchise to return to growth. On the potash front, volumes and revenue were down 18% on the quarter. The decline in volumes in the quarter were driven by a major mechanical failure at Canpotex’s Portland Volk Terminal that happened in April. We are not planning for the Portland Terminals to come back online before the end of the year. In the meantime, we're working hard with Canpotex to divert volumes to Neptune, Thunder Bay, in a variety of other terminals across North America. Looking ahead, despite the Portland Outage, and of course the most recent impacts of the strike in Vancouver, I'm excited as ever about the long-term opportunity for export potash as Canpotex has effectively and continues to expand their market share across the globe. And to close out our bulk business, coal volumes were up 1% on the quarter or revenues were down 3%. With favorable compares in the back half of the year, following last year's outage of Teck's Elkview mine, I expect to see strong growth and coal in the back half of 2023. Now, moving on to merchandise, the energy chemicals plastic portfolio saw an 8% decline in revenue and volume. We saw our crude and plastic businesses impacted by core spreads in the market and maintenance out as is respectively. While also our LPGs were lower through a warm spring across our network. On the contrary, our refined fuels have remained steady across our entire network, driven by business growth leveraging our broader network service offering. And we are pleased to announce today a new material expansion of our deep partnership with Shell through the execution of a new multi-year contract that will unlock significant volume growth of new share across all lanes of the CPKC network. Looking ahead as Shell ramps up in August, we expect to see upside in ECP as we begin to move through the back half of the year. Forced products revenues decline 4% on a 5% decline in volumes. Although we are seeing the impacts of the software economy on residential construction and related building products, we are very encouraged about the development of long haul lumber shipments from Canada down onto the legacy KCS markets. This is the prime example where our new network is connecting markets and creating opportunities that didn't previously exist for our customers. The metals, minerals, and consumer products portfolio, grew 7% on a 5% increase in volumes. The growth in this area was driven by higher volumes of frac sand and steel, which drove a record quarter for this area. We are particularly encouraged by growth in Mexico as we recently added new steel products units trains from Lázaro Cárdenas into the interior of Mexico. We are also working closely with both Ternium and FDI on their new industrial development opportunities that will further accelerate growth in this business over the coming months. Automotive revenues are up 24% or volumes were up 11% an all time record for this area. Demand for finished vehicles remained strong as the industry continues to play catch up on North American inventory shortages that will result of part shortages and of course supply chain challenges. EPKC is working with our key automotive partners to develop unique transportation solutions that leverages unmatched benefits of this expanded franchise and also our development of new auto compounds. On the intermodal side, quarterly revenue was down 10% and a 4% volume decline. Domestic intermodal was challenged by soft market demand, high inventories across North America, and certainly a more competitive over the road rates. However, we are extremely encouraged by the early success as Keith spoke to of our new 180 181 cross border train. We have seen the steady increase in volumes as our partners begin to take advantage of our fast truck-like service on this unique North South service offering. International intermodal helped insulate our intermodal business with a record Q2 volumes. Our self-help wins with CMA and continued growth at the port of St. John helped to offset softer macro demand in the international space. And finally, we are very pleased as Mark and Keith spoke to see the strike at the port of Vancouver finally to get resolved. We are working closely with operations in our customers to rebound to network and move the backlog of traffic that could not move during this outage. At this point, we're estimating the strike had a negative impact of about $80 million in revenue, much of which we will work hard to claw back over the remainder of Q3 and in the Q4. So let me close by saying we are just over 100 days into this journey of CPKC. I can say my team is out on the street, we're excited, we're energized, we're incentivized to get out and capture this unmatched growth opportunity. As we laid out a few weeks ago at Investor Day, we have a very strong pipeline of opportunity in front of us and we are laser focussed on locking in the right business for this network and delivering on our commitments to all stakeholders. So with that, I'll pass it now or to Nadeem.

Great. Thanks John and good afternoon. I'd also like to thank the entire CPKC team for their works and dedication to bring these two companies together. Although it was a challenging quarter financially, I am very proud of the progress that we have made and extremely excited about the path ahead for the combined CPKC family. Looking at the quarter, CPKC's reported operating ratio was 70.3% and the core adjusted combined operating ratio came in at 64.6%. Earnings per share was $1.42 and core adjusted combined earnings for share was $0.83. Taking a closer look at a few items on the expense side, I'll speak both to the reported operating expense on slide 14 and the combined operating expense on slide 15, a combined operating expense illustrates the estimated effects of the acquisition for the second quarter as if the acquisition closed on January 1, 2022. Reporting comp and benefits expense was $659 million or $690 million on a combined basis up 26% on an FX adjusted basis. This quarter's comp and benefits expenses with acquisition related costs of $63 million which have been excluded on a core adjusted basis. The year-over-year results on an adjusted and combined basis include increased share base and incentive compensation driven primarily by higher stock price. Wage inflation and higher teen head count also drove the year-over-year increase. As I mentioned at investor day, we've re-sourced appropriately or expected volume growth starting in the back half of 2023. Given some of the shorter term volume headwinds, we're carrying surplus headcount and incurring additional expense in the quarter. However, as a growth comes on in the second half and into 2024 we will be prepared to handle it strong incremental margins. Comp and benefit increases were partially offset by lower current service costs in the DB pension plan resulting from higher discount rates. On the fuel side, fuel expense on a reported basis increased $27 million year-over-year. At the transaction occurred in 2022, fuel expense would have declined $144 million on an FX adjusted basis. The decline was driven by lower fuel prices on the quarter as well as lower year-over-year volume on a combined basis. Materials expense was up $35 million versus Q2, 2022 CP results. On a combined basis, materials expense increased $13 million on an FX adjusted basis driven mostly by increased safety and maintenance activities across the network. Equipment rents were $51 million versus Q2, 2022 CP results or $22 million on an FX adjusted basis at the businesses being combined in 2022. Equipment rents increased due to increased use of pooled equipment leads inefficiencies driven by supply chain challenges, along with lower bulk of all difficulties. Depreciation expense was up $199 million on a reported basis or up an FX adjusted $21 million at the businesses being combined in 2022 resulting from a higher asset base. Purchased services and other was $586 million on a reported basis. Combined PSNL came in at $615 million, up 23% on an FX adjusted basis. The quarter's purchase services expense includes acquisition related costs totalling $53 million. The year-over-year increase is driven primarily by increased casualty expense of $45 million which accounted for more than half of the variance excluding FX. Assuming a more normalized quarter from a casualty perspective and excluding acquisition related costs, I expect PSNL to land in the $530 million level per quarter in the back half of the year. Moving below the line, the equity pickup from KCS for the first 13 days of the second quarter was $26 million. Other components of net periodic benefit recovery decreased $18 million, reflecting higher discount rates compared to 2022, and other expense increased $14 million. Net interest expense was $204 million. You will note also a $7.2 billion loss on re-measurement of KCS resulting from the transition from equity accounting to consolidation of bond control this quarter. The loss relates to tax attributes of the equity investments, which are realized separately as a $7.8 billion deferred tax recovery. These two items net together for a favorable impact to reported earnings of $657 million. Reported income tax recovery of $7.7 billion, which includes the outside basis tax recovery that I mentioned a moment ago, continue to expect the CPKC core adjusted effective tax rate to be approximately 25.5% for the rest of 2023. Rounding out the income statement, our core adjusted combined EPS was $0.83. We continue to generate strong cash flow with cash provided by operating activities of $892 million in Q2. Our first call on capital remains the business, and in the quarter we reinvested just over $600 million. We continue to expect to invest approximately $2.7 billion in capital in 2023. We generated $431 million in adjusted combined free cash flow on the quarter. In the quarter, we repaid $439 million U.S. in term debt and our adjusted combined leverage is down to 3.6 times. On our path back to our target leverage of 2.5 times adjusted combined net debt to adjusted combined EBITDA. Following the close of the transaction, we increased our credit facility from $1.3 billion to $2.2 billion, while also increasing our commercial paper program to $1.5 billion. So as I sit here today, we are in a strong position from a resource perspective, and have pre-spent and invested to some degree when it comes to hiring and training. John's team continues to bring on synergies, and as the changes Mark and the operating team are making take hold, I think we're set up well for the back half of the year to deliver on our guidance and carry us into 2024. While we have some ground to make up from a prolonged strike at the Port of Vancouver, the future is certainly bright, and I look forward to sharing our success with you going forward. With that, Keith, I'll turn it back over to you.

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

Thank you. [Operator Instructions] Your first question comes from Ken Hoexter of Bank of America.

Great. Good afternoon, and thanks for taking the question. Maybe Nadeem, you ran through a lot of numbers there and obviously a lot on the combined accounting here. Maybe just talk about the cost side. It looks like costs got maybe a little bloated here, and I want to understand you kind of gave the purchase services and kind of run rate there. Maybe just your thoughts on how we should think about that in the back half in terms of what costs are coming out, especially as you look at things like casualty expense. It was a little elevated. Are there things going on in the blended network now you look and you can see ways to continue to take expenses out and what we can see near term in that blended? Thanks.

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

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

Your next question comes from Tom Wadewitz of UBS.

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

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

Your next question comes from Walter Spracklin of RBC Capital Markets. Your line is open.

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

Yes, Walter, it has been noisy and its six months ago. If you would have said all that would transpire in our both franchise, I wouldn't have believed yet. At all it's been frustrating. But nonetheless look, as I said, I remained very bullish on the outlook for potash. We've actually got a very big plan for Q4. We've worked our tails off to diversify some of the ports, we're crossing our fingers that maybe Portland can get opened a little early, and I think our belief in frankly, Canpotex’s belief around their position and our CPKC is being their number one transportation provider, looks strong for 2024. So I would expect, I think, double digit, if you looked at 2024, given what we've seen is definitely a reasonable expectation, if you think about potash. On the coal side, we're going to see strong compares to close out the year. That LPO mine issue that took place Q4, right at the end of Q3, Q4. Last year, will give us a really good comps. And as you look to 2024, I don't know if you see as big as a jump as it relates in that space. But, we're optimistic that Tex outlook, or at least our discussions with tech so far, next, looking next year look to be the positive in terms of growth, probably not as extensive as he described relative to potash. And in on the grain front, now look, if this crop comes in closer to 65 million metric tons, what I think is kind of the middle point of what our customers are saying. You got to remember, we've got a much bigger carry in this year, call it maybe post a 10 million metric tons. So I really don't see any impact as you think about the gut slot in the Q4 and in that time period. We're going to run hard, we're going to run hard, right, probably into the spring. And then we'll see, and it's not we'll see because I don't think they'll be grain out there. You have to move. But as we saw this year, this sort of weather issues and the dryness that did persist certainly put the farmer on the sideline more than we expected to happen. I'm pleased with our year-over-year, compares as you look at Canadian grain in Q2, but I actually I'll tell you, I thought it would be much bigger. And certainly I think the Canadian farmer and the U.S. farmer to some extent got stooped [Ph] and said on the sideline a little longer to see what would transpire in that space. But we're a grain haul in railroad and now with the combination of the KCS network to create more markets. As those developed, I certainly expect 2024 to continue to be a growth area for us in grain. And maybe I'll just throw one more comment out there to be gotten going on grain, Walter. If we see some dryness and in some crop further deterioration in our southern territory, Southern Alberta South West Saskatchewan, it actually begins to present that opportunity for that cornhole into that area to feed those cattle markets. And I can tell you just over the last three weeks we've seen a pretty significant uptake on those markets connecting and in some train volume, beginning to build for that market. Again, that's an area that we didn't have in the Calculus a few weeks ago. But certainly could provide a little further upside to the U.S. part of our franchise if that further develops. Thanks, Walter.

And John, if I could add just one key point is from the operational side it's allowed us to open up the engineering work when there’s a bit more West to Calgary. So when we do get it into Q3, Q4 we won't have maintenance game in a way so we can cycle this grain fold a certainly potash to the west coast.

Your next question comes from Chris Wetherbee of Citi.

Hey, thanks. Good afternoon. Was wondering if you could maybe kind of run through some of the assumptions around a mid-single-digit EPS growth for the year, particularly in the back half, maybe get a sense of so -- the pace of RTM recovery in the back half, and then maybe some thoughts around the operating ratio, and it's even possible.

Well, if you think about the Chris, the RTM piece, as we sit here today, end of July we remain slightly positive on a full year RTM basis. We got ourselves dug into a quite a whole year in July with the strike, but I think you're going to see, and my expectation is we're going to claw our way back, as we move through the quarter, and certainly I expect improvement -- for where we fit today, and then there's upside as we think about Q4. So, I think ultimately, we see volume growth.

And so Chris just in terms of, when we think about sequential OR and earnings, given we see a stronger Q4 as we get some of the, the snare wins and the synergies start getting to their full run rate, the first year the synergies, Q4, we see a much larger performance than Q3, for example. But sequentially, certainly we see a improvement in the OR, especially from Q2. I think Q4 is going to be the breakout order, and I think it's up well for 2024. But we have confidence in that single digit EPS guide that was, we wouldn't, we wouldn't have kept it there and reiterated it. I think we just have, some catch up to do from the strike, but the volume is there, our bulk franchise, and from the synergy perspective.

Your next question comes from Brandon Oglenski of Barclays.

Hey, good afternoon, and thanks for taking my question. Nadeem, I guess maybe following up with that, and maybe John can chime in too, unlike these self-help contracts that you guys are talking about. But does that set you up for potentially a stronger 2024, just given some of the headwinds that you had early in 2023. When you look at that 2024 through 2028 outlook?

Yes, absolutely. I mean, I think, some of what John has described today and I know couldn't get into my speed till a confidentiality perspective, and on a customer perspective, but we've had some wins since investor day that we weren't factoring in to be quite frank. So, I feel very good about 2024. I feel very good about Q4 to be honest. And like I said as we're long people, we've kind of had a peak come from, do you think about the volume versus work force. We have a peak of a delta in a non-productive way. [Indiscernible] out in Q3 and into Q4, and it sets us up well to the offering leverage we talked about both into the back half of this year but 2024 looks very strong. And so if we see that path to recovery, this investment in hiring and training, I think it's going to pay the dividends, as well as the work we're doing on a capital front, on a network, as well as the work we're doing on the capital front on hiring rail cars. And then we're starting to have benefits of the synergies on the expense side from that operating leverage and the work that's taking place to improve operations for yourself on the network. So, I'm pretty excited, although we've seen obviously a very tough reporting quarter for us and all the rails. I think we have a pretty optimistic view on this year and into 2024.

Brandon, I might just add that, I mean, you're right, it's a smack-row environment and some of these broader challenges have been very frustrating, but the fact that we're planting the seeds right now, I think you're right when you say, you begin to see some of the benefits of some of these projects. I just think about our efforts right now to get BCOs all set up for Lázaro Cárdenas as you look to 2024. I think about our announcement on the auto compound down in Dallas, that'll be up second quarterish in 2024. As you think about the Toronto fuels terminal, in Melbourne, in Agent Corps, that Covi [Ph] spoke to at investor day that will all come up in 2024. The Dallas transload that supports the lumber and the map market down there coming up in 2024. All those things, I think support what Nadeem spoke to, and if we get a little bit of tailwind, on the macro background, then I think, again we're off to the races.

I can't help but add a little bit more color to that. So, as an operating CEO, I've been, I've been dreaming about it having visions of a closely automotive network since my days of servicing automotive manufacturing facilities back in the late 90s. Going through the pain and suffering of not having enough empty car supply to keep your production lines going and being the guy, they got the old app because of that, when you could control the destination, the least scars that you don't ever forget, and it created opportunities. So, we set from the very beginning of the vision, what are the visions of this network, this extended reach network when you connect the book ends. The manufacturing in Mexico, manufacturing in Ontario, an automotive compound in between and create this closed loop network is powerful. I can tell you that we've made some significant progress there to the point that we're close to ordering cars, the service closed loop network, and those that we've partnered with in this space that are taking this step of faith with us. They're going to have their own guaranteed car supply by turning those assets and it's going to allow them to get more vehicles from the manufacturing facilities to the dealerships that need to sell them and create our own empty car supply to feed the opposite end of the loop. So, that's not a dream anymore. That's coming to fruition. That's going to be showcasing itself in a very powerful way in 2024, and that is ahead of my expectation. So, it's super, super excited about that development.

Your next question comes from Scott Group of Wolfe Research.

Hey, thanks, afternoon. So just a couple things. The high single digit growth in Q4, maybe just some color on which overall segments you think will do best. And then Nadeem just want to clarify, are you saying that labor costs come down sequentially from here, or actually come down year-over-year, that'd be a pretty, big sequential drop. And then, all the other rails have talked about to make fuel headwinds in the back half of the year. Are you any different or should we assume same kind of headwind there? Thank you.

Scott, so as Keith spoke to, I think our auto sector a frac sand sector, a steel sector, we'll see how fully I’m going to push marketing things to see that materializing our grain business, our coal. We've got easy compares there in strong demand. So I see a lot outside in coal. We have a decent potash Q4 last year. If we hit the expectations of our partners, we'll, you'll see, you'll see good growth and potash. So I call out those areas and then this shell contract lien [Ph] is, is significant. And that's going to start up in, in August for us. And I think that'll only help, not only insulate, potentially shows some good growth in our, in our, in our ECP business also.

Scott, just on headcount, should be flat sequentially in terms of our workforce and so forth. And we'll see what stock base comp does in terms of what the stock price does. That's been a headwind for us. So, my point is the productivity volumes will increase headcount. We'll stay relatively flat. So, and then year-over-year, I think, Q4, we see a benefit on headcount. I think year-over-year that'll be our meaningful efficiency for us. On the fuel side, I wouldn't say we're, see a meaningful headwind on that for us.

Your next question comes from Fadi Chamoun of BMO Capital Markets.

Yes. Good afternoon. Thanks for taking the question. Just on quick clarification for us. So, Nadeem guidance is basically $3.95. You've earned $7.3 years-to-date so we're talking about a 28% kind of sequential improvement in the second half versus the first half. I just want to make sure we're on the same page on that. But my question is maybe Mark or Keith the speed is 18 miles per hour now CP did 22, 23 consistently in the past the same thing if we look at the commodity productivity in train lanes and all these metrics like what does this record look like three or four years down the road, is this is this a step up that we're going to see consistently and what's going to drive? Is this the revenue mix as you take on that business that you highlighted in June or is it investment in the infrastructure that you need to do? I'm just trying to understand kind of what does this network look like once you're done doing some of these key kind of programs that you're highlighted in June.

Certainly for all this energy volume that we're talking about bringing your own Fadi, we’re going to need those investments but the way I kind of look at it right now you know the CP standard is something we're working to. That's what this merger is all about. So as we integrate the operations what we've seen which we expect it is on the former KCS network train speed is improved. Moody has improved, we put this operating plan in place and it's working. On the Mexican network at this point that's that's what's deluding the overall improvement opportunity and that's exactly why our Phase 2 we are focused on Mexico. So we'll get to 2023. I haven't done the math yet, and we'll improve in a material way you should expect so and you'll see from that a driving of our synergies you'll see car house savings because we're going to need fewer cars to move the same amount of business those assets are going to turn. You're going to see revenue improvements. There's not enough car supply to feed all the demand we have for automotive as we speed the network up in Mexico. We're going to create our own car supply. We're going to get more loads it's going to drive more revenues. So you get it on both sides on the bottom line on the top line and you'll start to see some material impact to our results. But again is it going to be 23, it's not going to be 15 maybe it's not 23 but it's certainly going to be somewhere between 17, 18. I'll do the math later, I haven't at this point. I just know I have a very firm expectation that it will improve in a material way.

And Fadi as we're guiding to 395 core adjusted combined diluted EPS.

Your next question comes from Konark Gupta of Scotia Bank.

Thanks operator, good afternoon. I want to ask you John any color on the shell contract contribution and a lie stand, wondering if it is a result of mergers synergies and as well as you do you expect any more conversion of opportunity by flying [Ph] heading into 24? Thanks.

And I think the question I knew it's probably coming from somebody and now I can't provide any further details. I will say this Shell is a great partner of ours, and they have been a number of years and one of those customers that identified that early on that this combination was going to be meaningful to them. And it's just again then a culmination of a lot of work between our teams to create the right package and an opportunity and you're exactly right, leveraging the entire CPKC network. So, again, you'll see the results come through our ECP areas, we begin to ramp that that business up once we get into August there.

Your next question comes from Brian Ossenbeck of JP Morgan.

Hey thanks for taking the question. Just wanted to ask a couple of clarifications. Nadeem, can you just walk through what the FX exposure looks like right now see there's a line item on I think slide 15 in terms of the walk. So you can just talk about hedging or how we should be thinking about bottling that? And then just on the Mexico, if you can elaborate the extent you can in terms of what's actually the challenges there? How long you think it will take, and generally what you're trying to work through to get that network a little bit more fluid?

Hey Brian, I'm just going to have Ashley [Ph] and Chris [Ph] follow up with you on AFX piece, it's just great.

Pretty late in the call here, so don't give me the details and I think we have composed that it’s all on our website but that's it.

Brian, I think the main focus on Mexico is getting our inventory reduced so that we can get the terminals more fluid. We're also taking a concerted focus on renewing our existing contract at this moment until we can see benefits in the operation overall. There's no sense to distract ourselves trying to create any kind of potential conflict integrating a more modernized agreement. That's not to say that we're not still interested and it's not very compelling. That's going to be a more phase two as opposed to a phase one. Our employees need to want our deal. It's much better for the employee. They'll make a lot more money. They'll have a better quality of life. But right now the first order of business making sure that we optimize our network and fluidity with the existing contract we have which we're seized and focused on and then step two will be to discuss modernization when the time is correct.

And your next question comes from Jon Chappell of Evercore ISI. Your line is open.

Thank you. Good afternoon. Just talking about the yield side a little bit Nadeem you already pointed out that you're not going to have the same fuel surcharge headwinds that most of the others will. You're pricing the portfolio both the core business and then the combined business. Is there a lot of kind of step up opportunity in the second half of the year from a yield perspective to kind of help you get to that guide to the back half?

I think Jon, there's certainly the discipline that you've seen from I guess legacy CP and how we approach contracts and our pricing. The step function is how we sort of overlay that disciplined approach to the KCS network and some of those contracts. Is that quantum leaps? No. But I think that's a lot of singles and doubles. We're still seeing renewals in the -- I would say low high single digit type range which I'm quite positive about. I don't foresee that changing as we move through, the remainder of the year. And there are some, legacy contracts and opportunities out there that we're working with a variety of customers on around repricing for the value of our capacity and service. And some of those could, create a larger step function in some areas. But, I don't I'm not going to call that a major driver in terms of if you think about Q4 and actually that probably creates a bigger benefit for us as we look into the 2024 renewals.

Your next question comes from Binwab Fawrieh [Ph] of Desjardins Capital Markets.

Yes. Good afternoon, everyone. Looking at Intermodal, obviously it's an important part of your growth story going forward. I was wondering if the current softening environment brings more opportunity than an increased number of discussion with customers and what would be your average length of all on the Intermodal side for the combined? I would be curious to know whether the lower fuel expense and lower spot rates bring more competition from the truck right now. Thanks.

Yes. Binwab, maybe a couple comments on that. I do believe, and I've said this before, these types of depressed markets, typically the transportation buyer becomes more aggressive in terms of looking for options to lower their prices. That is a buying opportunity for my marketing and sales team people. As I said, also, we're not sitting by and waiting for the phone to ring. We're out pounding the pavement looking to fill that train up. We need to continue to add train length to that 180-181 pair and, frankly, get the business going back on our legacy franchise across Canada. Train length, I think about, if you think about our legacy network and that 1,400 to 1,700-mile sort of wheelhouse between Toronto and Calgary, I look at that very similar as you think about, specifically, Chicago, down to Laredo and down to the San Luis Potosi area or Monterrey area. It's a very similar length. I do believe, historically, we're more insulated across Canada. And I think so in this quarter to some extent, against that shorter haul movement that might be more conducive to slip quickly back to truck. So I think that makes us a little more sticky. And again our focus on today is adding density to that corridor.

Okay that said, it's been a long call. We can't get to everyone, I apologize for that. But I would encourage if you have any other points to address touch base with us they'll make themselves available for any follow-up. And we look forward to sharing our third quarter results. In the meantime, we're going to be continued to focus on integrating well, growing uniquely as we build out this network very methodically and obviously stepped function improvement when it comes to operational performance most specifically in Mexico. With that said, have a safe day, we appreciate your time this afternoon and we'll talk soon.

This concludes today's conference call. You may now disconnect.