Canadian National Railway Co

TSX:CNR

Earnings Call Transcript 2017-Q4

[Operator]

Welcome to CN's Fourth Quarter and Full Year 2017 Financial Results Conference Call. I would now like to turn the meeting over to Mr. Paul Butcher, Vice President, Investor Relations. Ladies and gentlemen, Mr. Butcher.

[Paul Butcher, Vice]

Thank you, Patrick. Good afternoon, everyone, and thank you for joining us for CN's Fourth Quarter and Full Year 2017 Earnings Call. I would like to remind you about the comments already made regarding forward-looking statements. With me today is Luc Jobin, our President and Chief Executive Officer; Mike Cory, our Executive Vice President and Chief Operating Officer; J.J. Ruest, our Executive Vice President and Chief Marketing Officer; and Ghislain Houle, our Executive Vice President and Chief Financial Officer. [Operator Instructions] I will be available after the call for any follow-up questions. It is now my pleasure to turn the call over to CN's President and Chief Executive Officer, Mr. Luc Jobin.

[Luc Jobin, Chief Executive Officer, President and Director]

Thanks, Paul, and welcome, everyone, to our fourth quarter and full year 2017 earnings call. Well, we faced in the fourth quarter some very challenging operating conditions. On top of record workload levels, specifically in key segments such as Western Canada and the U.S. Midwest, we encountered in the quarter a series of outages on our main line and very cold December weather across the entire network. These conditions, while largely outside of our control, nevertheless, resulted in disruptions and put our network resiliency to the test as our operating team worked hard to maintain the best level of service possible for our customer in the circumstances. I'm extremely proud of what our dedicated team of railroaders at CN have been able to accomplish in the face of such adversity. In fact, when you look at our operating ratio in the fourth quarter at 60.4%, it is -- when you look at the previous record in terms of volume, it is lower than the previous record in terms of volume, going back to 2014, where we had an OR of 60.7%. In any event, to deliver this kind of environment -- in this kind environment implies, however, an exponential level of resources, higher cost and less efficiency as trains are shortened, delayed and/or detoured. Many of our partners in the supply chain also faced weather-related issues and some other own capacity issues in the fourth quarter, also compounding that challenge. Mike will give you more color in a minute on how we've been ramping up resources, and that's people, mode of power and infrastructure, in the last quarter, but more importantly, how our 2018 operating plans are addressing this situation as we move through winter and then build momentum in service and efficiency throughout the year. That being said, the fourth quarter capped an impressive year for CN in 2017, a year where we delivered strong all-around results as we onboarded significant volume, adding over $1 billion of revenues while growing adjusted diluted EPS by 9% to $4.99. We also generated solid free cash flow. With this strong performance and good prospects for the future, we announced today that our board has approved a 10% dividend increase for 2018. In essence, we have witnessed strong growth across a broad range of business segments in '17, and J.J. will recap our fourth quarter and full year performance. He'll also give you our perspective on key markets as we look ahead in 2018. Turning to financials, Ghislain will give you more flavor for the quarter and the full year results. He'll also share with you our outlook for 2018. All right. So on that note, let me turn it over to Mike and the team for their more detailed comments. Mike?

[Michael A. Cory, Chief Operating Officer and Executive Vice]

Thank you very much, Luc. Our 2017 saw a record volume and workload handled. To put the growth story in perspective, volume growth in 2017 has been, by far, the biggest increase I've experienced in my time as an operating executive at this company. Our ability to handle it and the complexities that come with the demand of our customers and changing operating environment is a testament to the talented group of railroaders I'm proud to lead. Our traffic workload or GTMs continue to climb in the fourth quarter, up 3% from Q4 2016 and 7% versus Q4 of 2015. For the full year, overall workload was up 11% over 2016 and 6% compared to 2015. The real story that always that in segments of our network, volume was up by as much as 20% compared to 2016 and 18% compared to 2015. As I've explained before, our standard approach is to accommodate growth through increased trainload. Over time, our investment in the network-related components like sidings and double track has allowed us to safely and efficiently increase our train links and tonnage at a rate to accommodate growth at a low incremental cost, but not necessarily introducing additional trains. As you can see, even in the tougher operating conditions, we've continued to respond to growth by increasing train size by 8% in the last 2 years. This has been accomplished with minimal network investment. The growth we experienced in 2017 came on quickly and concentrated. This concentration placed resiliency pressure in certain geographic areas and has had an effect on fluidity and resource availability as portions of our network have seen substantial volume increases. This rate of growth has required additional train starts. And as a result, we have not been able to maintain the speed of trains in segments of our network. Our network is primarily a single-track operation with some components of double track on our main line. Both were wise investments we made in previous years that will continue to be made in the coming years as we leverage this railroad to growth. As I mentioned on the third quarter call, our Western Canadian and Wisconsin corridors have experienced the greatest growth. In Wisconsin, volume was up 17% year-over-year and 13% compared to 2015. This was driven by strong movements in specific commodities, notably frac sand, which doubled relative to 2016; while crude, intermodal, finished vehicles and fertilizers all experienced double-digit increases. In Northern BC, coal and intermodal drove volumes up 20% year-over-year and 18% compared to 2015. Operating crews, locomotives and cars are all operating at less than optimum velocity as a result of the loss of resiliency due to the concentrated growth. In the fourth quarter, we had a series of significant outages on our Western Canadian mainline corridor in October and December. An early winter also impacted network fluidity and productivity. Like cars on a freeway, when rush hour hits or disruptions occur, fluidity drops. In the railway, you see this in train speed, car velocity and terminal dwell. As we recovered our fluidity in December, cold weather set in, and both train size and fluidity were affected. To date, this harsher winter, coupled with higher volumes in certain segments of our network, has had a greater impact on overall velocity and productivity than we have seen in the previous 3 years. In order to combat the effect of the present conditions, we've brought on additional locomotive fleet through short-term leases and are working to move more people into high-growth areas using provisions in our collective agreements. While we are very skilled at managing through temporary situations like this, we have worked equally hard to take the necessary steps to identify and create plans to increase network capacity and resiliency in order for us to meet our future growth opportunities and customer demands. I'm very confident that once winter conditions subside, our performance will improve, and we'll be in position to deliver some very strategic capital programs, and we'll continue to produce top line growth at low incremental cost. As Luc mentioned earlier, we're bringing our capital investment to a record $3.2 billion this year with approximately $700 million targeted to increase network capacity and resiliency, providing a level of service and efficiency required. On the locomotive front, we're acquiring 200 locomotives with 60 coming online in 2018. As mentioned earlier, we have term-leased locomotives to bridge the gap. Overall, we are well positioned for mode of power and have flexibility to respond to changing demands. We've been very busy hiring and are starting to see the qualified new employees put into service. In Q1, we will have about 400 new conductors qualify. Our hiring continues in pace with growth forecasted this year and in response to attrition. We're stepping up our investment in network capacity with detailed plans in place for network enhancements, mostly double track and long sidings. These investments will realize benefits in later quarters as we continue to leverage this franchise for growth. Our approach to network investments is building resiliency to support continued growth at low incremental cost and to increase our network fluidity. Our trains will continue to get bigger. With more trains on the network, we must reduce the number of times trains have to stop from meet and the duration of that stop. That is why a number of our investments are targeted for building double-track sections where our big trains can meet without stopping. Imagine driving on a one-lane logging road, having to stop and pull over every time there's an approaching truck. As the number of oncoming trucks increases, you pull over more often, ultimately adding time to your journey. This is why we are creating more opportunities to keep moving even as oncoming traffic approaches. Further, these investments and added resources will help us regain speed and prepare us for continued growth, notably in our high-growth corridors, the corridor between Edmonton and Chicago, as well as on the British Columbia territories. Our investments in capacity will help enable this and are positioning us well through 2018 and beyond as we work closely with J.J. and his team to leverage this great franchise for future growth at low incremental cost. With that, over to you, J.J.

[Jean-Jacques Ruest]

Well, thank you, Mike, and it's J.J. speaking. I'm going to do a brief commercial overview of the last quarter. We experienced very strong growth in calendar 2017 with over $1 billion of top line growth or approximately $1.15 billion on the FX-adjusted basis. Regarding the last quarter, revenue was up $68 million, 2.1% above last year or 5.1% on the FX-adjusted basis. CN revenue on the revenue ton-mile were up 1%. We are currently very tight on network capacity. But as Mike mentioned, we have a very strong CapEx program to add to our network by late summer. The same-store price on the last quarter was up 2.4%. The coal pricing from recent renewal concluded in the last 90 days produced coal pricing averaging 3.8%. Same-store price is a backward-looking measure of price applied on our full book of business of the prior quarter. Coal pricing from recent renewal is a forward-looking measure of price trend from the deal that just got renewed in the last 90 days. As a reference point of the rail industry cost inflation, the AAR all-inclusive less fuel index for calendar 2017 came in at 1.9%. Last quarter, the strong Canadian currency was $96 million negative headwind on last quarter revenue, while the fuel surcharge program was a $50 million positive addition. I will now -- let's now turn to the -- some of the detail of the last quarter, but also more important, on the outlook forward, starting with frac sand. Frac sand revenue was up about 50%. This segment remained very solid on the CN network. That's especially for destination service centers that are unit-train capable. International container revenue went up 22%, and demand for imports stays very strong, so much it has created port congestions. We are now in the process to evaluate all of our trade opportunities and to redesign our forward book of business. Regardless of the outcome of some contract negotiations, our 2018 volume outlook is to set new record volume on the West Coast. The North American market demand for imports and for our product is that strong. Last quarter, Prince Rupert revenue was up more than 35%. Vancouver, Halifax, and Montreal were up about 15% each. On export potash, we diverted almost 1.5 million ton in calendar 2017 from the West Coast to the East Coast Port of St. John, mostly heading to Brazil as the final destination. The CN Canadian grain volume was down from last year's record carload as we experienced a number of disruption on the network. However, the current harvest is strong at 71 million metric tons, and the export from the CN catchment area should stay solid till the middle of the summer. Coal revenue grew by 7%, mostly from export via both the West Coast and the Gulf Coast. China and India have really driven the world price and demand for seaborne coal. Sea and coal export prospect for 2018 and 2019 is solid. Some mine will increase production, and some other mines will be starting up. We deemphasized crude by rail volume last quarter to save network capacity for regulated Canadian grain, and we brought our crude business down by 30% for the time being. However, since December, the crude price spread for Western Canada Select versus WTI, Brent and Maya shot up in the USD 25 to USD 30 per barrel range, creating a brief, favorable forward volume and pricing environment for crude by rail. As our new CapEx capacity get deployed by the summer, we will reenter Canadian crude with improved core pricing and with take-or-pay volume contract. Demand held up for lumber volume despite the application of the U.S. import tariff. The higher lumber selling price has basically neutralized the U.S. import duty. In conclusion, to wrap this up, demand for transportation services is strong and broad-based. Demand visibility is good, and it's in line with the business sectors that we described in our last June investor meeting. On pricing, as demand is rising for most transportation mode and on most individual carriers, core pricing and deal renewal are generally trending up. On volume and network capacity, in the case of CN, RTM is the data set to follow. Currently, January to date, CN's volume in RTM are down 3.5%. And generally speaking, our business will grow in line with our network capacity. Our volume will ramp up as our capacity to CapEx become operational and as our new crew has become qualified. At this point, I'm going to pass it on to our fearless CFO, Ghislain.

[Ghislain Houle]

Thank you, J.J. Starting on Page 13 of the presentation, I will summarize the key financial highlight of our fourth quarter performance, then I will comment on our full year 2017 results. And finally, I will provide our financial outlook for 2018. As J.J. have previously pointed out, revenues for the quarter were up 2% versus last year at just under $3.3 billion. Fuel lag on a year-over-year basis represented a revenue headwind of $15 million or $0.01 per bps, driven by an unfavorable lag in the fourth quarter of $25 million versus an unfavorable lag of $10 million experienced in the same quarter of last year. Operating income was $1.3 billion, down $94 million or 7% versus last year. Our operating ratio came in at 60.4% or 380 basis point higher than last year. Higher fuel prices accounted for 100 basis point of this increase in the quarter. Excluding this impact, the operating ratio would have been 59.4%. Net income stood at slightly over $2.6 billion or 156% higher than last year with reported diluted earnings per share of $3.48 versus $1.32 in 2016, up by 164%. Excluding the impact on deferred income tax expense from the U.S. tax reform and the enactment of higher provincial tax rates in Canada, our adjusted diluted EPS for the fourth quarter came in at $1.23 or 2% lower than last year. The impact of foreign exchange was unfavorable by $26 million on net income or 3% on EPS in the quarter. Turning to expenses on Page 14. Our operating expenses were up 9% versus last year at $1,984,000,000, impacted by higher fuel prices; a less fluid network, including harsh, early winter weather across our network; and higher volumes. Expressed on a constant currency basis, this represented a 12% increase. At this point, I will refer to the variances in constant currency. Labor and fringe benefit expenses were $589 million, 6% higher than last year. This was mostly the result of higher wage expenses, partly offset by lower incentive compensation. We finished 2017 with a pension tailwind of $30 million versus the prior year. As the discount rate finished at 3.51% at December 31, pension expense will be a headwind of around $50 million in 2018 versus 2017 on a year-over-year basis. In addition, pursuant to a new accounting GAAP on pensions starting in January, only current service costs will be accounted for in labor and fringe benefit expenses, and all other components of pension expense will be reclassified in a separate caption called net periodic benefit income or cost, excluding current service costs below operating income. Purchased services and material expenses were $473 million, 13% higher than last year. This was mostly the result of higher trucking and transload expenses, higher material and repair costs and lower credits driven by our capital program. Fuel expense came in at $379 million or 27% higher than last year. Higher fuel prices accounted for roughly a $60 million increase, while higher volumes was an $8 million unfavorable variance versus 2017. Fuel productivity was unfavorable by 1.7% in the quarter versus last year driven by commodity mix and lower velocity but was essentially flat for the year. Depreciation stood at $316 million, 4% higher than last year. This was mostly a function of net asset additions. Equipment rents were up 18% versus last year driven by increased car hire expenses. Finally, casualty and other costs were $120 million, which was 12% higher than last year, mainly driven by an insurance recovery claim recorded in the fourth quarter of 2017. Let me now turn to our full year results on Page 15. We completed 2017 with revenue slightly above $13 billion, over $1 billion or 8% higher than 2016. Our operating expenses at around $7.5 billion were 11% higher than last year, producing a 5% increase in operating income versus 2016. The operating ratio stood at 57.4%, 150 basis point higher than last year. Higher fuel prices accounted for 90 basis point of this increase. Net income was up 51%, just shy of $5.5 billion. Excluding the impact of the onetime line sale in 2016 and income tax adjustments in both years, including the U.S. tax reform in 2017, adjusted diluted EPS for 2017 came in at $4.99, up 9% versus 2016. This is quite a performance in a strong volume growth environment. Now moving to free cash flow on Page 16. For the full year 2017, we generated $2,778 000,000 of free cash flow, which is $258 million or 10% higher than in the prior year. This was mostly driven by improvements in net income and favorable working capital, partly offset by higher cash taxes. Our capital expenditures finished roughly at our increased budget of $2.7 billion, and our balance sheet remained strong with debt and leverage ratios well within our guidelines. Finally, let me turn to our 2018 financial outlook on Page 17. As the demand environment remained solid, we continue to be optimistic with regards to CN's prospects for the year. While we expect volume growth in 2018, we are continuing to experience some volatility in a number of commodity sectors. North American economic conditions should remain supportive with continued favorable consumer confidence supporting growth in many sectors. While energy markets, namely frac sand, crude and steel, have demonstrated strong growth in 2017, we would expect more moderate growth this year. In addition, we are assuming the Canadian to U.S. dollar exchange rate to be approximately $0.80 and fuel prices to be in the range of USD 60 to USD 70 per barrel WTI. Finally, our effective tax rate should be around 25% for the year versus 26% in 2017. This environment should translate into volume growth in the range of 3% to 5% in terms of RTMs for the full year versus 2017 with overall pricing above inflation. Therefore, we expect to deliver EPS in the range of $5.25 to $5.40 versus 2017 adjusted diluted EPS of $4.99. On the capital front, we remain committed to reinvesting in our business to support safety, service and growth. Given the strong volume environment we have experienced in 2017 and to continue to support future growth opportunities with superior service, we are increasing our capital envelope for 2018 by a full $0.5 billion to approximately $3.2 billion. A good portion of the increase relates to step-up in capacity investments to accommodate strong volumes. Investments in PTC and other mandated regulatory initiatives should be roughly flat on a year-over-year basis. Furthermore, we continue to pursue our shareholder return agenda. In 2017, we returned to shareholders roughly 85% of our adjusted net income through dividends and share repurchases, and our current share buyback program is approximately $2 billion for 2018. Finally, we are pleased to announce, as Luc mentioned, that our Board of Directors has approved a 10% dividend increase for 2018, reflecting our solid performance in 2017 and our confidence in the future as we progress towards a 35% dividend payout ratio. In closing, we remain committed to our agenda of Operational and Service Excellence with our supply chain focus, and we continue to manage the business to deliver sustainable value for our customers and shareholders today and for the long term. On this note, back to you, Luc.

[Luc Jobin, Chief Executive Officer, President and Director]

All right. Thank you, Ghislain, and thanks, guys, for giving a little bit more color and detail around the quarter, the year, and more importantly, I think the bright prospects ahead. Our outlook for 2018, to sum it all up, is actually quite constructive. The economic backdrop remains favorable in the North American economy, and we expect continued volume growth. Although this will be muted for CN in the first quarter, it will increase through the balance of the year. Mike is ensuring that our resource investments get fully deployed, and this will support gains in service, efficiency and volume, starting sometime in the second quarter, but much more robust in the second half of the year. J.J. highlighted future opportunities for CN. And in the context of tighter capacity and generally strong demand for transportation services however judiciously managing our demand portfolio and pricing accordingly. Ghislain gave you our EPS guidance and key underpinning assumptions. Keep in mind here that in 2017, in the first half, our RTMs were actually up on average about 17%, and our EPS was up about 18%. So clearly, we're going against some very, very strong comps, looking back to last year. And so you got to keep those numbers in mind as you're modeling -- trying to model all of this. Our decision to step up our capital investments to $3.2 billion in support of both our short-term business requirements and long-term opportunities will allow CN to grow profitably while delivering superior shareholder value. We have a solid plan, a very strong team and the determination to see it through, so we remain confident in our ability to deliver for our valued customers while positioning CN for long-term success. This has been our strategy at CN since 2010, and we remain on track. So on that note, I will turn it over back to you, Patrick, for questions.

[Operator]

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

[Van Patrick Kegel, Research Analyst]

This is Van Kegel on for Brandon. The CapEx uptick is pretty significant at close to 23% of the revenue. Is that kind of within your range of the expectations you set out for the 20%-plus level through 2021?

[Ghislain Houle]

Yes, absolutely. As you remember and during the -- this is Ghislain. During the Investor Day, we guided our CapEx to be, on average, for the next 5 years, in -- around 20% of revenues. I would tell you, in the next few years, I would tell you that we're looking more in the low 20s. So again, if you look at for this year, it will be around 23%. So the low 20s is probably a good number.

[Luc Jobin, Chief Executive Officer, President and Director]

Yes. And I think, again, as we look at 2018 and with the book of business that we've brought on in '17, it was clear that we wanted to, very quickly, get back to the spot that we have been holding for quite some time in terms of superior service and superior efficiency. So we actually look to '18 and said, "You know what? We're not going to mince our words." We're actually -- we have the opportunity, and we felt good. And this is -- if you go back to 2013, '14, we also faced similar conditions. And again, I mean, so we took the same approach. It is an opportunity, so we're not -- so we're quite confident that the capital we're going to be deploying is going to bear fruit. Where we go from there, looking beyond '18 will remain a factor of what it is that the business looks like and the growth. J.J. did outline some pretty significant opportunities, and we did that both back in June at our Investor Day as well as in his update. So we feel the opportunity is there. And smart capital, which for us, revolves mostly around our main line and key equipment, so -- such as locomotives, is clearly a good place to be deploying the capital. So we feel good. It'll be somewhere in the 20% to 25% range is really what we think is not an unreasonable range, and we'll go from there. Thank you for your question.

[Operator]

The next question is from Fadi Chamoun from BMO Capital Markets.

[Fadi Chamoun, Managing Director and Analyst]

I just want to kind of drill a little bit on the operating side. I mean, it sounds like you've kind of brought onboard some capacity in terms of crude and in terms of locomotive. If you can talk us through like what are the critical project on the network that you need up and running to kind of restore fluidity to normal level than incremental margin to normal level? And the timing of that, is this kind of early spring turn? Or is it a little bit more delayed than that?

[Michael A. Cory, Chief Operating Officer and Executive Vice]

It's Mike here, Fadi. Let me put a little color around this first. We did some work at the tail end of 2017 because we had the ability in Wisconsin to help a little bit with our frac sand franchise, and at the same time, provide a little bit of relief around a couple of the operating yards that, up to that point, our main lines ran right through. This work we're talking about now is definitely located in Western Canada, where we've seen, I wouldn't say normal disruptions, but in my experience, this can happen. We've had a series of disruptions since the middle of October that really shows that our resiliency between Winnipeg and Edmonton is not there. Those disruptions, this is already on a piece of track that is handing probably 15% more volume. And it's our highway essentially between Western Canada and the Eastern in the U.S. But that 15% with these disruptions, exponentially, the volume started to grow 20% and 25% that have to move because every time we stopped, we had no way around. Those -- that area specifically will see about 4 to 5 pieces of double track put in. That's between Winnipeg and Edmonton. And then to J.J.'s point, we see tremendous growth in the BC North corridor with both coal and intermodal to Rupert, that success story. We're going to spend quite a bit of time up there this spring and start to put about 6 sidings up there that will help us create that fluidity we need, as well a little bit of work on the corridor to Vancouver, same thing. So we're -- soon as winter is over and as soon as we can start, and this will not be one crew, obviously. This will be numerous work crews that are out there. But as soon as we can start laying the foundation to build the track and the double -- and the sidings, we'll be out there. So that's at some point in late Q2. But we see -- this is starting to come to fruition in Q3 and Q4 where you'll start to see us perform. And not just on the main line, but that will also allow us to relieve the pressure in our yards. We have 4 major yards in Western Canada that have really had a hard time pushing traffic out onto this really heavy highway, so to speak. So I'd say, Fadi, just in closing, Western Canada is really primarily the location we're going to be focusing our capital spend investment this year. And that will take place as soon as winter allows us to get in and out of the track, and we'll see the results of that in the second half of the year, as Luc said.

[Luc Jobin, Chief Executive Officer, President and Director]

Well, Fadi, we're -- it's Luc. We're certainly looking for an early spring, so we'll be out there with a sense of urgency. And of course, it takes a little bit of time for that infrastructure, but we've actually done -- where we could, we've prepared the groundwork. So again, we should be off to the races as soon as weather conditions permit. Thanks very much, Fadi.

[Operator]

The next question is from Chris Wetherbee from Citi.

[Christian F. Wetherbee, Vice President]

Wanted to ask a question on sort of the cadence of the year, maybe keeping guidance in perspective. So Luc, you mentioned, obviously there's going to be some headwinds in the first quarter, in particular, but maybe the first half in general. How should we think about earnings growth? Could it be down in the first half before sort of comping against easier numbers in the second half and growing? And then maybe just a little bit of a question about that network recovery. It sounds like we're hearing maybe second quarter could be when we get the work going, but maybe second quarter could be when we start to see the results in crude. I just want to make sure I'm kind of clear on some of the puts and takes and the timing of how things play out in 2018.

[Luc Jobin, Chief Executive Officer, President and Director]

Yes. Thanks for your question, Chris. Listen, I think you got it pretty good. We don't -- obviously, you know, I mean, we do not guide on a quarterly basis. But I think it is helpful to give you folks a little bit more of that sense of timing. And yes, I mean, the first half, strong comps, a little bit of flex because we've got more crews, and we've got more automotive power. So as we're dealing with winter, of course, weather permitting, anytime we have a little bit of a reprieve, you can see -- we can move the volume, and it's encouraging. But we can never really expect a mild winter to finish up the first quarter. So first quarter, it will be difficult. And again, we're going against some very, very strong comps last year. Second half, we're flexing and some of the infrastructure starting to happen. And again, I mean, it will be a positive momentum, but it really builds and delivers really in the second half. So it's going to be a tale of 2 halves in 2018. And if you look at the first half, again it'll be a tale of a very tough first quarter followed by clearly some momentum in the second. Thank you, Chris.

[Operator]

The next question is from Benoit Poirier from Desjardins Securities.

[Benoit Poirier]

Yes. Could you maybe provide more color about the pricing? You were quite detailed about the core pricing for renewal, which seems positive. I was just wondering what type of expectation should we be looking for in 2018? And also, if you could talk about the mix also, if it will offset kind of the pricing strength you see?

[Jean-Jacques Ruest]

Well, thank you, Benoit. It's J.J. So when we look at forward pricing, we can maybe reduce it to 2 buckets. One bucket is a deal that were renewed the last 90 days. So they're a new deal, let's say from October 15 to January 15. And on the average, those deals, weighted average difference is 3.8% core pricing. So that's pricing going forward. And as you would know, in every quarter, we also have a multiyear contract, 2, 3, 5 years contract, when we apply the GRI, the general rate increase. And those application of GRI are based whatever the market was when those contracts were signed. So forward pricing is a combination of past trend of multiyear contract as well as recent trend of deal that were made in the last 90 days. So the trend is, right now, based on core pricing is capacity is tight, at least at CN. And I think it is also in some other transportation mode and companies is for better pricing environment for 2018. I think that's pretty much all I can say about we're doing forward, and hopefully that helps.

[Operator]

The next question is from Matt Reustle from Goldman Sachs.

[Matthew Edward Reustle, Fixed Income Analyst]

Yes. Just wanted to follow up on crude by rail commentary you had on the call. Is this something where you've already discussed with customers or you are discussing and seeing interest in longer-term contracts, volume commitments on those contracts? And can you provide us any additional guidance about how much is baked into your estimates for 2018 and how long we should think about this opportunity lasting?

[Jean-Jacques Ruest]

Okay. It's J.J. again. So the first thing we do is we sat down a very specific workout detail with Mike's team as to what kind of capacity we have month by month for 2019, looking at 2018 and looking at 2019 as well. You know that the history of crude by rail is a bit of like a yo-yo. It's kind of a -- more of a spot business than an ongoing long-term business like Canadian regulated grain is. So therefore, we -- as we now deploy grade-fresh capital and Luc and Ghislain, our shareholders expect a return on that fresh capital. We've offered some of that future capacity to crude company who are willing to commit with us. We commit capacity. We deploy fresh capital. We expect they will be there when the capacity come in and not jump ship. So on those bases, we've offered capacity for the second half of this year and some of 2019. We have made agreement where the capacity is now locked in at better price than what crude by rail was in the last 12 months. When the 2 parties commit to one another, they will move product no matter what. And we still have some capacity that we can offer on that basis.

[Luc Jobin, Chief Executive Officer, President and Director]

Thank you for your question, Matt.

[Operator]

The next question is from Turan Quettawala from Scotiabank.

[Turan Quettawala]

Yes. I guess you sound pretty bullish on volumes overall despite all the capacity issues, and I do understand that there's going to be some capacity issues that'll maybe hurt you in the first half. I guess my question is, maybe for J.J., when you think about your 3% to 5% RTM growth estimate for the year, is there room for a potential upside in the second half? And I guess also, where would it come from? And maybe you can talk a little bit about some of the areas that you think there might be some risk?

[Jean-Jacques Ruest]

I think it's maybe a question I can answer jointly with Mike. It's 3% to 5% is where we're comfortable. We don't know yet what kind of a winter we'll have the next 2 months. So far hasn't been that great. So that's not giving us a lot of confidence, but you never know. Then after, that's a question of how the work -- will work comes during the summer and whether or not we'll have access to the network that Mike talked about in July, on August, on September. So capacity is a question of weather at construction sites, and Mike's in here running a big construction company this year.

[Michael A. Cory, Chief Operating Officer and Executive Vice]

Yes. No. And Turan, we're sitting down literally as we speak, going through the best possible opportunities to continue to upgrade, not just our service, but the volumes J.J. is bringing and find a way to do this tremendous amount of work in that already heavy corridor that goes from the West Coast to the East Coast. So look, we're going to get this work done. We're going to get the volumes that J.J. is predicting we're going to have -- well, not predicting but said we're going to have. And this isn't the first time we've had to do this, and we'll make it happen.

[Luc Jobin, Chief Executive Officer, President and Director]

Yes. And I think it's fair to say, Mike, that when we look at the detailed plans we've laid out for all of this infrastructure work, it's probably down to a level of precision that we haven't seen and we haven't really done in this company before. So we're kind of doubling down. Listen, I mean, we are -- we tend to be a cautious bunch. Some have called us conservative before, and we're not insulted. We want to deliver, and we want to regain the momentum. So it's with that, that we've approached the guidance, and as J.J. said, 3% to 5%. There's always potential, but we're being thoughtful about when and how to onboard more volume growth. But clearly, if you look at us historically, we've been opportunistic where it makes sense. And last year, we got a lot more than we expected. And again, that's a nice problem to have. So we're just in the process of making sure that we digest that as much as we can in the first and second quarter. And -- but you should expect that, as I said, strong second half, and we'll be there. If there's any upside, we'll be there for it.

[Michael A. Cory, Chief Operating Officer and Executive Vice]

Yes. Any carload available, we'll graph.

[Luc Jobin, Chief Executive Officer, President and Director]

Thank you for your questions, Turan.

[Operator]

The next question is from Tom (sic) [ Ken ] Hoexter from Merrill Lynch.

[Kenneth Scott Hoexter, Managing Director and Co]

It's Ken Hoexter. So Luc, maybe just a little bit on your thoughts, is this the end of Precision Rail? And is this becoming now a cyclical business purely dependent on volumes and adding capacity along with those volumes? Or in hindsight, I don't know, Mike, maybe it's for you. Is this something that -- how you catch the regional growth, how it grows so rapidly? Or is it just really a surprising ramp up in volumes?

[Luc Jobin, Chief Executive Officer, President and Director]

Well, to be honest, Ken, I mean, we have been on the same strategy since 2010, right, which is to balance operational excellence -- service and operational excellence. So we have looked to continue to grow a little bit faster than what the markets would normally have. It's not a straight line, and sometimes it happens a little more quickly than you'd hope. If it's over a period of time, then you have the opportunity to layer in your capital and your investments in a more thoughtful and longer-term time frame. So you know what, I mean, the strategy hasn't changed. I think, as I mentioned earlier, we are still very much focused on delivering on both fronts. The operating ratio, as I did mention, actually, when you look at comparable volume is actually lower than the last record. And I mean, we all knew that 2016 was not a year of comparison for '17. So all that to say, strategy is the same. We are continuing on a bias towards growing a little bit faster but doing that in a way that balances these 2 things. So it's not all about growth, and it's not all about cost. It just -- the reality lies somewhere in between. And given the cards that you're dealt as the business comes on, you do the best job possible in the short term to accommodate it. And -- but with the $3.2 billion, you can clearly see that our commitment is strong and our confidence in the future is as well. So Mike, I don't know if you want to add a couple of comments.

[Michael A. Cory, Chief Operating Officer and Executive Vice]

I just -- you made the reference of Precision Railroad. Look, this has been an extremely tough quarter, just from -- again, from the lack of resiliency we've had in our major corridors, the concentrated growth and then you throw in some pretty tough winter conditions. But when it comes to sweating assets, controlling costs, managing the process tightly, we're all disciples. That never leaves our operating team. We -- it's about delivering just those 3 things like I said, Ken, so that doesn't change.

[Operator]

The next question is from Walter Spracklin from RBC.

[Walter Noel Spracklin, Analyst]

I'd like to -- I guess this one is for both Ghislain and Luc. Looking at your -- going back to your longer-term 10% EPS growth guidance that you provided back in kind of May, at that time, you were benefiting from some significant growth from the first half of the year. And obviously, the pipeline looked attractive, and that was delay up to the guidance that you gave. That growth came on a little bit more -- in a more challenged fashion than you had envisioned, and now we're looking at about a 9% earnings growth in 2017 and a 5% to 8% that you're providing in guidance for 2018. Does that mean that with the volume coming in a little differently than you expected, your 5-year target now is you're not as comfortable with any longer? And should we have a reexamination of the 10% EPS growth rate over that period? Or is this something that you believe in the later years you can get up to the low teens that you would require to get that 10% CAGR?

[Luc Jobin, Chief Executive Officer, President and Director]

Yes. I mean, thanks for your question, Walter. Okay. So listen, if you look at the numbers, first of all, for 2017 and if you remove a little bit of the FX noise, we're actually up 10% EPS growth. And when you look at the guidance we've provided, you can see as well that there's an FX headwind in there. Now we can't control that, and so we'll take it as it comes. But our overall -- the overall longer-term guidance we've provided back in June remains the same. It's unchanged. The -- as we mentioned back then, I mean, the way in which this comes about is not linear. It's not steady, but the prospects are good. And frankly, we are very much on track. I think a little bit more growth than we expect into '17, a little bit more digestion in early '18. But J.J. reaffirmed in his sense that a lot of these opportunities continue to be out there for the taking, and we're very well positioned for that. And so we feel very good about the longer term. And the 10% on average over that period -- that time frame, 5-year time frame, is absolutely still within our scope.

[Operator]

The next question is from Cheril Radbourne from TD Securities.

[Cherilyn Radbourne, Analyst]

Wanted to ask a question on the intermodal outlook because the slides mentioned that you expect to test the expanded capacity limit at Prince Rupert this year, which is pretty extraordinary. So I'm just curious whether you think that with your partners you'll be able to exceed the nameplate capacity as you did in the last phase? Or whether, in fact, this is a suggestion that the next phase might be needed sooner than expected?

[Jean-Jacques Ruest]

Thank you, Cheril. This is J.J. So this year, what we would like to test is the nameplate capacity, which is 1.35 million TU per year. We don't really want to go -- we don't have a vision at this time to go beyond that. That's something we probably would like to test in 2019, if we're successful with the first phase. And I know DP will intend to proceed -- my understanding, they intend to proceed with the next phase of construction, which means eventually building some more capacity in the future. So to test the capacity of Rupert this year, it could be 1 of 2 things or it could be 2 things. One is existing customers of Rupert today may come in with bigger vessel, with bigger discharge. And we've had discussion with both Alliance using Rupert, and they [indiscernible] right now to look at that very seriously. Or it could also be a new service from a new alliance, the one which is a combination of Japanese or German and the Taiwanese. That's also a serious possibility. And they could be possibly both these things happening at the same time. So that's why, early on, I was saying we have these 2 opportunities, bigger vessel and/or new alliance. Plus, there's a Korean shipping line who wants to enter the Vancouver market. Plus we have a major contract to renew with the Japanese in Vancouver. Look at it as a baseball team where you have more players coming from the farm league coming up to the majors, and we can't accommodate all 4. So we will make the choice in the weeks to come. We intend to set record in the West Coast this year. Rupert is one of the place where we think there's a biggest potential return of the asset and the capacity to do there. Mike is deploying some extra siding and double tracking in that direction. And right now, we haven't said how we're going to play these 4 cards, but we think we have enough cards to be successful of creating some new record this year.

[Operator]

The next question is from Ravi Shanker from Morgan Stanley.

[Ravi Shanker, Executive Director]

Just to follow up on the earlier CapEx commentary. Can you just help us understand, of the $3.2 billion CapEx, what's the timing on the ROI of those investments? I mean, is that pretty quick? And what percentage of that will you see returns starting in the second half of '18 versus what percentage of that is longer-term contracts that take a few years to deliver returns?

[Ghislain Houle]

Yes. Let me -- Ravi, it's Ghislain. Let me give you a little bit of more color on the CapEx. So again, as Luc mentioned and I mentioned in my remarks, the total investment that we're looking at is $3.2 billion. We're looking at, again, very consistent basic investments. And we've done that year in, year out at about $1.6 billion, and this is maintenance investments on our track infrastructure. We've -- we're looking at PTC to remain basically flat at $400 million year-over-year. Equipment, and Mike have referred to it on locomotives and cars, is $400 million. And then when you look at other, therefore growth and efficiency and capacity, it's about $800 million. So now if you strip out and you look at capacity per se, and capacity meaning investment that Mike has referred to in terms of siding and also capacity in our intermodal terminals and also capacity in terms of our rolling stock and locomotives, then you're looking at $700 million of capacity investment. So it's significant. And as Luc mentioned, I think we -- on the infrastructure side, we have a very robust plan that we will monitor very closely to make sure that we deliver on that plan. Now all of the projects that we have at CN, the CapEx go through a very rigorous process. And again, we've provided some visibility at our Investor Day in June that really -- like again, there are some maintenance CapEx on the track, but all other projects were looking for a rate of return of 12%, and that's our threshold. So again, we're looking at -- we're getting all these projects in the ringer. Obviously, these capacity, and what Mike is referring to, we've got all this profitable business coming at us. So I think -- and Mike has gone through some very detailed work as to where these capacity are required. And we're very confident that this will provide very good value for the company, and we're looking forward to monetize on those as they come online in the second half of the year.

[Luc Jobin, Chief Executive Officer, President and Director]

Yes. And Ravi, it's Luc. I'll just add a little bit of color on this. Frankly, Mike is chomping at the bit. I mean, when he looks at the opportunity for getting our operating numbers to where he's used to, this is going to pay off very, very quickly, I mean, both in terms of service and in terms of efficiency. So we're not really worried about the return on this. And as I said, it's all on the main line. I mean, this is capital that serves the entire book of business because it does extend between the West Coast, all the way down to probably halfway through our southern region. And that's where we've seen the growth being concentrated. And as we look forward, that's where we continue to see good growth prospects. So expect a -- this is almost -- in our view, it's almost a no-brainer investment and one that will bring returns in the very short term. So I hope this helps you get a bit more comfort around that. Thank you for your question.

[Operator]

The next question is from Seldon Clarke from Deutsche Bank.

[Seldon T. Clarke, Associate Analyst]

In terms of your 2018 capital plan, just what type of excess capacity does this give you above your current revenue run rate? And if you can just help me understand how current capacity constraints and sort of the timing delay of these investments might impact some of the more near-term contract negotiations.

[Michael A. Cory, Chief Operating Officer and Executive Vice]

Well, I'll start with the capacity. Capacity is relative. And for us and for what our customers demand, whether it be speed or reliability, we obviously need more capacity or resiliency than we have today. And so these investments I think, as we've said earlier, start to provide us with the ability, not only to bring on more traffic, but the traffic we have moving today, do it faster, do it cheaper. So sweep the assets harder, control those costs, and that's what allows us actually then to now go back with J.J. and provide that level of service that he needs to get that good volume growth that we've been working through.

[Luc Jobin, Chief Executive Officer, President and Director]

Yes. And just before J.J. jumps in. It's Luc. Listen, Seldon, the reality is, historically, we've always err on the side of being there at 5 to midnight as opposed to 5 after midnight. It turns out this year, or '17, that, I mean, the onslaught of business was amazing, and so here we are. We clearly need more resiliency, as Mike indicated. When we, as a team, look to the prospects for the next 3, 4 years, they are very good. And so what you should expect is that we will continue to invest in a pretty robust fashion. We -- again, we think that the prospects longer term are good, and we do want to be a little bit more ahead of the curve than we were in '17. The -- it's always a very difficult measure in terms of exactly how much capacity. I mean, it's more of an art than a science. But we feel good that the investments we have on the books for '18 are actually going to give us very, very good momentum, not just for '18 and catching up, but momentum which will be there to carry through '19 and beyond. And as we continue to look at the opportunities, if we continue to see them, as we've indicated, we'll be back looking at, again, continuing to build the network in '19 and beyond. So that's kind of how we're looking at it.

[Michael A. Cory, Chief Operating Officer and Executive Vice]

Just -- again, it's a network. And these investments are not singularly done in locations. These are to not just broaden this whole entire network, but they're very valuable pieces for us to be able to deliver this growth, this volume at the service level and the price -- service level and the efficiency and cost that we feel that we're accustomed to, so.

[Luc Jobin, Chief Executive Officer, President and Director]

And to relieve pinch points, there's always -- when the business grows, there's always the next pinch point. There's the next opportunity for, again, either efficiency gains or service enhancements. Thank you for your questions, Seldon.

[Operator]

The next question is from Steve Hansen from Raymond James.

[Steven P. Hansen, Senior Vice President]

Yes. Just a quick one from me. J.J., I think if I caught it in your prepared remarks that you said you're in the process of redesigning or reevaluating your current book of business given that you've got tight capacity right now. Outside of the crude opportunity that I think we've discussed here already, are there other parts of your book that you're looking at shaking up to make way for better pricing or for better opportunities in the book?

[Jean-Jacques Ruest]

So yes, Steve. So one of them was regarding the international container business on the Canadian West Coast and I did describe in my answer to Cheril the 3 -- the 4 things that we are looking to select from to promote on the West Coast book of business. And that example, you could argue the work we did between Christmas and New Year on our very detailed month-to-month capacity program for 2018 and how we, after that, went out to market with some of that on the take-or-pay contract, and these contracts are very month-specific. And so these would be 2 examples of how we doing -- we're going to be doing crude in 2018 much different than last year, and we're going to be doing the West Coast international business somewhat different this year than we did last year, as an example. But broadly speaking, when you talk about price, you're talking capacity is tight, and the network is a highway used by all. And therefore, the capacity is tight by all. Therefore, the pricing environment is good, more favorable for all market, regardless of color, size or where they come from, East or West.

[Operator]

The next question is from Justin Long from Stephens.

[Justin Trennon Long, Managing Director]

So I was wondering if you could provide an update on where you stand as it relates to PTC implementation. I know you mentioned that CapEx should be relatively flat this year, but how should we be thinking about the potential ramp in operating costs related to that technology, both in this year and beyond?

[Ghislain Houle]

Yes. Justin, this is Ghislain. Let me give you a bit of color. As you know, from an operating standpoint, PTC -- OpEx standpoint, PTC in '17 was about $120 million, 1/3 of which was depreciation. I think as we look at '18, it looks like PTC operating expenses will be more around $160 million, about 40% of which is depreciation. Again, I'm not going to go into the future years. I mean, I think this year is going to be a big year for PTC. As you know, we have to deliver half of our -- the PTC subdivision that we've committed to this FRA by the end of the year. I think we've got good momentum. We've got a very good team, and we're very confident that we'll deliver on our commitment by the end of the year.

[Operator]

The next question is from Brian Ossenbeck from JPMorgan.

[Brian Patrick Ossenbeck, Senior Equity Analyst]

So just if you can give us an update on the labor side. I know you're trying to hire, I think, around 250 conductors in the fourth quarter, looking at 400 or so in the first quarter. How many more from there do you think you need for the second quarter and for the full year? And just what's the hit rate on being able to get people back into the training system and back on the network and especially in some of these pinch points where you really need them the most?

[Michael A. Cory, Chief Operating Officer and Executive Vice]

It's Mike here, Brian. First of all, training is at full bore in both our training centers right in Chicago and Winnipeg. We're looking at qualifying, I think I said, 400 conductors for the quarter, and we'll continue to replace people one-for-one in the transportation ranks. We'll follow growth closely with J.J. We'll match that up with what our productivity levels will be and how they'll improve as we invest in capital, and we'll hire accordingly. I don't want to get into too many specific numbers at this moment, but we're fully ramped up to do it. We're doing it as we speak. And as the need comes through attrition and/or growth or both, we'll hire accordingly.

[Luc Jobin, Chief Executive Officer, President and Director]

Yes. And Brian, it's Luc. Just to -- again to add a little bit to what Mike said. So about 400-or-so conductors in the first quarter. I would -- again, we're -- our best estimate is about the same as the second quarter, so a little bit more front ended. On the year, all in all, but this is total labor, we're probably looking at somewhere in the neighborhood of 2,000 or thereabouts. So but be careful, because here, they're not all conductors. And so -- and we, as I've said, I mean, we are -- we'll be erring on the side of being a little bit long. And for the rest of labor, we're not replacing one for one. So we continue to have some gains on the non-T&E. We continue to invest on the mechanical side. It's very important for us.

[Michael A. Cory, Chief Operating Officer and Executive Vice]

We're ramping up for our engineering programs.

[Luc Jobin, Chief Executive Officer, President and Director]

Yes. And so that gives you a little bit more the specifics around that, hopefully. Thank you for your questions.All right, Patrick. I think we'll bring the session to a close. I want to thank everybody for joining us on this call for the fourth quarter results as well as the full year 2017. We look at 2018 with a great deal of anticipation. And frankly, as I mentioned earlier, we can't wait for winter to subside and then really get out there and railroad the way CN has done over the years. The prospects remain bright, and so we're pretty excited about the way forward. We're deploying capital. We're mobilizing resources. We've got great plan. And as I said, the team is really pumped. So I hope you all will join us for the first quarter results. And in the meantime, I hope everybody will be safe. So thank you very much, Patrick. We'll now bring the call to a close.

[Operator]

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