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UNP > SEC Filings for UNP > Form 10-Q on 25-Jul-2014All Recent SEC Filings

Show all filings for UNION PACIFIC CORP

Form 10-Q for UNION PACIFIC CORP


25-Jul-2014

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

UNION PACIFIC CORPORATION AND SUBSIDIARY COMPANIES

RESULTS OF OPERATIONS

Three and Six Months Ended June 30, 2014, Compared to

Three and Six Months Ended June 30, 2013

For purposes of this report, unless the context otherwise requires, all references herein to "UPC", "Corporation", "Company", "we", "us", and "our" shall mean Union Pacific Corporation and its subsidiaries, including Union Pacific Railroad Company, which we separately refer to as "UPRR" or the "Railroad".

The following discussion should be read in conjunction with the Condensed Consolidated Financial Statements and applicable notes to the Condensed Consolidated Financial Statements, Item 1, and other information included in this report. Our Condensed Consolidated Financial Statements are unaudited and reflect all adjustments (consisting only of normal and recurring adjustments) that are, in the opinion of management, necessary for their fair presentation in conformity with accounting principles generally accepted in the United States of America (GAAP).

The Railroad, along with its subsidiaries and rail affiliates, is our one reportable business segment. Although we provide and analyze revenue by commodity group, we treat the financial results of the Railroad as one segment due to the integrated nature of our rail network.

Available Information

Our Internet website is www.up.com. We make available free of charge on our website (under the "Investors" caption link) our Annual Reports on Form 10-K; our Quarterly Reports on Form 10-Q; eXtensible Business Reporting Language (XBRL) documents; our current reports on Form 8-K; our proxy statements; Forms 3, 4, and 5, filed on behalf of directors and executive officers; and amendments to any such reports filed or furnished pursuant to the Securities Exchange Act of 1934, as amended (the Exchange Act), as soon as reasonably practicable after such material is electronically filed with, or furnished to, the Securities and Exchange Commission (SEC). We also make available on our website previously filed SEC reports and exhibits via a link to EDGAR on the SEC's Internet site at www.sec.gov. We provide these previously filed reports as a convenience and their contents reflect only information that was true and correct as of the date of the report. We assume no obligation to update this historical information. Additionally, our corporate governance materials, including By-Laws, Board Committee charters, governance guidelines and policies, and codes of conduct and ethics for directors, officers, and employees are available on our website. From time to time, the corporate governance materials on our website may be updated as necessary to comply with rules issued by the SEC and the New York Stock Exchange or as desirable to promote the effective and efficient governance of our company. Any security holder wishing to receive, without charge, a copy of any of our SEC filings or corporate governance materials should send a written request to: Secretary, Union Pacific Corporation, 1400 Douglas Street, Omaha, NE 68179.

References to our website address in this report, including references in Management's Discussion and Analysis of Financial Condition and Results of Operations, Item 2, are provided as a convenience and do not constitute, and should not be deemed, an incorporation by reference of the information contained on, or available through, the website. Therefore, such information should not be considered part of this report.

Critical Accounting Policies and Estimates

We base our discussion and analysis of our financial condition and results of operations upon our Condensed Consolidated Financial Statements. The preparation of these financial statements requires estimation and judgment that affect the reported amounts of revenues, expenses, assets, and liabilities. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. If these estimates differ materially from actual results, the impact on the Condensed Consolidated Financial Statements may be material. Our critical accounting policies are available in Item 7 of our 2013 Annual


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Report on Form 10-K. There have not been any significant changes with respect to these policies during the first six months of 2014.

RESULTS OF OPERATIONS

Quarterly Summary

On June 6, 2014, we completed a two-for-one stock split, effected in the form of a 100% stock dividend. The stock split entitled all shareholders of record at the close of business on May 27, 2014, to receive one additional share of our common stock, par value $2.50 per share, for each share of common stock held on that date. The financial results discussed in this report reflect the stock split when presenting information on a per share basis.

We reported earnings of $1.43 per diluted share on net income of $1.3 billion in the second quarter of 2014 compared to earnings of $1.18 per diluted share on net income of $1.1 billion for the second quarter of 2013. Year-to-date, net income was $2.4 billion versus $2.1 billion for the same period in 2013. Freight revenues increased 10%, or $508 million, in the second quarter compared to the same period in 2013 driven by 8% volume growth and pricing gains. Volume growth from grain, frac sand, rock, and intermodal (domestic and international) shipments offset declines in crude oil shipments. The second quarter of 2014 generated best-ever quarterly financial results, reflecting our ability to leverage additional volumes and improve core pricing.

In the second quarter of 2014, our volume levels grew 7% from the first quarter and 8% from 2013. These significant growth levels coupled with the residual impact from the severe winter weather that impacted all major U.S. and Canadian railroads affected the performance of our network and the North American rail network as a whole. Recent flooding throughout the Midwest also negatively affected our network and service performance during the second quarter. We recalled furloughed employees and reactivated stored locomotives to help address operating challenges and growing demand, validating our strategy of deploying surge resources. We added over 500 locomotives to our active fleet and over 1,100 Train, Engine and Yard (TE&Y) employees since the beginning of the year. Additionally, the Board authorized an increase in capital expenditures in 2014 to $4.1 billion (which excludes the headquarters building that was purchased in the second quarter) from $3.9 billion. The additional capital will be used for locomotive and railcar acquisitions, as well as additional capacity investment in constrained areas of the network. We will continue to focus on improving service and velocity by acquiring locomotives and hiring employees to meet demand and to ultimately restore our surge capacity.

Average train speed and average terminal dwell were both impacted in the second quarter by inclement weather, congestion at interchange gateways, and increased volume. As reported to the Association of American Railroads (AAR), average train speed decreased 7% and average terminal dwell time increased 12% during the second quarter of 2014 compared to 2013.

Operating Revenues



                       Three Months Ended                          Six Months Ended
                            June 30,                    %              June 30,                     %
 Millions                 2014           2013      Change            2014            2013      Change
 Freight revenues   $   5,661      $   5,153         10%      $   10,947      $   10,137          8%
 Other revenues           354            317         12              706             623         13

 Total              $   6,015      $   5,470         10%      $   11,653      $   10,760          8%

We generate freight revenues by transporting freight or other materials from our six commodity groups. Freight revenues vary with volume (carloads) and Average Revenue per Car (ARC). Changes in price, traffic mix and fuel surcharges drive ARC. We provide some of our customers with contractual incentives for meeting or exceeding specified cumulative volumes or shipping to and from specific locations, which we record as reductions to freight revenues based on the actual or projected future shipments. We recognize freight revenues as shipments move from origin to destination. We allocate freight revenues between reporting periods based on the relative transit time in each reporting period and recognize expenses as we incur them.


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Other revenues include revenues earned by our subsidiaries, revenues from commuter rail operations that we manage, accessorial revenues, which we earn when customers retain equipment owned or controlled by us or when we perform additional services such as switching or storage, and miscellaneous contract revenue. We recognize other revenues as we perform services or meet contractual obligations.

Freight revenues for all six commodity groups increased during the second quarter of 2014 and the year-to-date period of 2014 compared to 2013, as a result of economic improvements in certain market sectors, along with the improved harvest. Volume levels increased for five of the six commodity groups, with particularly strong growth in agricultural products, industrial products and intermodal. ARC increased 1% during both the second quarter and year-to-date periods of 2014 versus 2013, driven by pricing gains partially offset by business mix changes.

Each of our commodity groups includes revenue from fuel surcharges. Freight revenues from fuel surcharge programs were $726 million and $1.4 billion in the second quarter and year-to-date periods of 2014, compared to $665 million and $1.3 billion in the same periods of 2013. Higher fuel surcharge recoveries were driven by increased volume.

In the second quarter and year-to-date periods of 2014, other revenues increased from 2013 due to higher revenues at our subsidiaries, primarily those that broker intermodal and automotive services, accessorial revenue driven by increased volume and per diem revenue for container usage (previously included in automotive freight revenue).

The following tables summarize the year-over-year changes in freight revenues, revenue carloads, and ARC by commodity type:

                                       Three Months Ended                          Six Months Ended
Freight Revenues                            June 30,                    %              June 30,                     %
Millions                                  2014           2013      Change            2014            2013      Change
Agricultural                        $     934      $     784         19%      $    1,844      $    1,568         18%
Automotive                                545            534          2            1,033           1,021          1
Chemicals                                 913            890          3            1,806           1,763          2
Coal                                      989            975          1            1,950           1,911          2
Industrial Products                     1,130            977         16            2,141           1,893         13
Intermodal                              1,150            993         16            2,173           1,981         10

Total                               $   5,661      $   5,153         10%      $   10,947      $   10,137          8%


                                       Three Months Ended                          Six Months Ended
Revenue Carloads                            June 30,                    %              June 30,                     %
Thousands                                 2014           2013      Change            2014            2013      Change
Agricultural                              243            209         16%             482             421         14%
Automotive                                208            197          6              396             381          4
Chemicals                                 283            287        (1)              553             558        (1)
Coal                                      417            414          1              847             816          4
Industrial Products                       356            317         12              670             606         11
Intermodal [a]                            924            822         12            1,757           1,632          8

Total                                   2,431          2,246          8%           4,705           4,414          7%

[a] Each intermodal container or trailer equals one carload.


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                                         Three Months Ended                         Six Months Ended
                                              June 30,                    %             June 30,                    %
Average Revenue per Car                     2014           2013      Change           2014           2013      Change
Agricultural                          $   3,833      $   3,750          2%      $   3,824      $   3,721          3%
Automotive                                2,619          2,715        (4)           2,606          2,683        (3)
Chemicals                                 3,230          3,098          4           3,267          3,160          3
Coal                                      2,369          2,353          1           2,301          2,341        (2)
Industrial Products                       3,175          3,079          3           3,195          3,124          2
Intermodal [a]                            1,246          1,210          3           1,237          1,214          2

Average                               $   2,329      $   2,295          1%      $   2,327      $   2,297          1%

[a] Each intermodal container or trailer equals one carload.

Agricultural Products - Higher volume and price increases drove the increase in freight revenue from agricultural shipments in the second quarter and year-to-date periods of 2014 versus 2013. Grain shipments increased 43% and 41% in the second quarter and year-to-date periods of 2014 versus 2013, reflecting the impact of the severe drought in 2012 that affected territory served by us during the first half of 2013. Higher grain exports also contributed to the increase in grain shipments for both periods.

Automotive - Freight revenue from automotive shipments increased compared to the second quarter and year-to-date periods of 2013. Increased shipments of automotive parts and finished vehicles and core price improvements drove the higher revenue. Increased shipments of finished vehicles in the second quarter with improved sales and production offset declines in the first quarter due to winter weather. Volume for automotive parts increased during the second quarter and year-to-date periods of 2013 driven by continued strength in production and market penetration. Mix shifts and a change in how we are compensated for container usage, which is now included as a per diem charge in other revenue, negatively impacted ARC in the second quarter and year-to-date periods.

Chemicals - Core price improvements partially offset by lower volume increased freight revenue from chemicals in the second quarter and year-to-date periods of 2014 versus 2013. Shipments of industrial chemicals increased due to continuing strong demand in the drilling market in the second quarter and year-to-date periods of 2014. Shipments of crude oil from the Bakken, Permian and Eagle Ford shale formations to the Gulf area declined in both periods, as market factors, primarily regional pricing differences for various types of crude oil, have displaced some of the former gulf coast shipments to the East and West Coast.

Coal - Higher volume increased freight revenue from coal shipments in the second quarter and year-to-date periods of 2014 compared to 2013. Year-to-date, higher volume offset the lower ARC driven by negative business mix, resulting in a net increase to freight revenue in 2014. Despite strong demand due to inventory replenishment following the cold winter, network performance and contract losses limited second quarter volume growth. Southern Powder River Basin shipments declined 2% for the second quarter and were flat year-to-date. Growth in the first quarter due to severe winter weather conditions, low inventories at utilities and higher natural gas prices were offset by the second quarter declines. Shipments from Colorado and Utah mines increased 10% and 11%, from the second quarter and first half of 2013, respectively, driven by high natural gas prices and strong exports through the West Coast.

Industrial Products - Volume growth and core pricing gains increased freight revenue from industrial products in the second quarter and year-to-date periods of 2014 versus 2013. Shipments of non-metallic minerals (primarily frac sand) grew as a result of drilling activity for energy products, partly reflecting evolving drilling practices, which can increase the amount of frac sand used at certain wells. Additionally, both rock and lumber increased 17% in the second quarter, driven by growth in new housing and commercial construction.

Intermodal - Increased shipments and core pricing improvement drove higher freight revenue from intermodal shipments in the second quarter and year-to-date periods of 2014 compared to the same periods in 2013. International shipments increased 13% in the second quarter partly driven by the acceleration of shipments in anticipation of any impasse during renegotiations of labor contracts at West Coast ports. These gains offset the declines in the first quarter due to severe weather that negatively impacted consumer demand. Domestic traffic for the quarter and year-to-date periods increased 12% and 10%, respectively, driven by continued conversions from trucks and new premium services.


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Mexico Business - Each of our commodity groups includes revenue from shipments to and from Mexico. Revenue from Mexico business increased 15% to $599 million in the second quarter of 2014 versus the same period in 2013. Volume levels increased 15% from the second quarter of 2013, driven by strong growth in five of our six commodity groups. Year-to-date, revenue grew 11% versus 2013 to $1.1 billion. Volume levels increased 12% from the first half of 2013, as increases in agricultural products, chemicals, intermodal, and automotive offset lower export in coal shipments.

Operating Expenses



                                       Three Months Ended                          Six Months Ended
                                            June 30,                     %             June 30,                     %
Millions                                  2014           2013       Change           2014           2013       Change
Compensation and benefits           $   1,246      $   1,185           5%      $   2,500      $   2,401           4%
Fuel                                      923            863           7           1,844          1,763           5
Purchased services and materials          636            585           9           1,243          1,142           9
Depreciation                              470            438           7             934            872           7
Equipment and other rents                 316            302           5             628            615           2
Other                                     228            219           4             454            456           -

Total                               $   3,819      $   3,592           6%      $   7,603      $   7,249           5%

Operating expenses increased $227 million and $354 million in the second quarter and six-month periods of 2014, respectively, versus 2013. Volume related expenses, incremental costs associated with operating a slower network, depreciation, wage and benefit inflation, and locomotive and freight car materials contributed to the higher costs during the periods. In addition, the first six months of 2014 includes first quarter weather related costs of approximately $35 million.

Compensation and Benefits - Compensation and benefits include wages, payroll taxes, health and welfare costs, pension costs, other postretirement benefits, and incentive costs. Volume-related expenses and a slower network increased our train and engine work force, which, along with general wage and benefit inflation, drove the increases in the second quarter of 2014 versus 2013. Weather related costs in the first quarter of 2014 also increased costs for the year-to-date period.

Fuel - Fuel includes locomotive fuel and gasoline for highway and non-highway vehicles and heavy equipment. Fuel costs were higher as gross-ton miles increased 7% in the second quarter. The fuel consumption rate, computed as gallons of fuel consumed divided by gross ton-miles in thousands, improved 1% compared to the second quarter of 2013. Increases in heavier, more fuel-efficient shipments, which generally move from a single source to a single destination, drove the gross-ton-mile increase and helped improve the fuel consumption rate despite the increase in our premium services, which generally are not as fuel efficient. Locomotive diesel fuel prices, which averaged $3.10 per gallon (including taxes and transportation costs) in the second quarter of 2014, were flat with the same period in 2013. For the six month period, lower locomotive diesel fuel prices that averaged $3.11 per gallon versus $3.16 per gallon in 2013 reduced expenses by $28 million, which partially offset the increased fuel expense associated with the 7% increase in carloadings.

Purchased Services and Materials - Expense for purchased services and materials includes the costs of services purchased from outside contractors and other service providers (including equipment maintenance and contract expenses incurred by our subsidiaries for external transportation services); materials used to maintain the Railroad's lines, structures, and equipment; costs of operating facilities jointly used by UPRR and other railroads; transportation and lodging for train crew employees; trucking and contracting costs for intermodal containers; leased automobile maintenance expenses; and tools and supplies. Purchased services increased 5% and 6% in the second quarter and year-to-date periods of 2014 when compared to the same periods in 2013, primarily due to volume-related expense incurred by our logistics subsidiaries for external transportation and increased crew transportation and lodging due to volume, weather and a slower network. Year-to-date comparison was also impacted by snow removal in the first quarter of 2014. Locomotive and freight car material expenses increased in the second quarter of 2014 compared to the second quarter of 2013 due to additional volumes, including the impact of activating stored equipment to address operational issues caused by demand and a slower network.


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Depreciation - The majority of depreciation relates to road property, including rail, ties, ballast, and other track material. A higher depreciable asset base, reflecting higher ongoing capital spending, increased depreciation expense in the second quarter and year-to-date periods of 2014 compared to 2013.

Equipment and Other Rents - Equipment and other rents expense primarily includes rental expense that the Railroad pays for freight cars owned by other railroads or private companies; freight car, intermodal, and locomotive leases; and office and other rentals. More intermodal shipments increased short-term freight car rental expense in the second quarter and year-to-date periods of 2014, compared to 2013. Conversely, lower container and freight car lease expense partially offset the higher freight car rental expense, as we exercised purchase options on some of our leased equipment.

Other - Other expenses include state and local taxes; freight, equipment and property damage; utilities, insurance, personal injury, environmental, employee travel, telephone and cellular, computer software, bad debt and other general expenses. Other costs in the second quarter increased from 2013 as higher property tax more than offset lower freight damage. Year-to-date, higher utility costs and property taxes were offset by decreased damaged freight and equipment costs, and environmental expense compared to the same period in 2013.

Non-Operating Items



                       Three Months Ended                         Six Months Ended
                            June 30,                   %              June 30,                     %
  Millions                  2014        2013      Change            2014            2013      Change
  Other income       $       22      $   23        (4)%      $       60      $       63        (5)%
  Interest expense         (138)       (133)        4              (271)           (261)        4
  Income taxes             (789)       (662)       19            (1,460)         (1,250)       17

Other Income - Other income decreased slightly in the second quarter of 2014 versus 2013. Year-to-date, other income decreased as the $17 million received from a settlement of land lease arrangement in 2013 more than offset an increase due to the sale of a permanent easement in 2014.

Interest Expense - Interest expense increased in the second quarter of 2014 versus 2013 due to an increased weighted-average debt level of $10.4 billion in 2014 versus $9.8 billion in 2013. Year-to-date, the increase in the weighted-average debt level to $10.3 billion in 2014 from $9.5 billion in 2013 drove the increase in interest expense for 2014 compared to the same period of 2013. A slightly lower effective interest rate of 5.5% versus 5.6% partially offset the impact of the higher debt balances.

Income Taxes - Higher pre-tax income increased income tax expense in the second quarter and year-to-date periods of 2014 compared to 2013. Our effective tax rate for the second quarter of 2014 was 37.9% compared to 37.4% in 2013. Our 2014 year-to-date effective tax rate was 38.0% compared to 37.7% in 2013.

OTHER OPERATING/PERFORMANCE AND FINANCIAL STATISTICS

We report a number of key performance measures weekly to the Association of American Railroads (AAR). We provide this data on our website at www.up.com/investors/reports/index.shtml.


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Operating/Performance Statistics

Railroad performance measures are included in the table below:



                                         Three Months Ended                           Six Months Ended
                                              June 30,                       %            June 30,                       %
                                            2014          2013          Change          2014          2013          Change
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