Union Pacific CEO on Q1 earnings: 'We’re in the recovery process'

Union Pacific CEO Lance Fritz joins Yahoo Finance Live to break down the company’s first quarter earnings report.

Video Transcript

ZACK GUZMAN: Well, let's shift from planes to trains here. No promises we're going to get to automobiles on this show today. But rail giant Union Pacific also among the companies giving us the earnings update out this morning. The closely watched shipping bellwether reporting operating revenue for the quarter at $5 billion, adjusted earnings slightly below the Street at $2.00 a share. For more on that, I want to bring on Union Pacific CEO Lance Fritz here with us, alongside Yahoo Finance's afternoon anchor Adam Shapiro along with us. And Lance, we'll just start with kind of the results here out this morning. Talk to me about what you saw in this quarter, as you guys kind of battled the weather and, of course, the ongoing pandemic as well.

LARRY FRITZ: Yeah, Zack, thank you very much for hosting me. The story's pretty tight. You're right. We generated $2 off of $5 billion. We had an operating ratio of 60.1. And the story was in the overall quarter, headwinds from the weather event, which were substantial headwinds from the lag effect of a change in fuel price and our ability to recoup it in surcharge, offset, to a large degree or to some degree, by managing the core business very well. We had good solid productivity. And we started out the quarter very strong in January, took a hit in February because of weather. And we're in the recovery process in March, and it continues into April.

ADAM SHAPIRO: Lance, as you go forward and looking forward, I mean, grain and grain products in the quarter were up 11%. But then there were things that were down. And I'm wondering what you attribute that to. And for instance, in, for instance, automotive, the automotive shipments were down. Is that a factor of the chip shortage and perhaps less production at the plants, the automotive plants?

LARRY FRITZ: Yeah, largely the chip production is shutting down some of the production facilities. But also the weather had some impact on them as well. Absent that, I would have anticipated it would have been a very good quarter for automotive and auto parts.

ADAM SHAPIRO: One of the analysts I spoke to said, pay attention to intermodal, and intermodal transport was up 12%. Put that into context for us what that means for Union Pacific.

LARRY FRITZ: That's an exceptionally strong growth rate. And domestic intermodal was up strong, as well as international intermodal. What that represents is consumers buying things. And that's one of the key fundamentals for a healthy Union Pacific. So that looks very strong. And as we look forward, it looks like it's going to continue to be a source of growth for us.

AKIKO FUJITA: Lance, certainly a lot of investors looking to these earnings to see what kind of inflationary pressures are building. You've seen a spike, especially when it comes to energy. How are rising fuel prices factoring into your outlook right now? And what do you see?

LARRY FRITZ: Yeah, Akiko, what happens to us is, fuel prices changing and moving up sequentially has a lag impact to us because our fuel surcharges take about a month and a half or two to catch up. So that exposes us to kind of an uncovered cost increase. As long as fuel camps out somewhere, whether it's at a relatively low number or a relatively high number, it's the stability that we really value and care about.

ADAM SHAPIRO: Lance, Jim Cramer referred to Union Pacific about a month ago as the best managed railroad in the United States. I quote him because there's a lot of merger activity that's being discussed right now with the Canadians looking at buying-- is it Kansas Southern? What do you think about the potential for consolidation within the railroads, and even perhaps one day, Union Pacific looking at that?

LARRY FRITZ: That's a great question, Adam. Let's start with the process for approving a merger inside the rail industry. It goes through our commercial regulator called the Surface Transportation Board, or the STB. And they are the sole authority to approve a class one rail merger. In creating the current day rules, all the way back in 2001, they created rules that said, the next class one merger has to be pro competitive. Not just maintain the competitive landscape, but enhance it. It has to do that for all customers.

And they have to consider the downstream impact of the next merger. That is, will it create instability and trigger further consolidation? They are the sole determinant of what they're going to do from a remedy in regulation as to how they make that happen. So that's [AUDIO OUT] concern when it came to further merger and rail consolidation. Whether or not it's the CP or the CN trying to purchase the case, yes, they're going to have to go through that process with the STB. We're going to be a participant in that process. We're going to pay special attention. And of course, we're going to have to ask that they create remedies and opportunities for us so that we don't get disadvantaged inappropriately in the transaction.

ZACK GUZMAN: And Lance, too, I mean, are you over--

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--for the rest of the year, but just to return to that fuel point, it looks like $0.11 hit to the diluted earnings per share. When we look at maybe the impact there moving forward, obviously, there are a lot of things that are difficult to predict in this pandemic. We've heard a lot of guidance getting cut over the last few quarters. But when you project out where fuel goes, it seems like there's some disagreement among people watching that. So how do you factor that into the future here in the next couple of quarters for Union Pacific?

LARRY FRITZ: Yeah, when we guide, we basically guide off what our expectations are, which are built off of kind of global insight, kind of mainstream economic service providers. And what I think we see is stability. We're not calling for fuel price to increase nor decrease. We're thinking it's relatively stable as we look forward. And again, stability is our friend. That means our fuel surcharges cover it. And it really has kind of a de minimis impact on the income statement.

ADAM SHAPIRO: Lance, as we look at the operating ratio, that's a metric a lot of people use to gauge the health of the railroad. I mean, fourth quarter, you were phenomenal with that ratio. And what you did today, you know, in this quarter, 60.1 is nothing to sneeze at. Below 70 is always good. But put it into context about what 60.1 means for an investor.

LARRY FRITZ: Oh, that's a hell of an accomplishment. It basically says for every dollar of revenue we bring in, we're spending about $0.60 to run the business, to staff the team, to do everything we have to do. And $0.40 are available to drop to the bottom line. It's a lower operating ratio is better. And what we're talking about right now is that we've guided to 150 to 200 basis point improvement this year, inclusive of the fact that we had a relatively slow start in the first quarter, driven, again, predominantly by weather and that fuel surcharge lag we just talked about. That's a hell of an improvement.

If you look at our total track record over, call it 15, 16 years, we've improved our margins by 2,700 or more basis points. Improving it year over year when you're at this kind of performance level by 150 or 200 basis points is one heck of an accomplishment. I'm really proud of the team for how we're positioned this year.

ADAM SHAPIRO: We were talking earlier about intermodal being up. What section of your transport, the revenue, where do you see the potential for best growth in the second quarter, as the reopening trade is well underway in the United States?

LARRY FRITZ: Yeah, what we got to be a little careful of is the comps year over year are pretty easy, right? Second quarter last year was the depths of the US economy shutting down, to a degree. So we're going to see phenomenal comps when it comes to the automotive sector. Even as they struggle with a chip shortage, it's still going to be very strong. We're going to, I think, continue to see strength in the intermodal segment.

We're going to see strength in our lumber, forest products, brown paper, construction materials. I'm looking forward to having the Gulf Coast petrochemical complex back on its feet entirely. Because I think we'll see plastics and industrial chemicals doing well. So-- and grain. Boy, with the international trade profile in China and the market as strong as they are, grain and grain products looks pretty darn good, too.

AKIKO FUJITA: Lance Fritz, Union Pacific CEO, it's good to have you on the show today. And our thanks to Adam Shapiro as well for joining in on the conversation.