Original Source: FD (FAIR DISCLOSURE) WIRE
UNIDENTIFIED COMPANY REPRESENTATIVE, UNION PACIFIC: These statements are, or will be, forward-looking statements and include without limitation expectation as to increased returns, cost savings, and earnings, estimates or forecasts relating to the Corporation's business operations or performance or increasing demand for rail transportation in excessive supply. Expectations regarding operational improvements, including management initiatives that have been, or will be, implemented. Expectations regarding field price and the time by which certain objectives will be achieved. Forward-looking statements should not be read as a guarantee of future performance or results, and will not necessarily be accurate indications of the time that, or by which, such performance or results will be achieved. Forward-looking information is subject to risks and uncertainties that could cause actual performance or results to differ material from those expressed in the statements. For detailed information regarding forward-looking information and such risks and uncertainties is contained in the materials accompanied by this presentation and the filings made by the Corporation with the Securities and Exchange Commission which are available on the Corporation's website. The Corporation assumes no need to update any statements or information provided in this presentation or the accompanying materials.
OPERATOR: Greetings, ladies and gentlemen, and welcome to the Union Pacific second quarter earnings release conference call. At this time all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. If anyone should require Operator assistance during the conference please press star, zero on your telephone keypad. As a reminder this conference is being recorded. It is now my pleasure to introduce your host Mr. Dick Davidson, Chairman and CEO of Union Pacific. Thank you, Mr. Davidson, you may begin.
DICK DAVIDSON, CHAIRMAN, CEO, UNION PACIFIC: Thank you, Dan. Good morning. I'd like to welcome everyone to our second quarter earnings conference call. Here with me this morning are Jim Young, our President and Rob Knight, our CFO. Rob will walk you through our financial performance and Jim will discuss our network operations, including an update on the implementation of our Unified Plan, as well as a review of the performance of our major business segments. I'll then return after their comments to give you the outlook for the rest of the year and then we'll open it up for your questions. Before turning it over to Rob, let me start out by providing our second quarter results. I'm pleased to report that our second quarter earnings rose 47% to $0.88 per share, compared to earnings of $0.60 per share last year. Demand for our services continues to be strong and we're just beginning to see improvements in our ability to take some of it to the bottom line. As a result, our operating income, the best measure of our core performance rose 30% in the quarter to $468 million. This is our first year-over-year growth in six quarters and we look forward to this positive trend continuing.
We are encouraged by the operational and financial turnaround we are experiencing, but in fact, the second quarter should have been much better. Our network operations, although improved, continue to impact our profitability in the form of high failure cost and restrained volumes. The significant and ongoing disruption on the Southern Powder River Basin joint line, which Jim's going to discuss in more detail, severely impacted our coal loadings. We estimate, since the middle of May, we missed the opportunity to load over 300 trains decreasing earnings by roughly $0.09 per share in the quarter. We've talked about the maintenance issues on the joint line which are being addressed. What's equally disappointing is that we also lost loads because of issues than some of the mines themselves. The good news is that revenue growth in the other segments of our business was somewhat stronger than we anticipated. As a result, despite some challenges we reported operating revenue growth of 10% in the second quarter to a record 3.3 billion, our highest quarterly revenue ever. The drivers of this growth were our continued focus on yield improvement, fuel surcharges, and modest volume growth. Based upon our experience in the second quarter the economy remains strong. Total volume growth was only 1%, but that figure includes the impact of lower Southern Powder River Basin coal loadings. Excluding coal, our volumes were up by about 2% with intermodal and industrial products growing nearly 5% and 3% respectively.
As we're gradually increasing our operating efficiency we're able to make more of this growing volume -- take more of this growing revenue base to the bottom line. Our quarterly operating ratio improved by two points year-over-year. It's a step in the right direction but still far from satisfactory. We paid an average of $1.67 per gallon for diesel fuel in the quarter. This was on the high side of our expectations and represented a 44% increase over the $1.16 we paid a year ago. Although, high diesel prices and fuel price volatility remain a challenge we continue to work diligently to take the impact of fuel price out of the equation. Clearly, the second quarter results are a positive step for our Company. We still have a great deal of work ahead, but we believe we're starting to see the benefits of the various network management initiatives undertaken in recent months and we look forward to leveraging those efforts going forward. So with that let me turn it over to Rob to take a closer look at our financials. Rob?
ROB KNIGHT, CFO, UNION PACIFIC: Thanks, Dick. And good morning. I'll start off today with a look at our income statement. Operating revenue grew by 10% in the second quarter or $315 million. Driving this growth was a 10% increase in commodity revenue to $3.2 billion, our best ever quarterly performance. We achieved this growth with only a 1% volume increase. The second quarter started off strong with April volumes up 3%, but the unexpected decline in coal shipments associated with the Southern Powder River Basin joint line issues curtailed growth in May and June. Prior to the May incidents we were on pace to move an additional 40,000 carloads or $50 million in coal revenue for the quarter. However, other business groups experienced stronger revenue growth which helped offset the coal shortfall and kept commodity revenue growth within our guidance range. Our mix of business was actually negative in the quarter due to a decrease in higher priced automotive and chemical carloads combined with a 5% increase in lower price intermodal business. [Indiscernible] to the first quarter fuel surcharges contributed about half of the growth or $158 million. You'll recall that there's about a two month lag in our recovery process, so in this environment of rising high -- fuel prices we're continually chasing the recoverage curve. Yield initiatives added more than four points to our revenue growth. This was another strong quarterly improvement and reflects the great demand we're seeing in the marketplace.
Turning now to our Operating Expenses, which were up 8% in the quarter to just under $2.9 billion. This slide shows the year-over-year change in each of our six expense categories. I'll quickly walk through the first three listed here and then talk a little bit more detail on the last three. Equipment and other rents was down $22 million in the quarter or 6%, which was better than expected. There were several puts and takes in this line item, but our improved car cycle times accounted for about half of the decrease. Lease expense for new freight cars and locomotives was less than expected in the quarter due to delivery delays which will now take place in the third quarter. Offsetting some of the good news items were cost increases due to higher business volumes, as well as the mix of business. And total locomotive lease payments were higher in the quarter reflecting last year's long-term acquisitions. Looking ahead to the third quarter, we're looking for flat to possibly 1% growth year-over-year here. Long-term locomotive leases should be higher in the quarter and volume costs could also increase during the peak season. We would, however, expect to offset most of the increase to better cycle times and fewer short-term power leases. Depreciation expense was up 15 million in the quarter or 5%. This is consistent with our full-year outlook and reflects our ongoing capital programs. Materials and supplies expense increased 12% in the quarter or $14 million consistent with our guidance. Inflation is the primary cost driver in this category with higher material cost for both locomotive and freight cars. Given the increased prices for steel and scrap, we would anticipate another double-digit increase in this category during the third quarter.
Let's turn now to Purchase Services and Other, up $10 million in the quarter or 2%, in-line with our expectations. You may recall that this category had a $30 million increase last year from the San Antonio derailment and our headquarter consolidation. That year-over-year reduction was more than offset in 2005 by roughly $40 million of higher costs, primarily, contract maintenance, state and local taxes, increased joint facility costs, as well as general price inflation. In the third quarter, we're starting out behind the eightball due to a couple of items from a year ago which totaled roughly $25 million; a favorable actuarial study and an insurance reimbursement. We would, however, expect better cost performance as we gain operational efficiency. Including the $25 million challenge we're likely to see a year-over-year increase of around 10%. If you look at our salary and benefit expense, this is another area where we're starting to see margin improvement. Both our headcounts and our costs were up 3% in the quarter, so we've basically were able to offset inflation. We saw improvement in crude utilization and this category also had a year-over-year reduction of about 6 million related to last year's headquarter consolidation. Training expenses were roughly flat year-over-year at $24 million driven by our continued hiring and increased engineer training. For the third quarter we would again expect to offset some of the increased inflation costs with productivity and efficiency gains, but continued pressure from high crude costs and a larger employee base will likely result in a quarterly increase similar to what we saw in the second quarter. Looking out to the end of the year, our current expectation is that we will average on a full-year basis, about 2% more employees than we did in 2004. In part, increased work force levels are attributable to the second half hiring done in order to prepare for 2006.
Turning now to fuel expense, which was up $162 million in the quarter, or a 44% increase in diesel fuel prices. As Dick mentioned, we paid $1.67 per gallon for diesel versus $1.16 per gallon a year ago. As I stated earlier, we recovered roughly $158 million from our fuel surcharge recovery programs. Our fuel consumption rate was also a good news story in the quarter improving 3% from last year and saving us roughly $13 million. A portion of the improvement can be attributable to better service performance, fuel conservation initiatives, and a more efficient locomotive fleet. Looking ahead to the third quarter there doesn't …