Greetings. Welcome to the Union Pacific fourth quarter 2016 conference call. At this time, all participants are in 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 from your telephone keypad. As a reminder, this conference is being recorded, and the slides for today's presentation are available on Union Pacific's website. It is now my pleasure to introduce your host, Mr. Lance Fritz, Chairman, President, and CEO for Union Pacific. Thank you, Mr. Fritz. You may begin.
Thank you. Good morning, everybody. Welcome to Union Pacific's fourth quarter earnings conference call. With me here today in Omaha are Cameron Scott, our Chief Operating Officer, and Rob Knight, our Chief Financial Officer. I'd also like to introduce our new Chief Marketing Officer, Beth Whited. Some of you may recall Beth as our Investor Relations Officer several years ago. Most recently, she was the leader of our chemicals group. This morning, Union Pacific is reporting net income of $1.1 billion for the fourth quarter of 2016. This equates to $1.39 per share, which compares to $1.31 in the fourth quarter of 2015. Total volume decreased 3% in the quarter compared to 2015. Carload volume declined in five of our six commodity groups, while agricultural product volumes were up 8% as grain shipments continued to be strong in the quarter.
The quarterly operating ratio came in at 62%, a 1.2 percentage point improvement from the fourth quarter of last year, and about flat with the third quarter of this year. Outstanding productivity achievements, along with positive core pricing, helped to partially offset the decline in total carload volumes. While full-year volumes were down substantially year-over-year, we did see declines moderate in the fourth quarter. As we worked through the challenges of the year, we remained focused on the strategy we live each day through our six value tracks. The first value track we show is World-Class Safety, and I am very pleased to report that Union Pacific had a record safety year in 2016, with our reportable injury rate improving 14% versus 2015. Executing on these value tracks enables us to run a safe, efficient, and productive railroad while providing our customers an excellent value proposition.
Our team will give you more of the details on the quarter, starting with Beth.
Thank you, Lance, and good morning. In the fourth quarter, our volume was down 3%, with near-record agricultural product shipments more than offset by declines in each of the other business groups. We generated positive net core pricing gains of 1% in the quarter, with gains offset by challenges predominantly in our energy-related and international intermodal businesses. Despite these challenges, we remain committed to achieving core pricing gains that align with our value proposition. The decline in volume and a 2% improvement in average revenue per car drove a 1% decline in freight revenue. Let's take a closer look at the performance of each of the six business groups. Ag products revenue gained 7% on an 8% volume increase and flat average revenue per car.
Grain carloads increased 22% as a robust U.S. grain supply and lower commodity prices enabled the U.S. to be more competitive worldwide, resulting in record export volumes. Grain products carloads declined 2% as a reduction in meal shipments was partially offset by strength in biofuels. Food and refrigerated volumes were down 1%, driven by production changes in our canned and paste market, partially offset by strength in import beer. Looking forward to 2017, we expect high global grain inventories and the strong U.S. dollar to put some pressure on the export grain market. Weather and global crop health will also continue to be factors. We expect food and refrigerated shipments will continue to see strength from refrigerated food growth and import beer. In autos, revenue was down 6% in the quarter on a 3% decline in volume and a 3% reduction in average revenue per car.
Finished vehicle shipments decreased 6% as a result of contract changes we have previously referenced that will continue to impact our volumes through the first part of 2017. These changes were partially offset by increased production and imports driven by strong fourth quarter demand. The seasonally adjusted average rate of sales was 18 million vehicles in the fourth quarter, the third highest quarterly sales pace on record. Light truck sales continued to outpace passenger vehicles in the quarter, up 6% year-over-year. On the parts side, over-the-road conversions and growth in light truck demand drove a 2% increase in volume. For 2017, we anticipate sustained demand levels with consistent economic fundamentals and consumer preferences. However, we continue to be cautious due to high inventory levels, dealership incentives, and rising interest rates. On the parts side, however, over-the-road conversions will continue to present new opportunities for additional growth.
Chemicals revenue was flat for the quarter on a 5% decrease in volume and 4% increase in average revenue per car. We continue to see headwinds on crude oil shipments, which were down 71% due to the lower crude oil prices, regional pricing differences, and available pipeline capacity. Chemicals volume, excluding crude oil shipments, was up 1% in the quarter. Partially offsetting the declines in crude oil was strength in other areas, including plastics, which was up 11% in the quarter due to lower commodity prices that drove demand in both domestic and export markets. Looking forward, our chemicals franchise is expected to remain stable. Strength is anticipated in plastics with new facilities and expansions coming online to help offset the continued declines we expect to see in crude oil.
Coal revenue declined 6% for the quarter on a 9% decrease in volume and 4% improvement in average revenue per car. Volumes continue to come in closer to year-ago levels. Powder River Basin tonnage fell 16%, while other regions surged 24%. A mild start to the winter, coupled with higher than normal coal inventory levels hindered Powder River Basin volumes. Strengthened export shipments drove the improved other region results. We expect coal volumes will be up in the first part of 2017, driven by favorable 2016 comps. The market will continue to be influenced by natural gas prices and weather. Industrial products revenue was down 2% on a 5% decline in volume and a 4% increase in average revenue per car during the quarter. Minerals volume increased 1% in the quarter, driven by a 10% increase in frac sand shipments through improved market conditions.
Construction products volume was down 8% due to weather and softened rock demand in South Texas. The strong U.S. dollar, weak commodity pricing, and increased imports pushed metals shipments down 5%. Looking forward, we are anticipating strength in frac sand shipments. A strong U.S. dollar could continue to impact our metals markets. Intermodal revenue was flat on a 1% decline in volume and a 1% increase in average revenue per car. Excluding the impact of the Hanjin bankruptcy, intermodal volume would've been up 2%. Domestic volume grew 2% in the quarter. Stronger fourth quarter retail sales led to growth in both premium and truckload business. International volumes were down 4% in the quarter as the industry continued to face headwinds from weaker global trade, overcapacity, ocean carrier financial stress, and consolidations. Excluding the Hanjin bankruptcy, international would've been up 3% in the quarter.
We expect international intermodal volumes will continue to be impacted by ocean carrier challenges this year. Consumer confidence will continue to impact overall intermodal volume growth. To wrap up, slide 12 recaps our outlook for 2017 mentioned in the previous slides. We anticipate strength in several of our business teams, particularly agricultural products, coal, and industrial products. Our diverse franchise remains well-positioned for growth this year as the U.S. economy slowly builds momentum in the face of a number of uncertainties in the worldwide economy. Our team remains fully committed to strengthening our customer value proposition and cultivating new business opportunities. With that, I'll turn it over to Cameron for an update on our operating performance.
Thanks, Beth, and good morning. Starting with our safety performance, our full-year reportable personal injury rate improved 14% versus 2015 to a record low of 0.75. The team's commitment to successfully finding and addressing risk in the workplace continues to generate positive results as we improve toward our goal of zero incidents. With respect to rail equipment incidents or derailments, our reportable rate of 3.02 decreased 3% versus last year. While we made only a slight improvement on the reportable rate, enhanced T&E training and continued infrastructure investment helped significantly reduce the absolute number of incidents, including those that don't meet the reportable threshold, generating a record low incident rate for the sixth consecutive year. On public safety, our grade crossing incident rate increased 7% versus 2015 to 2.43. Union Pacific has launched a new initiative, the Crossing Assessment Process, or CAP, to enhance grade crossing safety in our communities.
CAP will couple our comprehensive safety culture with new data analysis to help focus increased attention on the crossings where we can most substantially impact public safety. This big data approach allows us to utilize predictive analysis to identify crossings where incidents may be more likely to occur. CAP will be most successful in enhancing crossing safety with the engaged participation of roadway authorities. Communication and coordination with public agencies is critical to success. Moving on to network performance. Once again, we generated solid operating results through the fourth quarter. As reported to the AAR, velocity declined 2%, while terminal dwell improved 1% when compared to the fourth quarter of 2015. Our consistent operating performance has also translated into fewer recrews, lessening the resource demands of our network.
The 2.4% recrew rate achieved in the fourth quarter matched last year's fourth-quarter record, for the year, we achieved a best-ever recrew rate of 2.2%. Moving on to resources. Coming into the quarter, our resource position was efficiently balanced for the volume levels we were experiencing at that time. Throughout the quarter, as part of our ongoing business planning process, we fine-tuned our resource levels to continually account for volume changes and productivity gains. As a result, our total T&E workforce was down 7% in the fourth quarter when compared to the same period in 2015. Our engineering and mechanical workforce was down a combined 900 employees or 4%. The active locomotive fleet was down 5% from the fourth quarter of 2015. As always, we continue to adjust our workforce levels and equipment fleet as volume and network performance dictate.
In addition to efficiently rightsizing our resource base, we continued realizing gains on other productivity initiatives, such as train length. Our relentless focus on productivity led to best ever train size performance in 2016 as we achieved annual records in our manifest, grain, automotive, and coal networks. Turning to our capital investments. In total, we invested just under $3.5 billion in our 2016 capital program. For 2017, we are targeting around $3.1 billion, pending final approval of our board of directors. More than half of our planned 2017 capital investment is replacement spending to harden our infrastructure, replace older assets, and to improve the safety and resiliency of the network. You may recall from our third quarter call that we were planning on acquiring 100 locomotives in 2017 as part of a previous purchase commitment.
Our 2017 capital plan now includes about 60 locomotives, with the remainder being delayed into 2018. We also plan to invest an additional $300 million in Positive Train Control. Looking to 2017, our operating strategy is built on initiatives that will drive continuous improvement across our network. Above all, this includes safety, where we once again expect record results on our way towards zero incidents. We will remain agile, adjusting resources to demand while maintaining focus on other productivity initiatives to further reduce cost, enhance the customer experience, and continue creating value for our shareholders. With that, I'll turn it over to Rob.
Thanks. Good morning. Let's start with a recap of our fourth quarter results. Operating revenue was about $5.2 billion in the quarter, down 1% versus last year. Lower volumes and lower fuel surcharges more than offset positive core pricing achieved in the quarter. Operating expenses totaled $3.2 billion. Volume-related reductions and strong productivity improvements drove the 3% improvement compared to last year. Operating income totaled almost $2 billion, a 2% increase from last year. Below the line, other income totaled $40 million, up from $28 million in 2015. Interest expense of $174 million was up 6% compared to the previous year. The increase was driven by additional debt issuance over the last 12 months, partially offset by a lower effective interest rate. Income tax expense increased about 3% to $687 million, driven primarily by higher free tax earnings.
Net income totaled over $1.1 billion, up 2% versus 2015, while the outstanding share balance declined 4% as a result of our continued share repurchase activity. These results combined to produce quarterly earnings of $1.39 per share. Now turning to the top line. Freight revenue of $4.8 billion was down 1% versus last year, driven by a 3% decline in volume. Fuel surcharge revenue totaled $187 million, down $31 million when compared to 2015, but up $14 million from the third quarter. All in, we estimate the net impact of lower fuel prices was a $0.03 headwind to earnings in the fourth quarter versus last year. The business mix impact on freight revenue in the fourth quarter was a positive 1.5%. Year-over-year growth in agricultural product shipments and a reduction in international intermodal volumes were positive contributors to this mix, while more than offset declines in finished vehicles.
Core price was a positive contributor to freight revenue in the quarter at about 1%. Let me just take a minute to level set what this core price reflects. Our core price is essentially a yield calculation. For starters, it excludes fuel surcharge revenue. It takes this quarter's impact from pricing actions over the past 12 months and divides that benefit by the quarterly freight revenue base from the previous year. In other words, it calculates what we actually yielded from our pricing actions during the current quarter. This is the way we have consistently reported core price over the 13 years that I've been the CFO, and I think it's the best way to see what is actually yielded from our pricing actions. Our fourth quarter core price reflects the continued impact of a challenging competitive marketplace in energy and international intermodal, as Beth indicated earlier.
Pricing in other areas has actually been holding up fairly well. In fact, if you exclude coal and international intermodal from the calculation, our core price on the rest of our business lines would be in the neighborhood of about 2%-3%. Given these market dynamics, our core pricing will continue to be challenged throughout the first part of 2017 before beginning to strengthen later in the year, assuming market conditions improve. That said, I want to reiterate that our pricing philosophy has not changed. We will continue to price our service product based on the value proposition that it represents in the competitive marketplace at levels that generate reinvestable returns. This should result in real core pricing gains and contribute toward improving margins over the longer term. Turning now to our operating expenses. Slide 22 provides a summary of our operating expenses for the quarter.
Compensation and benefits expense decreased 3% versus 2015. The decrease was primarily driven by a combination of lower volumes, improved labor efficiencies, and fewer people in the training pipeline. These decreases were partially offset by the labor inflation, which was about 2.5% in the quarter. Full-year labor inflation came in about 2%, while our overall inflation was about 1.5%. As a result of lower volume, solid productivity gains and a smaller capital workforce, total workforce levels declined 5% in the quarter year-over-year or almost 2,300 employees. For the full year, our average workforce level was down almost 10% year-over-year. For 2017, we do expect force levels to adjust with volume, but will also reflect ongoing productivity initiatives as well. Fuel expense totaled $431 million, up 2% when compared to 2015. Higher diesel fuel prices on essentially the same gross ton miles drove the increase in fuel expense for the quarter.
Compared to the fourth quarter of last year, our fuel consumption rate improved 1%, while our average fuel price increased 2% to $1.65 per gallon. Purchase services and materials expense decreased 6% to $553 million. The reduction was primarily driven by lower volume-related expense and reduced locomotive and freight car repair and maintenance costs. Turning now to Slide 23. Depreciation expense was $520 million, up 1% compared to 2015. For the full year 2017, we estimate that depreciation expense will increase around 4%-5%. Equipment and other rents expense totaled $280 million, which is down 8% when compared to 2015. Lower volumes and benefits from productivity initiatives were more than enough to offset price increases. Other expenses came in at $233 million, about flat with last year. For 2017, we would expect other expense to increase slightly, excluding any unusual items.
Slide 24 provides a summary of our 2016 earnings with a full-year income statement. Operating revenue declined about $1.9 billion to $19.9 billion. Operating income totaled almost $7.3 billion, a decrease of 10% compared to 2015. Net income was just over $4.2 billion, while earnings per share were down 8% to $5.07 per share. Looking at our cash flow, cash from operations for the year totaled just over $7.5 billion, up about $180 million when compared to last year. The increase in cash was primarily related to bonus depreciation on our capital spending, which more than offset the decline in net income. Looking ahead to 2017, the net impact of bonus depreciation will be a headwind of about $100 million, as the 2017 benefit is more than offset by cash required for the repayment of prior year programs. This net impact assumes no changes to the current tax laws.
Our capital spending program for 2016 totaled just under $3.5 billion, down 19% or $800 million from 2015. Return on invested capital was 12.7% in 2016, down 1.6 points from 2015, driven primarily by lower earnings. Taking a look at adjusted debt levels, the all-in adjusted debt balance increased to $17.9 billion at year-end. We finished the fourth quarter with an adjusted debt to EBITDA ratio of 1.9 times, up from 1.7 at year-end 2015. This brings us close to our target ratio of just under 2 times. Dividend payments for the year totaled nearly $1.9 billion compared to $2.3 billion last year. This includes a 10% dividend increase, which occurred in the fourth quarter. Keep in mind, 2015 dividend payments also included the fourth quarter of 2014 dividend of $438 million, which we paid in 2015.
In addition to dividends, we also bought back over 35 million shares totaling about $3.1 billion, representing 4% of our outstanding shares during 2016. Since initiating share repurchases in 2007, we have repurchased just over 29% of our outstanding shares. Between our dividend payments and our share repurchases, we returned about $5 billion to our shareholders for the year, which represented 118% of 2016's net income. Before I talk about 2017, let me take a minute to tell you how core price and productivity stacked up against our inflation costs. First of all, our core price for the full year averaged 1.5% for 2016. This generated a pricing benefit that significantly exceeded rail inflation costs, which came in at about 1.5% for the year. Remember, of course, that inflation is on a different base. Remember that we exclude depreciation, fuel, and equipment rents from our rail inflation calculation.
On the productivity side, our G55 and Zero initiatives really took hold throughout the year. These initiatives produced significant productivity benefits totaling approximately $450 million in 2016, which was also well in excess of our rail inflation costs. That's a big number, which reflects an enormous effort on our entire organization's part that got us behind the drive for improvement, from labor savings to lower material costs to operating efficiencies. Looking ahead to 2017, volumes in the first quarter should turn slightly positive and pricing will continue to be challenged, as we mentioned earlier. We should see momentum pick up throughout the year, and we expect full-year car loading growth to be up in the low single-digit range. This will be driven largely by more stable coal volumes, which will also see the benefit of easier comps year-over-year.
We should also see some strength in other areas, such as domestic intermodal and agricultural products. As for inflation, we expect 2017 inflation will be around 3%, which will equate to a cost that is significantly higher than the inflation was in 2016. Given this higher cost and the current pricing challenges, the gap between inflation cost and pricing yield will narrow considerably this year. While exceeding inflation, our core pricing yield will be more challenging this year, but we still expect to achieve that goal. On the productivity side, we should well exceed inflation again in 2017. We plan to achieve approximately $350 million-$400 million of savings this year as we continue our intense focus on our G55 and Zero initiatives. This will turbocharge our margins and returns.
When you add it all up, positive volume, solid core price, and significant productivity benefits will all contribute to improved full-year operating ratio. We finished 2016 with an operating ratio of 63.5%, and we are well on our target towards a 60% ± on a full-year basis by 2019. Longer term, we are still focused on the goal of a 55% operating ratio as we continue the momentum of our G55 and Zero initiatives. With that, I'll turn it back over to Lance.
Thank you, Rob. As we discussed today, we are pleased with our fourth quarter and full-year results in a difficult volume environment. Looking to 2017, we feel pretty good about some of the macroeconomic indicators that drive our core business. Higher energy prices, favorable agricultural markets, and improving business and consumer confidence all support a return to positive volume growth this year. As always, a new year will bring its share of change and uncertainty. We'll be closely monitoring the impacts of potential developments in areas such as corporate tax reform and commerce with our trading partners around the world, as well as the overall strength of the economy. We continue to have confidence in the strength and diversity of the Union Pacific franchise, which will position us well to safely and efficiently leverage stronger volumes as our markets begin to rebound.
We will continue to execute on our strategic value tracks to provide our customers an excellent service experience while generating strong returns for our shareholders. With that, let's open up the line for your questions.
Thank you. We'll now be conducting a question and answer session. If you would like to ask a question, please press *1 on your telephone keypad, and a confirmation tone will indicate your line is in the question queue. You may press *2 if you'd like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. Due to the number of analysts joining us on the call today, we will be limiting everyone to one primary question and one follow question to accommodate as many participants as possible. Thank you. Our first question comes from the line of Justin Long with Stephens. Please proceed with your question.
Thanks, good morning. Just wanted to start with a question on the OR. I know you said you expect an improvement for the full-year. Is there any color you could provide on the quarterly progression of the OR? Specifically in the first quarter, with a slight increase anticipated to volumes, do you believe the OR can improve in one Q?
Rob, you want to take that?
Yeah. Justin, as I said in my comments, we're confident in our ability to drive full-year improvement in the operating ratio, and we haven't given specific guidance by quarter, but clearly it can and likely will be lumpy. One of the points that you're raising is in the first quarter alone, remember that we did get last year in the first quarter, a favorable fuel benefit. Just kind of looking at that alone, that by itself will present likely a challenge as it relates to the operating ratio. It can be lumpy from quarter to quarter, but we're focused on the longer-term improvement, driving the levers that we can, in fact, impact over the longer term.
Okay, got it. Maybe one on pricing. If I think about your commentary, it seems like the message is the pricing environment has likely bottomed in the fourth quarter and should get incrementally better throughout 2017. First of all, would you agree with that statement? Second of all, when you think about your guidance to price above inflation, how much visibility do you have to that today? How many contracts have you already repriced for 2017?
Hey, Justin, this is Lance. We don't give forward price guidance, so we are not going to call a bottom. You heard Beth's commentary about the markets that we compete in. There are some headwinds that continue into next year, most notably in the first half of the year. What we're hopeful for is that as the markets firm, it creates a more attractive pricing environment for us as the year progresses. I think I'll let Rob answer the second part of the question.
Justin, I guess I would just kind of build on Lance's point. We don't give specific guidance, as Lance pointed out. Take one message from us here that while inflation's rising, while we have some challenges in the marketplace as it relates to pricing, we are still committed to pricing at reinvestable levels that are above the overall inflation costs in the year. That can be lumpy from quarter to quarter, certainly, but we're committed and driven, just as we always have been, on doing that. I don't recall frankly what the follow-up question was. Oh, the visibility.
Justin, I guess I would answer that, you've heard me say this many times, no matter what day of the week or what day of the year you would ask, looking forward, what percentage of our business we have sort of in the book, if you will, and it's lumpy because we're negotiating deals every day of the week, throughout the year. We look at somewhere in the neighborhood of 70% of our business.
Okay, great. I'll leave it at that. Really appreciate the time.
Thanks, Justin.
Our next question is from the line of Chris Wetherbee with Citigroup. Please proceed with your questions.
Yeah, thanks. Good morning, guys.
Good morning.
Wanted to sort of think about 2017 and kind of operating leverage. You've outlined, Rob, a couple of things there. Thank you, by the way, for the clarification on core price versus inflation. I think it's helpful if people understand that. When you think about the gap narrowing a bit in particularly the first half of the year, but volume kind of coming back, how should we think about all of those inputs into incremental margins historically and sort of a volume growth dynamic coming out of a downturn, you've been able to generate some pretty solid incremental margins, and to get to your long-term targets, you need solid incremental margins. I just want to get a sense as sort of how we might be thinking about that relative to historical performance when you look at 2017?
Chris, as you probably could guess, we don't give and have never given incremental margin guidance. I would just say this, that to get from where we are today to our ultimate targets, and as you know, the organization's driving towards a 55 OR. To get from there to the 60 by 2019 and then beyond that to the 55, requires that on an annualized basis, you get somewhere in the neighborhood of 50% incremental margin on volume growth. It clearly will be lumpy from quarter to quarter, depending on other factors, but that's kind of the way I think about it. We've got a sort of over a longer period of time, that 50%, give or take, is generally speaking, what it's going to take to drive to our objectives.
Okay. That's helpful. Just a follow-up question. From a volume standpoint, when you think about the international intermodal piece of the business, just broadly speaking, that has been a bit of a headwind from a core pricing standpoint. Volumes have been, I guess, not necessarily fantastic there. I guess as you think about that as you look out, when maybe do we see that dynamic start to turn? Do you need to see sort of just more broadly positive volumes across the industry to start to see that capacity kind of tighten up? Is it something that as you lap some of these contract losses over the course of the next several quarters, maybe you could start to see that change a bit.
I guess I just want to get an understanding of maybe how we see the international intermodal business kind of playing out over the next several quarters.
Beth, you want to take that? Sure. I think that the alliances that are happening right now in that international intermodal space are still evolving. There's still a very significant surplus capacity in the marketplace. There's clearly some competition going on between the Panama and the Suez Canal. All of those things are going to play out over the course of the months and quarters ahead. Our focus really is going to be on making sure that we have the best service product to handle that business as it comes to us. Chris, there's a couple of moving parts there. One is the state of the transpacific industry itself, the ocean carrier market itself. The other is what's going on with U.S. consumer confidence and consumption. Both are moving parts as you look forward.
Okay. All right. That's helpful. Thanks for the time, guys. Appreciate it.
Our next question is from the line of David Vernon with Bernstein Research. Please proceed with your questions.
Hey, good morning, guys. It seems like the mix actually started to turn a little bit positive. I know you've talked a lot about core price and not giving guidance on that. I guess as you think about the setup for the next three, six, nine, 12 months, it does look like with growth in frac sand, growth in maybe a little bit of a less headwind in coal and maybe growth in some of the chemicals business, that the mix numbers, we should expect that to continue to be positive coming into 2017. Is that fair?
Rob, you want to take that? Yeah. David, again, I sound like a broken record. You've heard me say this many times. We would hope that all that plays out as you define, but we've given up trying to give guidance on what mix is going to be. Again, I would say, probably us more than most, we are in so many diverse markets, which is a huge strength of the UP franchise, that there's a lot of moving parts, and there's a lot of mix within commodity groups. I would be reluctant to give any kind of guidance on what mix is going to look like going forward.
Okay. I guess, as you think about the upside, Beth, on the frac sand business, you mentioned the volumes are kind of trending up 10% here. We've heard some anecdotal evidence that sand prices are also rallying. Should we expect some better pricing in that business as well, kind of directionally? I'm not looking for specific numbers or percentages, just trying to get a sense for how you guys think about your value proposition into an improving demand for drilling materials, which seem to be routed on your network from Wisconsin to the Permian.
As you know, we don't really give any sort of market specific pricing guidance. I would say that we're pretty excited about the inflection point we saw in the rigs, and them kind of coming up slowly over the second half of last year. A lot of the growth is coming in the Permian Basin, which is a strength point in our franchise. We do expect to see good year-over-year comps in frac sand as the year progresses.
All right. Thanks a lot, guys.
Our next question is from the line of Allison Landry with Credit Suisse Group. Please proceed with your question.
Hi, good morning. This is Danny Schuster on for Allison. Thank you for taking our question. We were hoping to dig in a little bit to the chemicals business. Beth, I know you mentioned that you'll continue to see headwinds on the crude side. I think your slides imply that it dipped into the mid-single digit thousand volume range this quarter. I was just wondering, first, is that kind of the right range to model going forward into next year on a quarterly basis?
The crude oil business will continue to move away from us. As you know, the production is down, pricing is very difficult. There's more pipeline capacity coming along, that'll just continue to go away from us as we progress throughout the year, down 71% in the last quarter. Probably going to continue to see it fall away.
Okay, getting to the point where it's almost inconsequential at this point. Then on the flip side-
I would call it pretty inconsequential, yes.
On the flip side, you have some new facilities coming on on the plastic side. I think your slides implied that you were moving about 60,000-70,000 carloads of plastics a year, or a quarter, each quarter this year. How much could the new plastics facilities add, and when should we expect to see those come online?
There's a lot of uncertainties in what's going to happen as those facilities come online, and they will start to come on, let's call it, second half of 2017 and kind of throughout into 2020. It's still unclear how much of that product will move domestically, how much of that product will go to export markets. As it goes to export markets, will it leave directly from the Port of Houston? Will it come into an inner point for packaging and then go off the West Coast? I don't think we have any prediction to give you there. We're just pretty excited that our Gulf Coast franchise gives us the opportunity to reach a lot of those plastics facilities, and we intend to participate to the degree that we're asked to.
Okay, great. Is the revenue per unit profile similar to kind of the overall business that you have today?
I don't think we're going to make a comment on that.
Okay, understood. Thank you.
Our next question is from the line of Brian Ossenbeck with JP Morgan. Please proceed with your question.
Hey, good morning. Thanks for taking my call. Rob, I can understand the challenge of forecasting mix. Maybe you or Beth, as you look at the high-level portfolio of the business you look at, do you have a sense of what percentage of the business is really sensitive to the U.S. dollar, both on an export and an import side? Clearly, metals, grain, and coal, you've mentioned before. If I remember from prior fact books, I think you'd highlighted that roughly about 15% of revenue was tied to exports. Any updated numbers there would be appreciated.
Hey, Brian, this is Lance. I'll let Beth talk specifically to our international business and what our business looks like in terms of cross-border trade. In terms of trying to get a sense for how much of our business is sensitive to the U.S. dollar, the answer to that is there's a fair amount of our commodity mix with lots of moving parts that either benefits from a strong dollar or gets hurt by a strong dollar. You could essentially say to the extent that a dollar and its value internationally impacts the U.S. consumer and U.S. industry, our total book has some exposure to that. I'll let Beth talk about our international book specifically.
I think you've probably heard us quote some numbers before, but just as a refresher, about 40% of our business is international, with a fair portion of that being Mexico and then the rest being truly global business. We do, as you said, see a lot of grain in that. Clearly, there's other grain products as well as a number of our industrial products that participate in that global market. Probably a big chunk is also in the vehicles and parts, mostly going back and forth from Mexico. So there's some puts and takes with that over time because you'll see some things that are advantaged as you're in a strong dollar position.
We certainly have seen some challenges with competitive products worldwide really competing against products that are made in the United States.
Right. Yes. I can certainly appreciate the complexity, and I guess to follow up with even more complexity, when we look at the cross-border stuff you mentioned going to and from Mexico, and talk of the GOP's border-adjusted taxes tied into the corporate tax reform, how do you size the risk potentially, if that were to come into play? What are you hearing from customers? Do you have any sort of scenario analysis that you're trying to work through now if that were to come into effect as written? I know it's still early, and we hear a new thing each day, seemingly from President-elect Trump and the GOP, just how you're thinking about that piece of the network would be helpful. Thank you.
Sure. We are paying close attention to all of the talk about potential outcomes as we go forward in terms of impact on either NAFTA or other international trade agreements. Our perspective is that the United States is tightly woven with its trading partners, and our consumers benefit greatly from free and open international trade, both from a standard of living perspective, making goods available to them at lower cost than they would be otherwise, as well as creating markets for U.S. goods to be sold into, creating a robust potential growth for U.S. jobs, and typically the higher-paying U.S. jobs. When we look at the cross-border trade, let's say specifically with Mexico, when you really dig deep, you see that a large percentage, certainly more than half, a lion's share, has value added on both sides of the border and is inextricably linked to our economy.
We've been giving that kind of feedback to our elected officials and regulators for a long time. We'll continue to give them that kind of feedback, and we are prepared and preparing for any of the potential outcomes that might occur. Bottom line, we're optimistic that those decisions ultimately will benefit US trade and the US economy.
Okay. Thanks, Lance. Appreciate the thoughts.
Sure.
Our next question's from the line of Scott Group with Wolfe Research. Please proceed with your questions.
Hey, thanks. Morning, guys.
Morning.
Rob, I apologize if I'm slow. I just want to make sure I understand what you're saying on pricing. If I'm understanding right, you're saying that the dollars from pricing this year will be above the dollars of cost inflation, but don't necessarily expect the headline pricing number to be 3% or better. Is that what you're saying?
Well, Scott, I didn't give, and we won't give the specific percentage increase guidance. Yes, our message is that with the challenges that Beth has outlined in some of our markets and the favorable pricing we are still enjoying in the other markets, you combine that against a higher inflation expectation, of course, that's calculated, as you know, on a different base, that our dollars we yield, which is how we calculate our price, the dollars we yield from pricing in 2017, we expect to be above the dollars we expend in the inflation buckets, albeit potentially a likely narrower gap than we saw in 2016.
Okay. Given that narrower gap, do you think, is the path to that 60 operating ratio, does that naturally then become more back-end loaded in 2018 and 2019 or not necessarily?
No, I wouldn't say that. Again, it will be lumpy, but I would say, as we have said all along, going back even to the days of Project 75, if you look at the progression that we've made, it really is the same levers that we have at our disposal, and that's volume, pricing to market, and productivity. Those three levers are still the levers that we wake up every day pushing to our advantage, but they will be lumpy, and sometimes markets dictate how much of that lever you're able to pull from quarter to quarter or year to year. I would not say that that changes our focus and our commitment to getting to that 60. From quarter to quarter, all those levers can result in a lumpiness between here and there. We are very focused on that.
I would say that a big part of the success that we are enjoying and have been enjoying here of late is that turbocharged, if you will, productivity result.
Okay, that makes sense. Just lastly for you, Rob, or maybe Cameron, did you guys say what you think headcount's going to be in the first quarter and the year? Do you think we need to start thinking about a more meaningful step-up in resources as some of the service metrics start to see a little bit of pressure?
Rob, why don't you take that first?
Yeah. Scott, we haven't given guidance on, certainly not quarterly guidance on operating ratio, but I would tell you that Cam and his team.
Sorry, headcount.
On headcount. I'm sorry, did I say?
Whatever you said. Headcount.
Yeah, on headcount. I would tell you that with Cam and his team and the entire organization's continued focus and commitment on productivity, we are confident in our ability as volume hopefully recovers, to continue to squeeze out productivity. Having said that, I would expect that certainly for the full year 2017, as I said earlier, our headcount will move up or down with volume. We hope it's up. We hope volume's positive, but not one for one because there is still an assumption of continued turbocharging our productivity. We are in a position of being very ready, if you will, with our resources to absorb the single-digit growth in volume that we're anticipating this year. Oh, by the way, not just headcount, but that stands true for locomotives as well.
Okay. Thank you, guys.
Thank you.
Our next question is from the line of Ravi Shanker with Morgan Stanley. Please proceed with your questions.
Thanks. Good morning, guys. Also thank you for the detail on pricing versus inflation going into 2017. Just a couple of follow-ups there. If inflation's going to go up by 150 basis points this year and pricing is to be above inflation, that means your pricing probably goes up by something to that magnitude, although you're not formally saying that. If pricing was to improve from here, what are the end markets that will drive it? Are these the same end markets that have been driving the weakness so far?
Let's, of course, by not commenting, we're not giving guidance on your first presumptive statement. Let's just set that aside, and then Beth Whited, why don't you talk about what markets look like as you're moving into 2017?
Yeah. As we think about 2017, we will still continue to see some challenges in places like coal and international intermodal, but we would expect to get some momentum as the markets improve with the economy growing. Additionally, as the year progresses, the trucks and our competitors are going to face some challenges with electronic logbooks and hours of service regulations coming into play, which may also provide us with an opportunity.
Ravi Shanker, if I can, this is Rob Knight. Just back to the first part of your question, I just want to make sure I am clear on what you were suggesting, Lance Fritz is right. We're not going to give specific pricing guidance, but I would just clarify that we are not saying, don't take from what I have said about our pricing plans against inflation for 2017 as being any kind of an indicator of whether that means pricing is going up or down. What we're saying is that we are still committed to that pricing yield dollar being above the inflation expense. I did say, we do anticipate that that gap of the yield above inflation dollars will narrow in 2017. I didn't say what the pricing will be, and I would not take that to mean pricing is going up at some X amount.
Okay. I think I understand, I'll probably follow up offline anyway. Just one follow-up on the call, though. When you consider all the factors that are pressuring pricing today and also the factors driving, I don't want to say a potential rebound in 2017, let's say that comes, are there any UNP specific factors here, or do you think that this is an industry-wide phenomenon in terms of what you're seeing out there?
This is Lance. I'll attempt to take that. The factors that impact pricing are essentially the market factors that Beth had talked about. We have a market we compete in, many markets we compete in across commodity groups. What we've said is we're fairly optimistic as we look into 2017. First and foremost on coal, primarily because of easier comps. There are some other market dynamics. We're going into the year with a stronger grain and ag products market than we had entering 2016. Arguably, construction markets should be firming up as there's talk of infrastructure and as we see the housing markets improve. Consumer confidence and business confidence appears to be growing, so that looks like that could create some opportunities. Bottom line is as our served markets improve, that should create an environment where we have more pricing opportunity.
Great. Thank you.
Our next question is from the line of Ken Hoexter of Bank of America. Please go ahead with your question.
Hey, great. Good morning, and great job on the performance and the OR for the quarter. I guess, Beth, maybe you can just talk a little bit more about coal, given the easier comps that we're facing, particularly in the first half. Can you talk a bit about where inventories are, how much they've come down, and what your view is on how pricing is right now? Are you in the money? Are you seeing demand pick up at this point?
We have seen what I'd call a very modest fall off in inventory levels. We're at around 93 days of inventory, which is still call it 18 days above historical levels. Still kind of a challenging stockpile environment. We are, though, in a little different situation than we were in most of 2016, where we have natural gas prices that are considerably higher, $3.40-ish, where last year, we spent most of the year in the 2s and even a part of the year under $2. That gives us some potential for our served plants to be more in the money and able to burn coal. The weather, of course, is going to play a role in it and parts of our network and served plants are experiencing some nice cold winter, and we love that.
If you put that all together, we got favorable comps, a better natural gas environment, stockpiles that are still a bit high, and weather is always going to be the swing factor.
Just for comparable purposes, a quarter ago, a year ago, you'd mentioned that inventories had come down a bit. Can you give us from what level to put that in perspective?
We were over 100 days at one point, and I can't recall what they were in the first quarter of last year, but it's not a substantial decline, and it's still well above historic levels.
Ken, bear in mind, there's two different measurements for inventory. One is an absolute measurement of how much tonnage do you have on the ground. That's moved more dramatically than what your days burn looks like. Of course, that's because burn has changed over time.
Okay. Beth, just keeping with you for a minute for my follow-up on grain. Growth, I guess, decelerated here in the fourth quarter from what I guess is still a record crop. Is there a reason why that is, and maybe your thoughts on that going forward? Then same with yields. They were flat. I guess with demand being up, or I guess printed average revenue per car, is that something a shift between domestic export or anything that would impact that?
We do have a pretty large carryout in the ag markets, and we still continue to see pretty strong shipments all through the fourth quarter going to export markets. I'm not sure what data you're referencing when you talk about it being down from third to fourth.
No, not down, just decelerating. Sorry.
Oh, okay. Sorry. Yeah, we had a very strong fourth quarter. Huge carryout remains in the market. I think the carryout numbers are up something like 10% across the different grain categories versus year-ago levels. It's going to be impacted by the same things it's always been impacted by, which is world grain capabilities, what kind of harvest we see in the United States
This year, of course, this is an area where we do see impacts from the U.S. dollar strength. I don't know if I got all the pieces of your question. There were multiple parts there.
No, yeah, that was the volume side. Just on the yield side, I was just wondering why they would be flat in such a strong market. Is that a shift in mix that would cause pricing to be relatively flat year-on-year in terms of average revenue per car?
Okay, sorry, I didn't catch that part. Yeah, our grain can move it to market in a variety of different ways. It can move all the way by rail to the end destination. Sometimes we'll see situations where the river is very competitive, so we may move to the river, that would be a shorter length of haul for us, and that might drive some mix changes in the arc. Still, very positive yields for us. We wouldn't say that moving a shorter distance necessarily changes the yield perspective.
That's wonderful. Thank you very much for the insight. Thank you.
Our next question is from the line of Brandon Oglenski with Barclays. Please proceed with your questions.
Hey, good morning, everyone, and thanks for getting me in here. I'm not going to ask about pricing because I think what's critical here is that you guys are guiding to an improved operating ratio in 2017. Lance, I know you guys have been calling for that for the last two or three years, but it has been challenging with top line declining as much as it has. What is the confidence level in 2017 that we are, in fact, going to see that improved margin? Rob, I'm going to try it, because if I just straight line your guidance to get to a 60 OR by 2019, I think that implies about 100, 110 basis points of improvement per year. Is there any reason why we shouldn't be thinking that's attainable and a stronger growth environment that we might be seeing in 2017?
Brandon, I'll take the confidence level and then turn it over to Rob. We are confident that we're going to improve our operating ratio in 2017. The reason why is the three moving parts that we touch that Rob talked about. One is productivity. Rob's already talked about another strong year of productivity in 2017, and Cameron and the rest of the team have those projects in sight and already working on. That gives us confidence there. The second is pricing. We're going to take what the market gives in terms of pricing for the value that we represent. We're hopeful that the markets are firming a bit. We're hopeful that the third element, in terms of volume, will cooperate a little bit more in 2017. We've guided to positive volumes in 2017. We're confident we're going to be able to improve the operating ratio.
Brandon, this is Rob, I would just add that we stay away from giving specific OR guidance, but your straight-line math is right. One thing we know is things aren't going to be a straight line, we're going to take advantage of every opportunity we have, and if we can front-end load that, we will. If it ends up being lumpier than that or back-ended because of factors in the marketplace, that's the way it'll play out.
Okay. I appreciate that feedback. Cameron, can you just talk a little bit more about the productivity goals this year of $350 million to $400 million? Is that mostly labor related as you think about volumes coming back and maybe not adding one for one?
Well, your last comment is accurate, as Rob mentioned, with the amount of furloughed employees we have, as Beth brings on additional volume, we have people ready to take on that volume. There's plenty of room on train size, so we expect to see additional volume come on the railroad without any additional starts. As far as whether it's purely labor-based or other initiatives, most of it is other initiatives.
All right. Thank you.
Our next question is from the line of Tom Wadewitz with UBS. Please proceed with your questions.
Yeah, good morning. Thank you. Let's see. Rob, at the risk of asking you something you've talked about quite a bit here, just to fine tune on what you did say on inflation for 2017, did you give us a specific expectation or you just said it's going to be higher than the 1.5% inflation you had in 2016? I just want to make sure I understand that.
Yeah, Tom, I actually said that we expect inflation to be in the neighborhood of 3% full year.
That's not just labor, that's total inflation?
That's total inflation, yes. Although labor, health, and welfare are certainly drivers of that.
Right. Okay, that's 3%. In terms of intermodal, I don't think that you've commented a lot on this. What's the view on intermodal volumes in 2017? You got, I guess, a lot of moving parts. Do you have confidence that you'll see growth in the domestic piece and it's reasonable to think international is going to be down? Or how would you think about the two pieces and what the outcome might be in terms of intermodal volumes up a couple points, down a couple points, just kind of broad brush? Thank you. Hey, Tom, it's nice to talk to you again. I would say that we feel really good about our ability to continue seeing domestic intermodal growth. We're very focused on highway conversions.
We have an expectation that there could be some tightening truck capacity later in the year, and that could be very beneficial to our intermodal market as well. On the international side, I think it's really hard to predict what's going to happen in international intermodal this year. As I alluded to before, there's just a lot of moving parts in that business with the alliances evolving, all the overcapacity.
What I'd call some infighting about which ports are the ultimate winners. We've seen the West Coast ports kind of bounce back from the levels that they were at immediately following the ILWU issues. The Gulf ports and the East Coast ports are still kind of duking it out. It'll be, on balance, hard to predict what happens in international intermodal, I would say.
Do you think the net result is a little bit of growth in volume, or is that hard to say?
Yeah, I don't think I would be willing to make a bet on that today.
Right. Okay. Thank you, Beth. Appreciate it.
Our next question comes from the line of Bascome Majors with Susquehanna. Please proceed with your question.
Yeah. Thanks for fitting me in here. Lance, I was curious if you could help us understand what drove the board's decision to make a leadership change in the sales and marketing team. Perhaps as a follow-up, Beth, can you let us know how, if at all, we can expect UNP's approach to customers and pricing change with you running the group there?
Yeah, Bascome, this is Lance. The board supported my decision to change our leadership team around a bit. It was really prompted by one of our executives getting close to retirement, announcing their intention to retire. That allowed me to put Eric Butler into a job that he is exceptionally well-suited for. That'll benefit the corporation. That allowed us to put Beth into the Chief Marketing Officer job, and she's going to be tremendous in that role. It had nothing to do with other than normal, customary, and routine succession planning, and it's an execution of our succession plan. I couldn't be happier with it, and the board couldn't be happier with it as well.
As far as I'm concerned, I think that Eric was a wonderful leader for the department. He set a lot of strategies in place that focused our entire organization on pricing. We will continue along that pricing path in the manner that Rob has laid out for you today. In terms of changes, of course, we're always going to try to evolve and change with the marketplaces, but we're going to keep our focus pretty simple. We're going to keep trying to grow volume on the network. We're going to try to retain the great customer base that we've already got, and we're going to keep taking price in the marketplace as circumstances allow.
Thank you both for the color there.
Sure.
The next question is from the line of Amit Mehrotra with Deutsche Bank. Please proceed with your question.
Okay, thanks. Good morning. Thanks for taking the question. I had one question on productivity. Just trying to understand that whether productivity savings are an absolute reduction in the cost base or an effort to maybe make the cost structure a little bit more variable, where you lower the decrementals, but also lower the incrementals. If you could just sort of help us understand that a little bit better so we can get a sense of maybe how some of the productivity actions you have taken and are taking can maybe impact conversion of revenue growth in the future. Thanks.
Yeah. I'll start, then if Cameron would like to add some technicolor, he's welcome to. Amit, when you think about the productivity that we have, Cameron and team and the rest of the executive leadership team have removed cost from our structure. It's come out in different ways. Our overhead, management, and administrative burden has been reduced. I do not see a need to increase that as we grow into the future, so that's fundamentally changed how we drop revenue to the bottom line to some extent. From an operating perspective, Cameron and team have done a tremendous job at reducing what we'd consider kind of structural waste like recrews. That's where a crew is required to take a train to destination other than the crew that originated with the train.
That's pure waste, the fact that we're now at record low levels, and intend to stay there, has kind of structurally reduced our cost base. There's hundreds of examples like that tell us that, A, it's real productivity, real time, right now, and B, we don't anticipate it growing back to the same level as it was historically. Clearly, when our volume declined, there was some just pure volume reduction in costs because we didn't need as many, for instance, T&E or as many mechanical forces to support the business. As we grow, we expect that to grow back, but not one for one, as we've said before.
Right.
Cameron, you got anything to add to that?
Amit, I think that one of my favorite productivity initiatives is train size. It might give you a sense that we have plenty of headroom in productivity, as Rob indicated. We've set all-time train size records for four years in a row. We're not close to optimizing our network. Coal is truly the only network that is very close to being optimized. We still have some room there. The rest of the network is wide open for opportunity, making sure we match up train size with taking good care of Beth's customer commitments.
Okay. Well, that's really helpful. Thanks for that. Can I just ask one follow-up on taxes? You mentioned it very briefly in the prepared remarks. I know corporate tax reform is a really tough question to answer today. If you can generally talk about if the industry or if we do receive any major relief on corporate taxes, how that would translate to the P&L. Do you think some of it could be competed away, either through wage inflation or lower prices? Rob, I think the company has over $15 billion deferred tax liability, so I would expect that to be reduced pretty significantly if we did get any relief. Does that change at all the company's thinking on capital deployment strategy? Thanks.
Yeah, this is Rob. As you obviously know, there's a lot of devils in the details, if you will, in terms of how and when and if that will all play out. I would just say, you've sized it right. My expectation of any tax reduction benefit that may result would flow to the benefit of the company. We're not sitting here thinking about holding back, making capital investment decisions based on the tax rate, as an example. I would anticipate that that wouldn't impact how we treat that. I think it'd be to the benefit of us and our shareholders if that played out. We would have the expectation of hanging on to it.
Yeah. Just a reminder. Job one is create more cash from operations. Job two, we have the opportunity to use it for CapEx, for rewarding our shareholders, either in the form of buyback or dividends.
Right. I guess, you're already doing that to a pretty significant degree. To the extent that you get a windfall or maybe an increase in the book capital as a result of reduction in deferred tax liability, you would just basically do more of what you've been doing in terms of dividends or buybacks. Is that the correct read?
Let's answer that from the perspective of, would we take a windfall and somehow apply it to capital projects that are not funded, and the answer is no. We fund the capital projects that we think are appropriate for the business. That's our first highest order for cash utilization, and we're very satisfied with what we're spending in capital right now.
Okay. All right. That's all I have. Thanks for taking the time. Congrats on a great quarter.
Our next question is from the line of Walter Spracklin with RBC Capital Markets. Please go ahead with your question.
Thanks very much. Good morning, everyone. I guess, if I could ask one question with regards to the competitive dynamic on the pricing side. If you were to describe your key competitors, both BNSF and trucking, if you were to describe their behavior in the last, call it three or four quarters, and how that might have changed as we go into 2017, would you say, just leave it over to you, how would you describe that competitive behavior over the last little while?
Beth, you want to take that?
Sure. I guess what I would say is that, we're always in competitive marketplaces where we have trucks or other railroads who are making decisions about what makes sense for their business. Our focus really is on ensuring that we're getting reinvestable pricing that makes sense to us for our business. Now, from time to time, markets change and you'll see pricing change, and we have to make decisions about whether or not we should meet the market where it is. We do that thoughtfully with the idea that our ultimate goal is to make decisions that represent our customer value proposition, and what we think the value that we provide in the marketplace is.
Okay. Perhaps if I get a little bit more specific, I guess you took some actions a couple of years ago when BNSF was struggling in a capacity environment with crude. With the crude coming off, we've been hearing that BNSF has reversed some of that with their own actions on a pricing standpoint. Is that true, and if it is true, has there been any improvement in that dynamic in recent months?
Walter, this is Lance. I'll take that. If you go back to 2014, there were opportunities for us to haul business that typically we wouldn't see for a number of reasons, and we definitely took advantage of those opportunities. That was not a price-based decision. That was a market offering us opportunity that we typically don't enjoy. We've already talked about that, and our value proposition allowed us to have some of that be sticky and stay with us, and some of it did not. Looking at today's world, Beth's answer is exactly as it is. There's competitive dynamics in every commodity market that we serve. Those change over time.
The environment clearly has been more difficult in 2016 than in previous years, and what will help that is if the markets themselves start improving, demand starts increasing, excess capacity gets consumed, and then our pricing environment will improve.
Okay, that makes a lot of sense. I appreciate that color. Just on the second question here, and again, I guess this is for Beth. Your franchise has enjoyed a nice lift in ag over the last 12 months. When you look out to 2017, are you forecasting growth on top of what should be a fairly difficult compare? Should we be building in to be conservative and to model an average crop year? Should we really be looking at a back half decline in your ag business in 2017?
I would say that we still believe that we have opportunities to grow in our ag business. As I mentioned before, there's a lot of dynamics that have to happen, but the grain carryout is strong. We don't know what'll happen with the crop yet. We have a lot of grain products, things like biodiesel and ethanol, that are moving pretty solid for us. We continue to have opportunity in our refrigerated business to grow. I think you have to decide how you want to put that into your model, but in general, we feel pretty good about our ag business in 2017.
Okay. Thank you very much for the time.
Our next question is from the line of Cherilyn Radbourne with TD Securities. Please go ahead with your questions.
Thanks very much, good morning. The call's running long, I'll just ask one. On CapEx, your guidance implies that you're going to be down just over 10% year-over-year in 2017 versus 2016. The step down versus 2015 is obviously even much more substantial. I assume a lot of that is lower locomotive purchases, can you just call out some of the other areas of major savings?
Yeah. Rob, you want to take that?
Yeah. At a high level, Cherilyn, you're right. The big ticket items, if you will, if you look at the timeframe that you're citing, would be locomotive and Positive Train Control. Those are two sizable. Beyond that, we always look at kind of a clean sheet approach, if you will, in terms of capital investments that we're confident will drive returns. Remember that every year in, year out, we spend just north of $2 billion on replacement capital. Everything above that is driven based on commercial decisions and with an eye on returns and capacity expansion, et cetera. The big ticket items, I think in terms of the timeframe you're looking at, would be locomotive and Positive Train Control.
Then just very quickly, in terms of the freight cars that you're adding in 2017, is that across the board or are there particular areas where you're renewing the fleet?
Yeah. Cherilyn, when we make freight car decisions, those are very granular and targeted. Every year we look at what we think the long range plan and the closer years in that long range plan mean in terms of overall fleet. We bounce that against what's retiring out, and we make a judgment call as to what we need to purchase. What gets purchased in any given year, the mix of freight cars that are being purchased and the quantities change and can change pretty dramatically. I would include that also incorporating containers and chassis.
Thank you. That's all for me.
The next question is from the line of Jeff Kauffman with Aegis Capital. Please go ahead with your question.
Okay. Thank you very much. Can you guys hear me?
Yes.
Okay. Thank you. Just a quick question for Rob. I know it's been a long call here. Rob, there was no discussion when you were talking about labor inflation as to what was wage related, what might be benefit and pension related, and I know a number of other companies have flagged that pension goes from being more of a headwind to more of a tailwind given what's going on in the marketplace. When you gave the labor inflation guidance, was that all in?
Yes, it is. Just to comment on that, yeah, I'm not going to break it out, but I would say that the health and welfare component of that is certainly one of the drivers. There are other drivers, but that is a sizable piece of the expectation that overall labor inflation will go up in 2017.
All right. Congratulations and thank you.
Thank you, Jeff.
Our next question is from the line of Scott Schneeberger with Oppenheimer. Please go ahead with your questions.
Good morning. This is Daniel Halper squeezing in for Scott here. Thank you for taking my question. Can you guys please elaborate a little bit on the end market outlook in the industrial product segment and how we should think about the growth there as compared to the full year growth volume outlook for 2017? Thank you.
Beth?
Yeah. For our industrial products market, as you know, it's kind of a market basket, has a bunch of different things in it. One of the biggest growth areas we'll see in 2017 will be frac sand. I mentioned earlier that we've really seen rig counts come up, and fortunately for us, a lot of them are in the Permian Basin, and we believe that's going to give us some opportunity to participate. We do think that as we see the economy get some more legs and momentum, that we should have an in-line opportunity to participate in that expansion in things like construction products and lumber, specifically. Those are probably the key areas where we see growth, but I would say that we view that whole market basket as being pretty stable to growing in 2017.
Thank you.
Our next question is from the line of Brian Konigsberg with Vertical Research. Please go ahead with your question.
Yes. Good morning. Thanks for taking my question. I'll just be very quick. The commentary just about the contract change as it relates to auto, how do we think about that if we have a base assumption for the market this year? Or should we think that you're structurally below that because of the contract changes? Any color there would be helpful.
I would say, the SAAR predicts pretty stable volumes for us into 2017. As you suggest, we will lap that contract that we discussed in the early part of 2017. After that, you should see us participate in the market as it moves.
Don't forget that embedded in automotive for us are automotive parts, and we've done a really sound job. Eric and Beth's team have done a really sound job of penetrating that market and growing it. That's a moving part there too.
Actually, if I could sneak one last one in. I'm sorry, were you adding onto that?
No, go ahead.
Oh, I'm sorry. Just last question on inflation, just coming back to that. The 3% is a bit higher than I think some of your peers had suggested for the year. I know before you did say that health and welfare will be a leading driver of that. I think you said that last quarter. Are other components, maybe you could talk about some of the other components that are really picking up that are contributing as well. I didn't think in aggregate it would reach 3%. It was just the outlier on health and welfare, but that doesn't seem to be the case now.
Yeah, Brian, this is Rob. I would just say that overall inflation, I didn't call out specifically just labor, but labor will be a sizable piece of it. Our expectation is 3%. I would just say that, it will be what it will be, but I, frankly, not speaking for other railroads, but I think in terms of the labor and the health and welfare, I'd be surprised if at the end of the day, there's a difference between us.
Got it. Thank you.
This concludes the question and answer session. I'll now turn the call back over to Lance Fritz for closing comments.
Thank you, and thank you for your questions and interest in Union Pacific. We look forward to talking with you all again in April.
Thank you. This concludes today's teleconference. You may disconnect your lines at this time, and have a wonderful day.