Canadian National Railway Co

TSX:CNR

Earnings Call Transcript 2019-Q3

[Operator]

CN Third Quarter 2019 Financial Results Conference Call will begin momentarily. I would like to remind you that today's remarks contain forward-looking statements within the meaning of applicable securities laws. Such statements are based on assumptions that may not materialize and are subject to risks described in CN third quarter 2019 financial results press release and analyst presentation documents that can be found on CN's website. As such, actual results could differ materially. Reconciliations for any non-GAAP measures are also posted on CN's website at www.cn.ca. Please standby, your call will begin shortly. Welcome to CN Third Quarter 2019 Financial Results Conference Call. I would now like to turn the meeting over to Paul Butcher, Vice President, Investor Relations. Ladies and gentlemen, Mr. Butcher.

[Paul Butcher, Vice]

Well, thank you, Patrick. Good afternoon, everyone, and thank you for joining us for CN's Third Quarter 2019 Earnings Call. I would like to remind you about the comments already made regarding forward-looking statements. With me today is JJ Ruest, our President and Chief Executive Officer; Ghislain Houle, our Executive Vice President and Chief Financial Officer; Rob Reilly, our Executive Vice President and Chief Operating Officer; Keith Reardon, our Senior Vice President, Consumer Products, Supply Chain; and James Cairns, our Senior Vice President, Rail-centric, Supply Chain. [Operator Instructions] It is now my pleasure to turn the call over to CN's President and Chief Executive Officer, Mr. JJ Ruest.

[Jean-Jacques Ruest]

Thank you, Paul, and good afternoon, everyone, and welcome to our third quarter earning call. I'm very proud of the CN team. They delivered a very good result with solid cost management in a softer and uncertain economic environment for the North American rail industry. We produced adjusted EPS growth of 11%, revenue growth of CAD 140 million or 4% growth and an operating ratio of 57.9%, an improvement of 160 basis point. In the next few minutes, Rob will cover our operation, James and Keith will cover their respective marketplace, and Ghislain will peel off the financial. CN pricing was above rail inflation. Our carload growth was flat, which is well above the industry negative average of 4.5% for the quarter, and our costs and asset utilization KPI are improving. While the North American rail industry is dealing with slower growth in manufacturing, natural resource, energy and trade, we stay very focused on building our sustainable long-term business. Namely, increasing our exposure to the consumer economy in intermodal and automotive, deploying productivity-enabling technology to our rail operation, creating new model of rail growth in partnership with others and building a bench of human talent as one of our long-term competitive edge. Since we last spoke, we reached a purchase agreement for a CSX rail property, and we are starting with a new joint service that will connect the U.S. East Coast port, some of them, with a consumer distribution center located in greater Toronto and greater Montréal. We are also initiating whiteboard supply chain planning with PSA executive to leverage their purchase of an ocean terminal in Halifax. The same whiteboard discussion will also take place with a team of DP World, who is acquiring the Vancouver Fraser Surrey bulk and container terminal; and with AMCI, who is acquiring the Rupert bulk terminal. The CN franchise has a very high barrier to entry. Namely, we are the only railroad that reach the 3 coasts, reach 15 container -- 15 ocean container terminal and 23 inland terminal and growing. We believe that CN -- that partnering with select world-class operators and investors in their respective field of expertise is a very smart approach to create new model of future rail growth, especially with the increasingly important demand-derived freight from the consumer economy. Regarding cost improvement, PSR is in our DNA and realize a number of initiatives. Namely, the alignment of our mechanical shop with the downturn in volume, the better leveraging of our now upgraded locomotive and railcar fleet. Rob's team is also downsizing our railcar fleet of the less productive and older asset, targeting the removal of about 5,000 railcars, which is about 8% of our fleet. In the same vein of cost and productivities improvement, Ghislain will vacate 75,000 square feet of lease space in Montréal and make maximum use of our headquarter building. And our Chief Digital Officer is scaling up our robotic process automation to accelerate the digitization of labor intensive repetitive work. By the end of this year, we will have 9,000 connected workers to include and come in with mobile device in their hand. Michael Foster, our Chief Technology Officer is tasked to increase the productivities of these newly collected crews in 2020 by populating these device with productivity digital application. For long-term investors who recognize ESG as part of the investment decision, we are very proud to report that CN is again the only railroad to be on the Dow Jones sustainable world index for the 8th year in a row. And we are also again part of the North American Dow Jones Sustainability Index for the 11th year in a row. Also very much worthy of mention, our carbon emission intensity continues to decline. Our fuel efficiency improved by 4.1% in the quarter, which means we avoided 50,000 metric ton of CO2 emission and saved $15 million in costs. We are the most fuel-efficient freight railroad in all of North America. With that, Rob, I will ask Rob to cover the operation.

[Robert E. Reilly, Executive VP & COO]

All right. Thank you, JJ. First and foremost, thanks goes out to the men and women within the CN team that help deliver this quarter's outstanding results. Some of the operational highlights this quarter include: the team handled an all-time record GTMs for a third quarter, 1% more than last year's Q3 and 5% higher than 2017. Train speed improved 4% over the same quarter last year. Car velocity improved 7%, and train productivity increased 2% versus the same quarter in 2018. As JJ mentioned, this quarter's financial results were, in large part, assisted by our strong cost control efforts. In the quarter, we delivered an all-time best fuel efficiency performance, improving 4% year-over-year. That means we moved 4% more tonnage the same distance with the same amount of fuel. CN continues to be the North American Class I railroad leader in fuel efficiency, using a little more than 8/10 of a gallon of fuel per thousand gross ton miles. These results were not an accident but the result of an intense day-to-day commitment by the operations team, disciplined by our locomotive engineers and utilizing onboard tools, minimizing idling locomotives and a strong execution of the number of locomotives used on trains to achieve these savings. From a railcar perspective, we're in the process of returning nearly 3,000 railcars that were on lease, scrapping another 2,000 railcars, and have parked over 6,000 cars to save in car hire expense. All of these actions help to rightsize our fleet to the rail volumes we are experiencing and decrease our expenditures associated with them. As a result of these efforts, our active online inventory has dropped 6% year-over-year, leading to a more fluid railroad. On the locomotive front, we continue to return leased locomotives and will return the last of these locomotives in Q4 as we rid ourselves of further expense related to leased locomotives. The increased reliability of our upgraded locomotive fleet has given us the flexibility to make these moves. As JJ also mentioned, within our mechanical department, we are aligning our resources with the increased reliability of our fleet and the softening traffic volumes. These moves will allow us to more proactively schedule maintenance at the right locations, and continue to improve our fleet's availability while minimizing the amount of inventory we carry at outline locations. Regarding safety, we continue to progress on plan for completion and conversion of all of our mandated Positive Train Control, PTC subdivisions, as we now have just 2 remaining subs to convert. All required territory on the CN will be completed by year-end, which is a full year ahead of the PTC mandate of December 31, 2020. This will allow us to continue to work with other Class I railroads on progressing interoperability between railroads in 2020. In addition, we now have received our first 2 autonomous track inspection cars, which are being commissioned now, with another 6 more to be completed by year-end. These cars will allow for increased testing and more consistent results that ultimately leads to a safer and more reliable railroad. With winter preparation in high gear, the team has worked very hard preparing for this upcoming season. To that end, the team has added 40 more air cars to our fleet, bringing our total to 100 cars ready and prepared for this winter season. Our capacity additions continue on track and will aid in our resiliency to the impacts of winter as well. While we don't know the severity of cold weather this season, we are as well prepared as we have ever been. To close, I am very proud of the results that this team has delivered as we continue to prepare and adjust where needed, working with James' and Keith's teams on the economic scenarios ahead. With that, I'll turn it over to James.

[James Cairns, Senior Vice]

Thank you, Rob. Overall, revenue for the quarter was up 4%. Keith and I will walk you through the top line performance for our respective markets in Q3 and provide some insight of what lies ahead. The North American rail industry is facing a challenging economic environment. And as you've heard from Rob, we are managing our cost very closely. Looking at year-over-year results, it is clear that our unique 3-coast market reach and footprint in North America, are structural advantages that allow us to diversify our traffic mix and adapt to changing market conditions. A great example of this structural advantage in action was our performance in the North American coal segment in the third quarter. Coal was a tale of 2 markets in Q3, strong growth in Canadian exports up 80%, driven by the ramp up of Coalspur's new mine that opened earlier this year, was partially offset by sluggish U.S. thermal coal exports down 38% as a result of low API2 pricing. Looking forward, we will continue to see a sequential increase in run rate for Canadian coal in Q4 and expect the same for U.S. coal. The Canadian grain crop has been delayed as a result of poor weather conditions. We ended the quarter 1% below last year. We expect to recoup those volumes in the spring of 2020. Again, our market reach is a structural advantage. We run longer trains with direct CN to CN service from country elevators to West Coast ports. The new G3 grain terminal in Vancouver is expected to be in service in the second half of 2020. This will be the first grain loop track to loop track supply chain in Canada and will facilitate quicker asset turn times that allow us to ship more tonnage with fewer cars. We are creating new capacity and increasing resiliency to respond to higher Canadian crop yields. The structural change in the BC forest products industry was at the root of 11% decline in revenue for the segment in Q3. Several BC saw mills curtail production in response to low pricing and high stoppage fees in 2019. We have reset our cost to support a new sustainable run rate moving forward. Natural gas liquids revenue was up 32% in Q3, driven mainly by propane and the full ramp-up of the AltaGas export facility in Prince Rupert. Volume is now running near Phase I capacity at 60-plus cars a day, and we expect to see this production level continue going forward. Prince Rupert is a gift that keeps on giving. In Q3, we saw the start-up of the Ray-Mont plastics bagging line, which feeds the container export market. Looking ahead, we see more growth in carload transload with several commodities at the Port of Prince Rupert, producing container exports that improve steamship line round-trip economics. Refined petroleum products revenue was up 20% on the back of new long-haul jet fuel business from Alberta to Ontario as well as year-over-year increase in run rate from the Northwest refinery in Alberta, which began operation in late 2017. Our market reach allows us to directly connect Alberta production of refined products with desirable end markets. Sand revenue was negatively impacted by slowdown in drilling activity in Western Canada. We don't expect to see a recovery until second half of 2020. Crude revenue was up 34% in the quarter despite several of our customers shipping below their take-or-pay contract level, idling capacity and response to production restrictions. Recall that in Q4 last year, crude differentials were very high and we shipped on average about 230,000 barrels per day of crude-by-rail. So the year-over-year comps in Q4 will be extremely challenging. Now I will turn it over to Keith to speak to our consumer products supply chain Q3 results. Keith?

[Keith Reardon, Senior Vice]

Thank you, James, and good afternoon, everyone. The consumer markets produced strong results in the third quarter. Our ability to adapt to the market realities with strong cost management as well as our ability to provide our customers with solutions have allowed us to outperform our markets. Revenues were up 13%, and RTMs were up 2% for the group in the third quarter versus 2018. In both intermodal and automotive, we continue to win with our unique network reach and consistent high levels of customer focus. The cost-effective and efficient gateways with which we serve continue to produce sustainable, long-term results. Starting out with automotive. CN's team has worked extremely well together to provide our customers with solutions that generated slightly above 5,600 carloads growth, allowing us to outpace the industry growth rate and setting record monthly volumes. Our strategy to increase the number of Autoport storefronts as well as providing a very solid supply of railcar capacity is winning in the market. Our new Vancouver Autoport facility is also now open and producing results. In intermodal, the initiatives we presented at our Investor Day will continue to provide efficiencies and additional capacity in our inland terminals. CN has room to grow, and we continue to generate new ways to improve our position as a cost leader in this segment. In the international intermodal segment, trade uncertainties have contributed to lower industry volumes. We have been able to leverage our network of efficient gateways, our extended reach into the hinterland and our points of product differentiation to outperform the industry. For example, Prince Rupert finished the quarter at run rates of 1.35 million TEUs, which is right at the terminal's nameplate capacity. Expansions are coming in 2021 and 2022 to take that capacity to 1.8 million TEUs. CN and our partner, DP World, have a successful history of innovating ways to increase throughput above the nameplate capacity levels. In Q3, while growth rates at L.A., Long Beach, Oakland and at the seaport alliance were 3%, minus 5%, 4% and minus 8%, respectively, our growth in Rupert was about 30% over 2018. As we position ourselves for the upcoming contracting season of 2020 for our overseas customers, we have concluded agreements with ZIM, CMA CGM and Westwood. Most recently, we have also successfully concluded negotiations and increased our market share with the Ocean Network Express for their business at the ports of Vancouver, Prince Rupert and Halifax as well as Costco for their Vancouver business. Our partnership with Mobil Grain at the newly opened Regina intermodal terminal is an excellent example of our strategy to continually add intermodal storefronts, providing our export customers with additional reach opportunities and choice. As ship sizes increase, creating opportunity to enter new markets from various gateways is critical to continue growth for our customers and ourselves. Initial response to this new storefront has been quite favorable, and we see a strong pipeline of export volumes as we fully launch in the next couple of weeks. The new CSX CN container train service from the ports of New York, New Jersey, Philadelphia and Wilmington into the Montréal and Toronto gateways will compete with over-the-road trucking for both dry and refrigerated consumer goods. On the domestic intermodal front, weakness in the manufacturing sector led to weaker volumes in the U.S. domestic and transborder segments. In contrast, our CargoCool temperature protective services, the TransX intermodal service as well as our wholesale partners' intermodal volumes are continuing to grow at better-than-industry levels. Our full-scale partnership in the EMP program has also been a solid plus 15% growth contributor this quarter. So to sum it up, we are proud of our results this quarter, which outpace the industry growth rates. We look forward to working with all of our customers to figure out the waves of the 2019 and 2020 marketplace and providing the service, network reach and cost-effective gateways that will allow us to win in the marketplace at whatever those challenges the waves may bring. I will now turn it over to Ghislain for the final -- financial aspects of the quarter's results.

[Ghislain Houle, Executive VP & CFO]

Thanks, Keith. Starting on Page 11 of the presentation, I will summarize the key financial highlights of our third quarter performance. While we have witnessed weaker volumes driven by softness in the general economy, we swiftly rightsize our resources to changing demand while being conscious of the mid- to long-term structural opportunities that are in front of us. Revenues for the quarter were up 4% versus last year at slightly higher than $3.8 billion. Operating income came in at $1,613,000,000, up $121 million or 8% versus last year. Our Q3 operating ratio is 57.9% or 160 basis points lower than last year. Note that CN's operating ratio always excludes the benefit of any asset sales. Net income is just shy of $1.2 billion or $60 million, higher than last year, with reported diluted earnings per share of $1.66 versus $1.54 in 2018, up 8%. Excluding the impact of a large asset sale in 2018, our adjusted diluted EPS was up a solid 11% versus last year. The impact of foreign currency was favorable by $5 million on net income in the quarter or $0.01 of EPS. Turning to expenses on Page 12. Our operating expenses were up 1% versus last year at just above $2.2 billion. Expressed on a constant currency basis, expenses were flat versus last year. At this point, I will refer to the variances in constant currency. I will cover some of the key highlights. Labor and fringe benefit expenses were 2% lower than last year. This was mostly the result of lower incentive compensation by over $40 million, partly offset by higher wages driven by the onboarding of TransX employees. Purchase services and material expenses were 13% higher than last year. This was mostly the result of higher trucking and transload expenses due to the inclusion of TransX and higher repair and maintenance expenses. Fuel expense was 11% lower than last year driven by a 12% reduction in fuel prices and a 4% improvement in productivity to produce record fuel efficiency, generating over $15 million in savings and supporting our sustainability agenda. Finally, equipment rents were 11% lower than last year driven by lower locomotive lease expense of $20 million. Now moving to cash on Page 13. Free cash flow was almost $1.5 billion through the end of September. Our first priority for cash remains reinvestment in the business. Our capacity investments are nearing completion, and we have received 135 of the 140 locomotives on order for 2019. We continue to reward our shareholders with consistent dividend growth, and we are on track with our current share buyback program of $1.7 billion, having repurchased 9.2 million shares at a cost of roughly $1.1 billion since the end of January. Finally, let me turn to our 2019 financial outlook on Page 14. While volumes in Q3 came in below our expectation and while economic weakness create -- and geopolitical issues are creating headwinds, unemployment levels are still at record lows and consumer spending so far remains resilient. Manufacturing has softened significantly. Therefore, we now expect our full year volumes to be slightly negative on a year-over-year basis in terms of RTMs compared to a previous volume assumption of mid-single-digit growth. As a result, we are revising our 2019 EPS guidance. We are now targeting to deliver high single digit EPS growth versus 2018 adjusted diluted EPS of $5.50. On the capital front, we still expect to finish the year at approximately $3.9 billion. As previously discussed, we expect the capital envelope for 2020 to normalize to historical levels, supporting improved free cash flow conversion. In the face of a weaker economy, we will continue to tightly control costs while at the same time, remaining focused on the structural opportunities that will provide growth for this franchise for the years to come such as: a 30% capacity expansion at Prince Rupert for intermodal by 2022; growth potential related to the purchase of Ridley bulk terminal by the private sector; creating a Prince Rupert of the East at the Halterm intermodal terminal in Halifax now owned by PSA. In closing, we remain committed to our agenda of Operational and Service Excellence, and we continue to manage the business to deliver sustainable value for today and for the long term. On this note, back to you, JJ.

[Jean-Jacques Ruest]

Well, thank you, Ghislain. And before we open up the Q&A, I'd just like to do some conclusion comments here. So as was mentioned during the call, the consumer economy in North America continued to perform. So we have low inflation, low unemployment, large government spending, sustained consumer spending. But business capital investment is weaker, manufacturing has slowed down, energy as in crude by rail and frac sand is quite volatile and trade is under -- is putting us under much pressure. This suggests the North American rail industry volume, which was negative by 4.5% in Q3, will continue to underperform at GDP while at CN, we continue to aim for carload volume to outperform our rail industry in North America. We're focused on long-term sustainable -- sustainability in every sense of the word. We have an exceptional balance sheet with investment-grade credit rating, a debt-to-EBITDA of less than 2. We have a track record for increasing dividend for 23 years in a row, and we have a dividend yield that currently stands at about 1.9%. We're passionate about building -- innovating new supply chain for the future of the rail industry, we mentioned a couple of those on the call, and we manage costs very tightly during a slowdown in cycle. On that point, Patrick, I'd like to turn it over to the Q&A session.

[Operator]

[Operator Instructions] The first question is from Brandon Oglenski from Barclays.

[Brandon Robert Oglenski, VP & Senior Equity Analyst]

So I guess Ghislain or JJ, you guys definitely mentioned an incremental slowdown in manufacturing in the industrial side of the house but retail remaining okay. I guess in that context and some of the contract, it sounds like Keith was talking about that incrementally come on to the business next year, I mean, is this where we should expect CN can still outperform the industry from a volume perspective?

[Jean-Jacques Ruest]

So it's JJ. Thank you, Brandon, for the question. There's 2 things that we're trying to do. We try -- as an industry, as a North American industry, we'd like to outperform the GDP. Obviously, not possible short term. And as CN, we would like to outperform our own industry, and that is our goal. So we did that in the third quarter. We had volume flat, and the industry was at minus 4.5%. You see the carload stats so far quarter-to-date, the carload stats for the industry actually are more challenging than they were in the third quarter for all of the railroad and CN's objective, whether this fourth quarter or next year, is to outperform the industry. But while the economy is difficult for manufacturing energy, trade and natural resource, the rail industry may not be able to outperform the economy. Hopefully, that helps.

[Operator]

The next question is from Cherilyn Radbourne from TD Securities.

[Cherilyn Radbourne, Analyst]

So clearly, we've had a slowdown in the economy, but it does seem to me that some of the volume growth that you were anticipating in 2019 has simply been deferred. And there, I'm thinking about crude-by-rail, the Coalspur mine and Canadian grain. So I appreciate that it's too early to talk about 2020 yet but maybe you could just give us some more color in those areas.

[Jean-Jacques Ruest]

So I think, James, that's your newest market space. So maybe you can provide color in these 3 segments.

[James Cairns, Senior Vice]

Yes. So we were disappointed to see that late harvest for the Canadian grain crop. We're still confident that moving forward, we're going to have a pretty good grain year this year. All indications are that it could be one of the largest crops in Canadian history, so we're eager to start moving that and we have the resources to do so. On the crude side of things, a little more difficult. There was some government intervention that took place in that market segment, and we built up capacity to move about 300,000 barrels a day of crude. In September, we moved about 180,000 barrels a day. We still have that latent capacity available to move that crude if, in fact, it does become available. Indications are pretty clear that we will see the Alberta government crude contracts going to private hands here in short order, possibly by the end of the month, and we're very excited to start moving that crude volume when it does. Talking about the Coalspur mine. It had some challenges kind of ramping up but right now, they're kind of where we expect them to be at an annualized rate at about 3 million tons a year. We're hopeful moving forward that, that rate is going to continue to accelerate and we could see sequential improvements and get to that 5 million ton per year pace. Thank you for the question, Cherilyn.

[Operator]

The next question is from Chris Wetherbee from Citi.

[Christian F. Wetherbee, Vice President]

I wanted to touch on the topic of volumes, and I guess, sort of the outlook getting a little softer as we move forward here. You started the year expecting, I think, high single digits from an RTM perspective, and it's come down progressively as the year has gone on. If we see sort of the weakness linger through the first of 2020, how do you think about sort of resources? Are you well positioned, you think, from matching resources relative to getting potential softer values, particularly around head count?

[Jean-Jacques Ruest]

Yes. Thank you, Chris. I think I will start and then Rob can add to that. But definitely, the overall strategy is quite simple, we need to adjust the resource for the demand. When demand goes up, we need to size up resource. When demand comes down, we need to size up the resource to the new volume. So we talked about locomotive, rolling stock, people. So I don't know if you want to add some color, Rob?

[Robert E. Reilly, Executive VP & COO]

Yes, absolutely. And thanks for the question, Chris. So I talked about some of that in my comments, some of the things we're doing, certainly, in locomotives. I talked about turning back the leased locomotives. We're doing that, adjusting to it. We've got 150 locomotives laid up right now, and we'll continue to adjust as we go on. From a rolling stock standpoint, JJ talked about it. We've got 5,000 cars, we're ridding ourselves up another 6,000 laid up that are off car hire relief. We'll continue to be aggressive in that area. From a people standpoint, we continue to adjust our hiring model year-over-year. So we've done that as the year has gone on. We'll continue going into next year. And then finally, I talked about the mechanical footprint that we're looking at from an alignment standpoint. As we see the volumes dropping, it is about getting our locomotives to the right shop, reducing inventory, increasing reliability. And ultimately, that will mean less people to do that. So we'll continue to be aggressive in this area and continue down that path.

[Jean-Jacques Ruest]

That's right. And more effort on fuel efficiency. And even in IT, we're in the process -- have been in the process now for a few weeks and we're going to do that between now and year-end to convert what we call 2 paycheck of consultant with 1 paycheck of a permanent employee. So you will see some money moving from purchased services into added head count, but the net of that is almost a ratio of 1.9. The net of that is dollar savings because the employee at CN are -- the way we have it sorted out, the cost is less than the purchased services of a consultant. I don't know if that helped.

[Operator]

The next question is from Benoit Poirier from Desjardins Capital Markets.

[Benoit Poirier]

So my question is more under -- on the intermodal side. Prince Rupert is currently running [ a month late ]. There's also additional business with Costco in Vancouver. But I was just wondering whether the slowdown in volume is kind of slowing down the port expansion. And any thought about the blank sailing, whether it's more specific to a particular geographic region?

[Jean-Jacques Ruest]

It's -- I think Keith can answer that in your question that's sort of the short term, which is the peak season and then blank sailing in the long term, which is those expansion which will take place. Keith?

[Keith Reardon, Senior Vice]

Yes. In the long term, those expansions will go on. There's no discussion about stopping that in the short term. With regard to blank sailings, we are seeing blank sailings. And let's all remember what a blank sailings is. It's where the operator of the vessel is looking to consolidate volumes and maybe stop calling on a particular port, maybe skip a port, and a lot of that has to do with capacity management. And we are seeing those and they're mostly on the West Coast. We are not seeing as many on the East Coast as of yet.

[Jean-Jacques Ruest]

If I may add, Benoit. So if you go in our deck for this quarter, you go on Page 21 and you will see the expansion that are being worked on by DP World. And there's $3 million of -- $4 million of jointly fund track in different infrastructure outside of the terminal itself, which can be built over the next 24 months by CN, the federal government and the Port of Prince Rupert. So they're investing, and we're investing. And those infrastructure are going ahead.

[Operator]

The next question is from Ken Hoexter from Bank of America.

[Kenneth Scott Hoexter, Managing Director and Co]

Maybe just a little clarity on that outlook to explain. Are you -- just to understand, are you now targeting negative earnings in the fourth quarter given that the upper teens or mid-teens kind of grows in the first couple of quarters? And I guess, just trying to understand, is this beyond economic? Is it forest product, secular shift or delayed coal grain, crude that could ramp up as we move forward? Just want to try to understand how you roll into the fourth quarter and then into early 2020.

[Ghislain Houle, Executive VP & CFO]

Thanks, Ken, for the question. I can take the first part and then maybe I'll turn it over to you, James, for the commodity outlook. Obviously, I mean, Ken, you can do the math but we went from a low double-digit EPS growth and now, we're high single digit EPS growth. So obviously, we -- Q4 will be a challenging quarter. And if you look just from a volume standpoint, month to date, I mean, our volumes, and we do report our volumes both in terms of carload and RTMs, our volumes are down 10%. So obviously, that impacts EPS. And I'll let you do the math but obviously, that -- the volume deterioration or challenge is the story. Maybe, James, you want to touch quickly on some of the commodities.

[James Cairns, Senior Vice]

Yes, I think I'll talk about a couple of markets. You mentioned forest products. So forest products, that is a structural change and the BC forest products industry, that business is not coming back. But you can expect to see the same run rate in -- or similar run rate in Q4 that we saw in Q3. On the crude side of the business, that's a little different. If you look at the comps from last year, Q4 compared to Q4 of this year, we had an all-time record 232,000 barrels a day that we moved in Q4. As we were getting to ramp up, we take on this additional capacity and the government contracts that were coming into bear. That didn't happen. And this year, we're not going to see that level of shipment, and we don't expect to see the same level of shipment that we saw last year. So it's going to be a very difficult comparison year-over-year basis. Coal is going to continue to be a very, very favorable year-over-year comps in Canada. Coal in the U.S., as much as we are seeing a improved run rate from Q2 into Q3 and expect to see that continue into Q4, we are not going to hit the record coal volumes of U.S. export that we saw in 2018. I hope that gets to the root of your question there.

[Operator]

The next question is from Ravi Shanker from Morgan Stanley.

[Sawyer C. Rice, Research Associate]

You've got Sawyer Rice on for Ravi. Maybe just bring it back to crude by rail here. I guess the question is how quickly could you get teams in place to be able to move higher volumes in the event that the Alberta government does transfer the program to private hands and removes curtailments there? And then maybe just any way to frame how you guys could see volumes ramp into 2020 in that case?

[Jean-Jacques Ruest]

So maybe I can start on the resource side. We have the locomotive, the people and the track capacity to ramp it up now up to the 300,000 barrels that we talked about earlier. In term of what's been happening in the marketplace, I'll let James talk about what's the color there.

[James Cairns, Senior Vice]

Yes, I don't -- it's unclear to us what might happen in 2020 as far as what crude is going to look like. It's really going to be dependent on if the Alberta government is successful on placing the contracts in private hands and if they lift the curtailment on production. There's about 200,000 barrels a day of crude that is not moving, that's in the ground, that wants to move if the production curtailments are lifted. And if that does happen, we're ready, willing and able to move that volume. Rob asks me all the time. He says, "When's the crude coming? When's the crude coming?" I'm saying, "I'm glad you're ready to go, Rob. And as soon as I know, I'll make sure that you know."

[Operator]

The next question is from Allison Landry from Crédit Suisse.

[Allison M. Landry, Director]

I just wanted to ask a little bit about the Q4 guidance and specifically, the OR. Seems like the implied operating ratio is maybe a bit worse sequentially than we've seen historically. So I was wondering if you could talk about the factors that might be driving that, if it's mix driven, if there's any seasonality with TransX that we need to think about. Any color would be helpful.

[Jean-Jacques Ruest]

As you know, Allison, we don't do guidance by quarter, but let's see if Ghislain can help you a bit with the...

[Ghislain Houle, Executive VP & CFO]

Yes, there's always -- when you look at the OR, Allison, on a quarter-by-quarter basis, there's always some seasonality. I mean remember, we are the railroad of the north. So obviously, the winter hits us earlier than others. So that -- there's some seasonality there. I mean we just had quite a dump of snow in Western Canada about a week or 2 ago. So there is some seasonality there. And as I said, some of it is volume. And some of it, remember, is we are reducing or rightsizing our resources. But as I've mentioned a few times, there is always a lag when you do that where by the time that we identify cars or locomotives to be returned, sometimes that benefit is it comes a couple of months after because you need to inspect. You need to know where you're going to return those assets to the lessors and so on, so there is a lag. So as JJ mentioned, we don't guide on a quarterly basis on OR, but there is seasonality. Winter comes every year, and then there is a lag when we reduce costs. Hopefully that gives you a bit of color, Allison, and thank you for the question.

[Operator]

The next question is from Jason Seidl from Cowen.

[Jason H. Seidl, MD & Senior Research Analyst]

You guys obviously mentioned you're rightsizing throughout the quarter and fully understand the lag effects of that. But it's hard to rightsize CapEx because a lot of the programs have already been started. How should we start thinking about 2020 CapEx as it relates to the levels of 2019?

[Jean-Jacques Ruest]

Go ahead.

[Ghislain Houle, Executive VP & CFO]

I can take that one, Jason. Like we said, and at CN, we do what we say we're going to do. So again, we've said that we would have 2 years of elevated CapEx, '19 -- '18 and '19. This money we will need because this is on our core route going from, essentially, Western Canada, Edmonton, Winnipeg and then to Chicago. So we believe that we will grow this railroad in the mid to long term for sure. I mean you just heard Keith talk about Rupert being the gift that keeps on giving. So we will need that capacity, and that will be good for us. We've caught up now. So now we need to keep up with our partners and DP World and their expansion, but we will go back to historical levels. So again, next year, and we've said that to people, that next year we would go back to historical levels. And you've been following us for years. You know what that means. And frankly, as we finalize our business plan with our Board this fall, we will provide more visibility on the absolute number in January as we typically do, but rest assured that CapEx will go back to historical levels in 2020.

[Operator]

The next question is from Walter Spracklin from RBC Capital Markets.

[Walter Noel Spracklin, Analyst]

So I'd like to start on pricing and perhaps, I don't know, if, Keith, you want to chime in on, on the intermodal side because I know, JJ, you mentioned you're pricing above inflation and you're not providing specific. But is it fair to say that pricing is being -- is less robust than it was previously? And is that due to excess capacity or truck capacity? Is it due to excess or more intense rail-on-rail competition? Any color you can give in terms of not necessarily the absolute value pricing, but perhaps the directional change in pricing than where it's been earlier this year?

[Jean-Jacques Ruest]

Thank you, Walter. Maybe I'll start and then Keith will come in. We are definitely, definitely pricing above rail inflation. And as you know, rail inflation right now is not that high. So the gap between what we get on price and the rail inflation is something that we feel good about. Keith, do you want to talk about some of your segment?

[Keith Reardon, Senior Vice]

Sure. Walter, you talked about competition. We compete against all the Class 1 railways. We compete against the truck. But I also compete internally against James for money, for capital. So if I bring a project where I want to grow the business to Ghislain and JJ and I don't meet the hurdle rates, then I don't get the money. So we have a very disciplined approach inside that if we need things, then we have to have a good track record and we have to have gained confidence from JJ and Ghislain that we are doing the right things from a pricing standpoint.

[Operator]

The next question is from Steven Hansen from Raymond James.

[Steven P. Hansen, Senior Vice President]

Just a quick one for me on forestry, if I may. James, I think you mentioned earlier in the call that forestry is down to a more stable run rate now. Are you getting good indications from the BC customers, the millers, that is, that the predominance of the capacity curtailments or shutdowns have occurred thus far? And should we expect or are we at risk of another step down once some of the log decks burn through? Just curious, any colors you might have there.

[James Cairns, Senior Vice]

I think longer term as you look out past 2020, 2021, you're going to see additional takedown in capacity just because of the allowable cut. Right now, the indications we're getting is it's stable pricing. Indications are that we've kind of reached a new stable level that we've seen through Q3 that we expect to continue on moving forward, and that's what we are resourcing against, Steven.

[Jean-Jacques Ruest]

And if I may add -- Steve, if I may add. So the pine beetle is actually moving in the province of Alberta, and there's a number of producers that tell us that they think the province will have to do what BC has done, which is to control the pine beetle, they will have to open up the forest to a higher rate of cut. So at some point, we -- even though this fast pace of cutting of the pine in BC is done, at some point, we might see some of that in Alberta in an area that's favorable to CN, which is in the North and Midwest.

[Operator]

The next question is from Seldon Clarke from Deutsche Bank.

[Seldon T. Clarke, Associate Analyst]

I just want to get back to CapEx for a second. So can you guys help me better understand why the intensity of investments wouldn't come down next year sort of, I guess, below your typical historical range given your envelope this year is unchanged at $3.9 billion? RTMs have been -- your RTM assumptions have come down from up high single digits to now down slightly year-over-year. So could you just give us a sense of why that you wouldn't see savings roll over into next year based on your capital envelope for this year?

[Jean-Jacques Ruest]

Yes, maybe I can start. The [ intensity ] of the CapEx will go down next year. We've been very clear about this for quite a number of months. And what will be the final CapEx program, we're going to decide that in January at the Board meeting because we would like to see what the fourth quarter will do in term of total volume. There is obviously a direct relationship between how is the business doing, how much CapEx we need to lay out. And I think right now, being in the part of the economy that's moving fairly fast, we would like to have the benefit of knowing what the fourth quarter will do in term of railroad -- in term of volume for all the railroad before we finalize the CapEx. But the CapEx intensity is going to come down, including at CN. Anything else you'd want to add as well?

[Ghislain Houle, Executive VP & CFO]

Maybe I just want to, Seldon, tell you as well that, again, our use of cash strategy has not changed for the last 15 years. It's always the first use of cash is towards the business. And we have a very focus on return on invested capital, as you know, and we've publicly said that we are targeting 15% to 17% in the next 2 to 3 years. So we have a very disciplined approach. But if we have projects at CN that can generate a return in that range, we'd rather do that than do share buyback and because that creates real shareholder value. So to JJ's point, I think our capital intensity or capital envelope will be rightsized and resized because now we're out of that catch-up CapEx. Now we need to keep up CapEx. But again, we manage this business for the mid- to long-term. And we understand that quarters are important, but some of these investments we're making will actually feed this network for many years. And remember, DP World is investing hundreds of millions of dollars in increasing its footprint in Rupert. We need to keep up to make sure that with our partner, we make that gateway competitive and continue to take market share from L.A./Long Beach.

[Operator]

The next question is from David Vernon from Bernstein.

[David Scott Vernon, Senior Analyst]

So I think at the Investor Day, you guys have outlined $1.3 billion to $2.4 billion of incremental revenue opportunity in 2020 to 2022. It feels like we're going a little bit in the opposite direction. Is there anything outside of the structural shift you've seen in the forest products market perhaps that has changed in terms of what that incremental upside opportunity could be? Or should we just think -- be thinking that this is pushed out a year or 2 as we get through this soft patch in the economy?

[Jean-Jacques Ruest]

I think if I may start, so definitely, for all railroad, manufacturing sector is actually probably producing negative growth versus positive growth. The Alberta energy space, whether it's frac sand or crude, is also going to be producing short-term negative growth as opposed to positive growth. To the point made earlier by James, there is crude production available in Alberta, but it's been curtailed. So we -- obviously, we can't move it. In the case of forest product, the fact that the price of lumber is down and the price of -- the cost of stumpage is up and the fact that forest, there's not as many dying trees than it had, is a combination of secular shift and also just cyclical. Cyclical is about the price of the stumpage fee and the selling price of lumber. So you know the story about U.S. coal, and U.S. coal company who are producing thermal coal are increasingly having a tough challenge making any money. And obviously, that has an impact on how much volume is available for the railroad. In the case of CN, we're talking the export market. So I think the issue here is more about the broad economic environment than our customers not being able to perform in their space. Their space is under pressure. So all of them are either producing less or they have had to take some curtailing production. So we can only -- we're not losing market share. But the market that we're serving on manufacturing, natural resource, energy and trade is not as big as it was, and I think that's true for all of the North American railroad. When you see volume down for the North American railroad, it's way beyond just Precision Scheduled Railroading impact. A big part of that is what demand is available for us in term of the overall economic environment.

[David Scott Vernon, Senior Analyst]

So the projects that were identified are still going to be there. You're just going to have some offsets to work through. Is that the right way to interpret that? Or are there specific...

[Jean-Jacques Ruest]

That's right. So the DP World expansion in Rupert is going ahead. AMCI, who bought the coal and the bulk terminals, that's going ahead. There's expansion coming up at 2 of the container terminal in Vancouver. We're still very much focused on the Rupert of the East. We have a number of initiatives on the carload side. The biggest one is crude by rail. We can actually execute as soon as either the production curtailment are lift or when the province of Alberta transfer these commercial contracts into the hands of private shippers, just as for example.

[Operator]

The next question is from Jordan Alliger from Goldman Sachs.

[Jordan Robert Alliger, Research Analyst]

Just a question and follow-up on intermodal. The yields, the revenue per RTM were up 11%. Revenue per carload, up 12%. So just curious if you could sort of frame that? Is that mix? Is it price? And how do we think about it looking ahead? Because it is a big number.

[Jean-Jacques Ruest]

Keith, you want to do that?

[Keith Reardon, Senior Vice]

Sure. Thanks, Jordan. The revenue uptick there included TransX. So when you look at that, it's about $100 million or so.

[Operator]

The next question is from Brian Ossenbeck from JPMorgan.

[Brian Patrick Ossenbeck, Senior Equity Analyst]

Just wanted to come back to crude by rail one more time, and it sounds like you're keeping a lot of resources ready in terms of capacity and employment level. So it's coming at a cost to CN, so wanted to see if you're able to get any liquidated damages as an offset. And then if you have any specific comments on the volume number embedded in the updated guidance, that would also be helpful.

[Jean-Jacques Ruest]

Yes, so I think -- let's maybe start. So we do have locomotive. As Rob mentioned, a number of them are parked and then -- how many are parked, Rob?

[Robert E. Reilly, Executive VP & COO]

150.

[Jean-Jacques Ruest]

And then we are returning the last of the leased locomotives. On the people side, we do have the qualified crews. And either they're on furlough or they're taking vacation and -- it's partly a cost we can avoid, partly a cost we have to carry. And when it comes to the take-or-pay system, maybe you want to add color, James?

[James Cairns, Senior Vice]

Yes. When we got back to the crude by rail space, we were very clear to have these new contracts based on take-or-pay volume commitments. So we always want to move the railcars. We always want to move the crude. But if we don't, these are take-or-pay contracts.

[Jean-Jacques Ruest]

That's right. So the -- it was done from the beginning. The capacity was going to be made available, which obviously we have. I just mentioned that we have the capacity. We could do up to 300,000 barrel a day. We could do that in October, November, December, if need be. But in order for us to create the capacity, there was an agreement in this contract for us to be protected with some minimum amount of cash just to have the capacity available even if we don't move the crude. So I hope that answers your question.

[Brian Patrick Ossenbeck, Senior Equity Analyst]

And the fourth quarter expectation, similar to 3Q? And so these issues give you...

[Jean-Jacques Ruest]

You want to give some color on the fourth quarter crude by rail volume, James?

[James Cairns, Senior Vice]

Yes, I would say we're looking at, again, looking at difficult comps. But if you look at Q3 going into Q4, we were flat Q3 from Q2. We're going to be slightly down, I think, in crude by rail volume going Q3 to Q4 unless something changes. At the end of the day, if the customers phone us up that have these take-or-pay contracts and say, "I'm ready to move. Let's go," we're going to be ready to move. The differentials aren't quite there yet. We're looking at differentials somewhere in the range of $14 to $15 per barrel should be a strong pricing signal moving forward to get back in the game. But again, I think the government curtailment and the kind of capital and the amount of crude produced puts an artificial cap on the differential. Customers look very, very hard about getting back into the crude by rail space without some notion of longevity.

[Jean-Jacques Ruest]

Yes. So fourth quarter of last year, on average, we moved 232,000 barrels per day, and the peak month was the month of December where we moved 250,000 barrels per day. We actually provide you with those stats on Page 19 of our appendix to give you the reference point of what is comparable for crude by rail.

[Operator]

The next question is from Scott Group from Wolfe Research.

[Scott H. Group, MD & Senior Transportation Analyst]

So RTMs are going to be down a little bit this year and earnings is going to be up high single digits. If we think -- if we assume RTMs are going to be down a little bit again next year, maybe down in the first half, up in the second half but, call it, down a little bit, do you think it's harder or easier to do high single-digit earnings growth next year? Just anything you want us to be thinking about comps wise, easier, tougher, to do high single next year relative to what you're doing this year.

[Jean-Jacques Ruest]

It's -- the crystal ball for next year is not clear yet. So I would think that we would know a little more about the first half than the second half because it's closer to us. So the first half might be more challenging than the second half on the overall business environment, economy. But how we manage all these things with cost, we don't want to be giving guidance today about 2020, but maybe we can give some hint. But I think one of the hints is the first half might be more challenging than the second half.

[Ghislain Houle, Executive VP & CFO]

Maybe I want to -- maybe I can give a little bit of color to your point, JJ. On this one, you will have to stay tuned, and we will provide visibility at the end of January as we typically do. And frankly, as JJ is mentioning, the first half, like, again, in Canada, being the railroad of the north, the winter comes every year. So that's -- we never know how that's going to impact us. Now we've done a few -- quite a bit of investment to help us through the winter. Like, for example, we have 40 more air cars, Rob, that we will be able to use. So now we'll have 100 air cars, and this typically allow us in -- when it's very cold, to have long -- to be able to have longer trains than if we wouldn't have them. So there's things that we did and that we're doing that will help Q1 and -- but in terms of cost takeout and volumes, Scott, on this one, I mean, we're -- as you know, the environment is changing quickly, and I would tell you to stay tuned on that one and we'll provide more visibility in January, as we typically do, for the entire 2020.

[Jean-Jacques Ruest]

Yes. And Scott, you could go back to some of the comment made at the beginning by Rob about rolling stock, locomotive, the shops where we do maintenance work, the overall head count. These are all areas right now that we're looking at and actually executing PSR.

[Operator]

The next question is from Konark Gupta from Scotiabank.

[Konark Gupta, Analyst]

Just a question on pricing. What kind of discussions, if any, are you having with your customers or ship line partners regarding the impact of IMO 2020?

[Jean-Jacques Ruest]

Keith?

[Keith Reardon, Senior Vice]

Yes, Konark, thanks for the question. We do have those discussions with our line -- liner customers. We know that they are in their discussions with the beneficial cargo owners. We've seen some of those dates that those surcharges will go into play. We've seen some of them get pushed out from -- maybe some of them wanted to start in October. We've seen some of them push to December, maybe some in November. But that is something they're going to have to do to recoup their higher cost. We also see some of the BCOs with their own surcharge that they're going back to the lines with. So it is a very dynamic situation and one that we're keeping apprised of, but it really should not impact us at this point in time.

[Operator]

The next question is from Tom Wadewitz from UBS.

[Thomas Richard Wadewitz, Managing Director and Senior Analyst]

Wanted to see if you could offer some thoughts sequentially on head count and, Rob, if you could kind of ballpark some of the commentary on mechanical resource reductions. Are you talking about 50 people, a couple hundred people? What's the magnitude of potential reduction in resource in that bucket and how quickly you can respond on head count in the fourth quarter?

[Jean-Jacques Ruest]

You want to add some color, Ghislain?

[Ghislain Houle, Executive VP & CFO]

Well, maybe high level and then I'll let Rob jump in. But if you look at our head count on a sequential basis between Q2 and Q3, we're basically flat. If you look at head count on a year-over-year basis, Tom, Q3 over Q3, if you -- you've got to take into consideration TransX here. If you do take into consideration TransX, then actually, our head count is down about 1%. And so -- and then I'm going to reinforce JJ's point and then turn it over to Rob. When you look at head count, you've got to be careful because we're focused on cost. And head count is part of the story, but it's not the entire story. And the example that JJ talked about a little bit is in IT, in our technology department, where actually head count there may be a little higher, but we're getting rid of a lot of high paid consultants. And therefore, on a net basis, it's a net-net win for us. So that's what we're focused. At CN, we use the nomenclature of being focused on paychecks, and paychecks include consultants. So Rob, I'll let you cover the mechanical piece.

[Robert E. Reilly, Executive VP & COO]

Right. And the only other thing I'd add to that, Ghislain, is that from a T&E standpoint, productivity is actually up 2% year-over-year from an employee per GTM. So we're actually seeing improvement in that piece year-over-year. On the mechanical piece, we're in the process of rolling that out right now. It's one that's going to last through the end of the quarter and into the first quarter of next year. Obviously, there's a lot of communication to go with that. Really don't have a number to give you in terms of that. We will have fewer heads in the mechanical department as we react to the volumes that we're seeing right now. And it isn't just about fewer heads. It's really about aligning our resources in our mechanical department that'll allow us to have better productivity, really schedule our maintenance on our locomotives better and create greater reliability overall. Thanks for the question, Tom.

[Operator]

The next question is from Justin Long from Stephens.

[Justin Trennon Long, Managing Director]

And maybe just to start by building on that last question. As we think about comp per employee based on some of the things that you just described, should we expect downward pressure in comp per employee as we get into next year? And then also, I wanted to ask about the impact from TransX to the OR. I believe at the Investor Day you talked about it being around 100 basis point headwind, so curious if that's still what you're seeing play out today.

[Jean-Jacques Ruest]

Ghislain?

[Ghislain Houle, Executive VP & CFO]

Well, TransX, as you know, we did say that, I think, in Q2 that it had about 100 basis points. I would say that it's still the same, but TransX is part of the family. So part -- TransX is part of the family. Keith is working very hard with myself and others to get a very successful integration of TransX. I think we're well on our way. We're very pleased with the acquisition, and the integration is going quite well. In terms of your question related to employee productivity, I think you -- I wouldn't assume more pressure on employee productivity, absolutely not. I think that as we continue to advance, as we continue to deploy technology, actually it'll make us more efficient. And frankly, as we deploy RPA and as we deploy some of the handheld devices that you have in the deck at the end here, that actually employee productivity will be better on a year-over-year basis. I don't know whether Rob or JJ, you want to add anything.

[Jean-Jacques Ruest]

Rob?

[Robert E. Reilly, Executive VP & COO]

No, I agree with everything you said. As technology continues to roll out, not just next year but into the year after, we'll continue to see the benefits not only in efficiency but also in safety as well.

[Ghislain Houle, Executive VP & CFO]

And then in regards to, finally, your comp per employee, I wouldn't go into that level of detail. I think at the end of the day, we're all -- I mean if you look at either TransX employees or our own employees, we're all part of the family, and I wouldn't go in that detail at this point, Justin.

[Operator]

This concludes today's question-and-answer session. I would like to turn the meeting back over to Mr. Ruest.

[Jean-Jacques Ruest]

Thank you, operator. Thank you, Patrick. And thank you for all of you to join us tonight. And I'd like to take the occasion to take a very special thanks from myself to all of the CN employees. They are dealing with every challenge as they come to us, but first and foremost, with safety in mind and everybody at CN has a can-do attitude. So I appreciate very much the effort of all the CN team who makes possible this solid EPS and operating ratio that we've been producing in the third quarter. So thank you for joining us. Thank you, Patrick. This is the end of today's call. Thank you.

[Operator]

Thank you. The conference has now ended. Please disconnect your lines at this time, and thank you for your participation.