Union Pacific Corporation (UNP) Earnings Call Transcript & Summary

Well, good morning, everyone. We're pleased to have UNP presenting on Day 2 of our Virtual Wells Fargo Industrials Conference. My name is Allison Poliniak, the analyst covering the multi-industrial and transport sectors here at Wells. From UNP, we have Jennifer Hamann, who took the reins as CFO of UNP earlier this year. Before we get started, I just want to remind folks that this is a closed line. So if you have any questions for Jennifer, please e-mail me at [email protected]. But before we jump into Q&A, I want to pass it over to Jennifer for opening remarks. Jennifer?

Thanks, Allison. Good morning to you and to everyone. Before I make a few remarks, I do need to remind everybody that I'll make some forward-looking statements today, and those statements are, of course, subject to risks and uncertainties. So you should please refer to our UP website and SEC filings for additional information about our risk factors. I also don't have formal presentation materials for our discussion, but we did put an updated pitchbook out on our website. It's next to the web link for this webcast. So we may have an opportunity to reference those materials during this discussion today, so you might want to pull that up if you have that available. A couple of things I'd like to comment on. First of all, first quarter performance. We had a very strong first quarter for Union Pacific. Although our volumes declined 7%, revenues were only down 3% as we had a strong mix in our business and improved pricing. We also were able to take our operating expenses down more than our volumes. So we were more than volume variable. Our operating expenses were down 10% in the first quarter. Our EPS improved 11% to $2.15. And I think the headline for many people and certainly within Union Pacific, we delivered an industry-best quarterly operating ratio of 59%, and that includes core margin improvement of 3.8 points. So feel very good about that. Obviously, our productivity, $220 million in the quarter, was very strong against, again, that 7% down volume headwind. Unified Plan 2020 is really creating a very robust and resilient network that is driving great efficiency and a very good service product for our customers. You've heard us talk about train length, that was up 19% in the quarter. And really across all our KPIs that we talked to you about on a monthly basis, freight car velocity, terminal dwell, train speed, locomotive productivity, workforce productivity, those were all up strong on a year-over-year basis. And then that customer piece, again, our trip plan compliance, which we're now breaking down into 2 segments, intermodal trip plan compliance and then the manifest and autos trip plan compliance, were both better year-over-year. Certainly, we have more work to do, as you heard us discuss, on the manifest and auto trip plan, but really delivering a solid service product for our customers. And we look back at the first quarter and really think that, that is a proof statement for the long-term potential of the Union Pacific franchise. On the earnings call a couple of weeks ago, I also walked people through our strong liquidity position, and that's really unchanged. Our cash balance today is in that $2 billion range. We also continue to have additional levers available to us if needed. The bond market is open to us. We have a $2 billion undrawn credit revolver. We also have up to an additional $400 million available under our receivable securitization facility, and that's 50% drawn at this time. The other thing we did talk about on our earnings call was that we are, because of the uncertainty created due to the pandemic, we are no longer providing guidance for our full year 2020 volume, head count, our operating ratio or share repurchases. There's just a little bit too much uncertainty for us to be able to make a full year call on those items. We did -- and I will reiterate our view in terms of second quarter. Our current volumes are down in that 22%-or-so range. We are still looking for, on a full quarter volume, for volumes to be down about 25%. We do see things, particularly in some of our intermodal areas, probably weakening just a little bit, not a lot, but a little bit further as we move into the May time period, get a little bit further into the month, so down 25% or so. We are continuing to manage and adjust our operations because of the lighter business volumes, being very aggressive on the cost standpoint, adjusting our resources as necessary. But even with those actions, because of volumes falling off strongly, we do say that for us to improve our second quarter operating ratio, that's highly unlikely. Looking at the full year, though, we do continue to feel good about our pricing activities. We will have pricing gains in excess of inflation dollars. We did widen our range a bit in terms of our productivity expectations. So we would say that's in the $400 million to $500 million range. Under a number of different scenarios, as we've looked at things, solid free cash flow after dividends, we are going to trim our CapEx by about $150 million to $200 million kind of depending on some timing of projects. We do plan to maintain our dividend, but we have suspended our share repurchase program. So feel very good about how we have entered this phase. It is a little bit of a frustrating time that we aren't able to really unleash, what I would say, the full potential of our company right now, but we stand ready to move the goods and services for our customers as that business returns. And I would be remiss if I didn't acknowledge all the hard work that's going on in the field by the men and women of Union Pacific. We have been deemed an essential workforce, and we take that responsibility very seriously and are coming to work every day and making sure that we are keeping the supply chain moving. It's fluid and that we've had very little interruptions there and just feel very good about that and are also doing all we can to keep our workforce healthy and safe during this time, which is obviously a key responsibility that we take. So with that, Allison, I'll turn it back over to you, and we can start the Q&A session.

Great. So just going back to your comments on the volumes, one big question yesterday, and I don't know that anybody has the right answer, is sort of the shape of the recovery. We're getting a sense that we should see some stabilization, although down in Q2, but it's really how the back half of the year could play out. Any view on sort of the current -- the potential trends that you might see in the back half or just even any expected longer-term impacts that you might see out there? Any color on that?

Allison, I wish I had a crystal ball, but I could give some color to that. It's a million-dollar question, heck, it's a billion-dollar question in terms of what the shape of the recovery is going to look like. We don't have any better visibility probably than you heard from anybody else that you talked to yesterday. I do think that the next few months are going to be critical as you see states starting to come out of lockdown, as you see people start to reengage with the economy and how all that goes. And obviously, with that, what happens in terms of the number of people being diagnosed with COVID, what happens with the health of the country, because as that goes, so I believe will the economy go.

Great. And we had a few questions on pricing. First, I would say, just any color on cyclicality of pricing if there is and if that differs by business? And then in line with that, would you expect that cyclicality of pricing to change in sort of this post-PSR world?

We take a very, as you know, disciplined approach to pricing. We want to make sure that every carload of business that we move is earning a solid return. We do have -- particularly in those markets that have faced the greatest competition, the greatest truck competition, in particular, there is pricing pressure. There is available truck capacity, and that's not dissimilar to what we really saw throughout 2019. I would say what has changed a bit is that the capacity remains more plentiful than if you would have asked me this question 6 months ago or so. We would have been in a position where we were looking to see that truck capacity start to tighten and see a firming of that pricing environment. And obviously, because of what's happened with the economy and the pandemic, those things really aren't coming to the fore right now. We will look for that in the future, but we're still going to stay disciplined with our pricing. And really, we feel good about that in large part because of that service product that we're providing. We showed our intermodal trip plan compliance in the mid to high 80%. We think that puts us on a very strong competitive footing with the truckers and with our other rail competitors. And so we plan to be using that as we're talking to our customers and helping them understand the value that we can provide to them. So that's not to say there's not pricing pressure. There obviously is, but we need to stay very focused, very disciplined and stay committed to driving those returns higher.

And just in line with that, we had a question on if the returns aren't working in those scenarios, are you guys walking away from some of that business at this point?

There's less business, unfortunately, to be walking away from at this point. That's really not the issue, I would say, at this point today. We're really looking at the future and looking at how we can set ourselves up and set our customers up for success going forward. So I would say it's less about volumes today, and it's much more about volumes and putting ourselves in a good position in the market tomorrow.

Great. And trying to put COVID-19 aside for a moment, if we were looking as you were entering this year, if you go back 3 years and you look forward to maybe, say, January before this all started, where do you see -- how do you see some of the changes that you've done? Have they exceeded your expectations? Clearly, you talked there's more room for improvement, but just maybe how you viewed entering 2020 originally based on some of the changes that were happening at UP?

Sure. I would say from an operating and efficiency standpoint, the improvements that we've made as part of Unified Plan 2020 and our G55 + 0 efforts, I think we feel very, very good about the success that we were seeing and the success that we have continued to see from that. It's really been a transformation for us, really from the top-down and gaining strength, I would say, from the bottom-up as we have been talking to our employees, and they have seen the success that has come from adopting Precision Scheduled Railroading principles and that by doing things simpler, you can do them better. You can do them on a more repeatable basis. You can be more efficient with it, and the customers are seeing it. And those changes and the benefits from those changes are really undeniable at whatever level you want to look at it. And so that's the piece that I think has us very much energized and excited about the potential, especially when you consider that we know that there's more opportunity ahead. We know -- you heard Jim talk on the earnings call that there's certainly more things that we can do. We know that we can continue to improve the service product. It's not like we've maxed out that either. And then to be able to try to bring some volume onto the network, obviously, that's been the elusive piece, and it's gotten a little bit more elusive here of late. But that's where we really are focusing our efforts is on that growth piece and that potential that we can unleash across the network with the way we're running right now.

Great. And you touched on that growth part of it. UNP is known as a really great franchise here, doing a lot of efforts on cost. But if we look to the Canadian rails as a potential exhibit, from PSR implementation to switching to growth mode, what kind of lag did you see? Were you expecting kind of a similar lag? Or do you feel like you could have accelerated some of those efforts? I know it's hard to talk about growth in this kind of environment, but any color there?

No. Hope springs eternal, right? There will come a time when we're able to talk about growth, and that's obviously what we're looking forward to. But because we had been -- before we ever adopted PSR, we had been very, very focused about improving our margins and about improving the returns of our business. And with that had come a very strong pricing and yield focus in terms of how we went out to the marketplace. So with that, we didn't view PSR as a not only do I need to adopt it from an operational standpoint, but I need to change my marketing strategy, and I may be going to de-market some parts of our business. We were looking at it very much as an opportunity to get the operational side and the service side of the house in order at the same time we were growing our volumes and winning with our customer base. And so we didn't see it as a 1-step, 2-step. We were -- we thought we had the opportunity and do have the opportunity to do the 2 together. The markets certainly haven't cooperated with that, but that's what we're looking forward to being able to do because we're not trying to take business off of our network, and we weren't at the time that we were starting to roll out Unified Plan 2020 to make room for making the operational changes. We didn't think that would -- had to be part of our game plan.

Great. And we had a question come in now about onshoring. It was a big theme yesterday for investors. Any thoughts around onshoring? Is this realistic? Or are we just getting too excited about nothing here as an opportunity?

Again, it's probably too soon to tell. I feel like we've kind of had these conversations before at different times, where just going back to the tariff discussions, it was that going to drive more onshoring. There continue to be things, though, that happen that maybe make that more realistic today than it was, call it, 6 to 10 months ago. Whether that happens or not, there's probably a lot of variables that come into play. I don't know that there's anything that we can really do to influence that as a company. But certainly, if customers are looking to do that, we would absolutely welcome that opportunity to engage in a conversation with them, get them to find a site on our lines to set up shop and do that. We'll work with whichever way it plays out.

Great. And you referenced a record low OR in Q1. In addition to velocity and dwell improving, what have been some of the driving factors leading to some of that improvement?

Well, with the greater velocity and the lower dwell time, we have certainly been running the -- those are indicators, I guess, I would say, of the fact that we're running the network more efficiently. And so our largest labor -- our largest cost component is labor. And so by really starting to use our workforce more, like the hardest word, more productively, that has been a huge benefit to us, and that comes in many forms. It comes in taking fewer cars through the terminals, which helps us lower that terminal dwell time, but that means we're touching the car less. And fewer touches means you need less manpower, less people power to do that. It also means you have less opportunities for delays or potentially misrouting the car. So that goes into better usage of that asset, which goes to car hire expenses, and it leads to that greater customer satisfaction. Certainly, building the longer trains has helped us reduce our crew starts. Because we're getting over the road more efficiently, we're also having less re-crews. And then just overall rationalization across the network when you think about the various hump yards and yards that we've closed, now we're doing some shop closures as well, all of those things are putting us in a position and have put us in a position to use the resources that we have more efficiently.

Great. And touching on that, you're obviously looking at some structural improvements here, and there's some variable related to the volume declines. In this weak environment, you're still targeting this $400 million to $500 million in productivity gains. What would put you at the upper end of that target? Are there material structural cost reductions that are out there that you're focused on to drive that number more specifically?

I don't know that I would say that there's a material one. Like I said, we did close a couple of large shops. Last week, I think we announced that, one in De Soto, one in North Little Rock and another one in Denver. And now those are temporary closures. We don't anticipate that those are going to be closed for the long term. But certainly, in the near term, we're going to idle those shops. Unfortunately, we have to furlough that workforce because that's just work that we don't need to have done right now, given the level of business volumes on our network. The good news story would be that the volumes come back, and we need to bring those shops back in to be able to service our customers. And I think Jim referenced this on the call the other day, too. Although we have taken resources out across the board, as the volumes come back, the resources will not come back at the same rate. And so that's part of what can give us some greater productivity as well. So labor is a big part of it. We continue to focus on fuel conservation. And our fuel -- our sea rate, that's another area where we know we have opportunities. Long trains help that. Some of the technology that we're deploying helps that. On the purchase services side, as we have less assets that we're trying to maintain, as we have less intermodal business and ramps that we're operating when you think about some of the consolidations we're doing in Chicago, those are all structural changes that are going to help us continue to build towards that productivity number.

Great. And a question just came in. Just in response to your 1-step, 2-step around the marketing and operations, how does that compare to Norfolk Southern's yield-up strategy? Do you have any color there?

I really don't know that I should comment on Norfolk Southern's strategy. We -- like I said, we're very focused on yield for a long, long time. Anybody who's followed us is well aware of that. And so from our own personal perspective, when we started adopting PSR, we didn't look across and say, hey, there's a bunch of unprofitable business on our network. That's just not a position we were in.

Great. And then one of the questions that I would say -- I'd say probably it's more skepticism, great ORs across the industry and specifically for UP. But one of the questions that we're getting is, doesn't materially lower volumes just aid that and help that, allowing you to be more aggressive in PSR? One of the concerns is we get volumes back and that OR starts to fall apart. Any color that can give us a little bit more comfort that, that OR can -- obviously, it's going to fluctuate, but the downward trend still remains.

Sure. And we got that question really last year throughout the year as we were improving our OR and implementing Unified Plan 2020 because, unfortunately, last year, volumes were down, what, 6% overall for the full year. And no, it's not easier. I mean I suppose if volumes were growing 20%, that would be a difficult environment to do a -- make big operational changes. But if you look at our history, when we have a volume growth environment, it's 2% to maybe 5% on a high year. And we believe, and I think you've heard us say this pretty consistently, if we had some volume growth, that would help us drive productivity. I mean just go to the long train strategy and the things that we're trying to do there, which we've seen tremendous, tremendous improvement in our train length, but that's really hard to do when you have less and less volume to build a train length and, at the same time, improve the customer service. You could hold cars for a long period of time and build a really long train, but you're probably going to destroy your customer service product if you're doing that and not paying attention to what the customer needs from us. And so the fact that you see us building the long trains, growing the train length and delivering stronger customer services, we're able to find a balance and we're pulling on both of those levers, and that's really hard work in a shrinking modeling environment. So I understand skeptics. I understand they -- some probably feel like they've seen this version of the railroads before in terms of you run well when you have less volume, and then volume comes back and you're not going to run as well. And I guess they'll just have to stick along through the ride and see how this plays out. But we feel like this is a very, very different railroad. I'd also point back to the floods that we had over a year ago and the way that we recovered from that when we were in the very early stages of adopting Unified Plan 2020. I think that was an early proof statement of the resiliency that we were putting into the system, and we definitely have that resiliency in many more ways today than we did a year ago. And so feel very good, very confident about our ability to handle volume when it comes back.

Great. And then there's a longer-term question. As we look beyond, I would say COVID and then the Unified Plan 2020, what should investors expect from UP over the next, say, 5 years in terms of performance?

Well, I mean we feel very bullish about the future for Union Pacific. Again, setting aside what we think may or may not happen with the economy, we certainly -- if you see just, I'll call it, a normal economy, whatever that new normal is going to be, we would be looking to grow across the board, probably set coal aside in that equation. But we think we've got very good opportunities to grow. Really, in all of our business areas, we clearly have the capacity to grow. We've got the locomotives. We've got the freight cars. We've got terminal capacity. We have crews at the ready. We also have the ability to invest for growth. We're going to continue to generate strong free cash flow, and that's going to give us great opportunities. We're going to continue to invest in the network. We're going to continue to reward our shareholders. As we look at our cash priorities, we invest in the railroad first. We've got a strong commitment to our dividend, and then we've been using excess cash for share repurchases, and we've used our balance sheet in the past for that as well. We'll look and see how those things all play out going forward. But I continue to think that that's been a winning combination for us. And as we become more profitable and we grow the business, to me, that just gives us a bigger high with which to be doing all of those things, and that's going to generate some very strong returns.

Great. And just keeping in line with your comments on cash, there's a lot of questions out, well, what you're going to do with that excess cash, right, as your cash flow performance has improved. One, I guess, as it relates to CapEx, it's been trending down as a percent of sales. As PTC costs fade and your railcars coming off the line, how should we think about that CapEx level longer term here for UP?

We said our long-term guidance is less than 15%. Obviously, that gives you a lot of room in terms of lower than 15%. We're going to always be very judicious about the capital that we spend. Certainly, where we're applying capital today is going to facilitate long-term growth, but it's going to drive near-term productivity. When you think about the train lengths and the sidings that we're investing in, when you think about the investments that we're making in our intermodal facilities in Chicago, certainly, that situates us for growth. But the near-term story, just given the environment today, is the productivity. It enables us in terms of consolidating our terminals. And so we're going to continue to look for those opportunities. And as we see the ability to deploy capital into an investment that is going to help either drive productivity for the company or position us for growth or both, kind of the best of both worlds, we'll be willing to do that and certainly be in a good position to do that.

Great. And you did talk a little bit about your capital deployment objectives and such in the short-term environment here. But with, obviously, the government-mandated shutdowns and some of the unique situations we're going through today, is that causing you to kind of rethink your optimal capital structure or capital deployment efforts here?

Well, one of the things that's made us very thankful for is that back when we decided to take on a little bit more debt, we did, I'll say, draw a line in the sand by saying we wanted to maintain a very solid investment-grade credit rating. And at a time like this when the world has kind of turned upside down, we've been very thankful for the decision was made to do that and that we didn't put our balance sheet at jeopardy and that we were able to maintain the strong ratings and maintain access to the capital markets. We think that -- we've always thought that was important, and what we see happening around us today is just further support of that. And so I don't see us wavering from that position at all. We need to be able to take advantage of near-term opportunities, take advantage of strong free cash flow that we look to generate in the future. But we also need to remember some of the lessons from the past and make sure that we have ourselves in a good position, and I don't want to call it a rainy day fund, but just have ourselves in a good position so that if something happens where we need to have access to the capital markets, we need to have access to cash, that we haven't forgotten those needs and that we have maintained that ability.

Great. And I know we're coming to the end here, but any closing remarks that you want to say, just in terms of how you feel at UP? I know we talked a lot about how it's positioned here, but your thoughts as we move through this crisis, any closing thoughts you want to leave with folks?

Sure. Again, I wish we all had a better crystal ball right now and had some greater certainty. And as we get that, we will certainly take opportunities to share that with our shareholders, with our customers, with our employees. Our near-term focus, really, as I said, is just to continue to fill that vital need in the supply chain and stand ready for when things open back up. I mean we really can't influence that timing, but we want to make sure that we're ready. We want to make sure that our employees are ready and feel like we're just in a very good position to do that and support the economy at the time that, that becomes available to us. And looking beyond that which, hopefully, a year from now, Allison, when we're talking at the conference in 2021, this will be something that's further back in our memories, and we're talking about growth and good things because, as I mentioned earlier, I really feel very, very good about our prospects ahead, about where we have our company situated. And I'm just excited to be able to really show that to folks on a consistent basis, and we'll look forward to those times.

Great. And I think our time's up. Anybody, if there are additional questions that we didn't get to on the line, we'll make sure that Jennifer and Brad get to them as well. Thank you, Jennifer and Brad. We look forward to better times next year. Stay safe, everyone. Thanks again.

All right. You too. Thanks, Allison, very much.