Issuer Purchases of Equity Securities

Item 6. Selected Financial Data

The following table presents, as of and for the dates indicated, selected historical financial information for the Company (dollars in millions, except per share data):

CALCULATION OF RETURN ON INVESTED CAPITAL

BNSF’s return on invested capital (ROIC), as discussed in the “Letter from the Chairman, President, and Chief Executive Officer” in the Company’s 2005 Annual Report, is a non-GAAP measure and should be considered in addition to, but not as a substitute or preferable to, other information prepared in accordance with GAAP. However, the information is included herein as management believes that ROIC provides meaningful information that can be useful in assessing the long-term performance of the Company’s business and in evaluating potential strategic transactions. Below is the calculation of ROIC for the years ended December 31, 2005, 2004 and 2003.

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Management’s discussion and analysis relates to the financial condition and results of operations of Burlington Northern Santa Fe Corporation and its majority-owned subsidiaries and a variable interest entity for which Burlington Northern Santa Fe is the primary beneficiary, all of which are separate legal entities (collectively BNSF, Registrant or Company). The principal operating subsidiary of BNSF is the BNSF Railway Company (BNSF Railway). through which BNSF derives substantially all of its revenues. All earnings per share information is stated on a diluted basis.

INTRODUCTIONCOMPANY OVERVIEW

Through its subsidiaries, BNSF is engaged primarily in the rail transportation business. The rail operations of BNSF’s primary operating subsidiary, BNSF Railway, continues to be one of the primary rail transporters in North America withcomprise one of the largest railroad networks consisting ofin North America, with 32,000 route miles in 28 states and two Canadian provinces. Through one operating transportation services segment, BNSF Railway transports a wide range of products and commodities including the transportation of Consumer Products, Industrial Products, Coal and Agricultural Products. Based on

Additional operational information, including weekly reportingintermodal and carload unit reports as submitted to the American Association of American Railroads for 2004, BNSF’s share ofand annual reports submitted to the western United States rail traffic was approximately 46.4 percent.Surface Transportation Board, are available on the Company’s website at www.bnsf.com/investors.

BNSFEXECUTIVE SUMMARY

FISCAL YEAR 2005 – FINANCIAL OVERVIEW

Operating expenses for 2004 increased 20 percent compared to 2003, primarily driven by the charge mentioned above. The increase in expenses was also the result of an 11 percent increase in gross ton-miles handled and significant fuel price increases.

BUSINESS OUTLOOK FOR 2006

RESULTS OF OPERATIONS

REVENUE TABLE

The following table presents BNSF’s revenue information by commodity group for the years ended December 31, 2005, 2004 2003 and 2002:2003:

EXPENSE TABLE

The following table presents BNSF’s expense information for the years ended December 31, 2005, 2004, 2003, and 20022003 (in millions):

YEAR ENDED DECEMBER 31, 2005 COMPARED WITH YEAR ENDED DECEMBER 31, 2004

BNSF recorded net income for 2005 of $1,531 million, or $4.01 per share, which included a $0.12 per share loss related to an agreement to sell certain line segments to the state of New Mexico (see Item 7, Management’s Discussion and Analysis of Financial Position and Results of Operations under the heading “New Mexico Department of Transportation”). In comparison, net income for 2004 was $791 million, or $2.10 per share, which included a $288 million, net of tax, or $0.77 per share charge for a change in the Company’s estimate of unasserted asbestos liabilities and environmental liabilities (see Note 10 of the Consolidated Financial Statements).

REVENUES

FREIGHT

Freight revenues of $12,606 million for 2005 were $1,864 million, or 17 percent, higher than 2004. Freight revenues were up due to a 5 percent increase in volumes, despite a decrease in car velocity from 199 miles per day in 2004 to approximately 190 miles per day in 2005. Freight revenues in 2005 included fuel surcharges of approximately $1.1 billion compared with approximately $350 million in the prior year. Growth in rates and fuel surcharges drove average revenue per car/unit up 12 percent in 2005 to $1,258 from $1,126 in 2004.

CONSUMER PRODUCTS The Consumer Products’ freight business consists of the following business areas: international intermodal, domestic intermodal, automotive, and perishables and dry boxcar. Consumer Products revenues of $5,156 million for 2005 were $911 million, or 22 percent, greater than 2004. The increase in Consumer Products revenues was strong in all sectors. The increase in average revenue per unit of 11 percent was primarily related to rate increases and increased fuel surcharges.
INDUSTRIAL PRODUCTS Industrial Products’ freight business consists of four business areas: building products, construction products, chemicals and plastic products, and petroleum products.
Industrial Products revenues increased $423 million, or 17 percent, to $2,871 million for 2005. The revenue increase was primarily due to increased lumber, panel and paper traffic in the building products sector, as well as increased traffic in petroleum products, partially offset by decreased volumes in waste products in the building products sector as well as steel and taconite in the construction products sector. Rate increases along with increased fuel surcharges contributed to a 17 percent increase in average revenue per car.

COAL

BNSF is one of the largest transporters of low-sulfur coal in the United States. Approximately 93 percent of all BNSF Railway’s coal tons originate from the Powder River Basin of Wyoming and Montana.

Coal revenues of $2,448 million for 2005 increased $171 million, or 8 percent, versus a year ago. Coal volumes increased slightly as a result of new customer business and higher demand from existing customers, partially offset by weather-related operational and maintenance disruptions in the Powder River Basin. Average revenue per car increased 6 percent primarily driven by contractual rate escalations and increased average length of haul.

AGRICULTURAL PRODUCTS The Agricultural Products’ freight business transports agricultural products including corn, wheat, soybeans, bulk foods, fertilizer and other products.
Agricultural Products revenues of $2,131 million for 2005 were $359 million, or 20 percent, higher than revenues for 2004. Average revenue per car increased 18 percent primarily driven by mix as a result of strong exports out of the Pacific Northwest, price increases and increased fuel surcharges.

OTHER REVENUES

Other Revenues increased $177 million, or 87 percent, to $381 million for 2005 compared to 2004. This increase was primarily attributable to increases in storage-related revenues and volume growth, in addition to the acquisitions and volume growth of BNSF Logistics, a wholly-owned non-rail subsidiary that specializes in providing third-party logistic services.

EXPENSES

Total operating expenses for 2005 were $10,065 million, an increase of $805 million, or 9 percent, over 2004. The increase in operating expenses was the result of significant fuel price increases, a 5-percent increase in gross-ton miles handled and a $71 million pre-tax loss related to an agreement to sell certain line segments to the state of New Mexico, offset by lower asbestos and environmental costs due to the $465 million pre-tax charge taken in 2004 to reflect changes in the Company’s estimate of unasserted asbestos liabilities and environmental liabilities.

COMPENSATION AND BENEFITS

Compensation and benefits includes expenses for BNSF employee compensation and benefit programs. The primary factors influencing the expenses recorded are volume, headcount, utilization, wage rates, incentives earned during the period, benefit plan participation as well as pension-related expenses.

Compensation and benefits expenses of $3,515 million were $193 million, or 6 percent, higher than 2004. The increase was primarily related to the significant increase in freight volumes experienced in 2005. The increases in freight volumes drove an increase in crew training costs and an approximate 5 percent increase in employee headcount.

FUEL

Fuel expense is driven by market price, the level of locomotive consumption of diesel fuel and the effects of hedging activities.

Fuel expenses of $1,959 million for 2005 were $624 million, or 47 percent, higher than 2004. The increase in fuel expense is due to an increase in the average all-in cost per gallon of diesel fuel, as well as an increase in consumption driven by higher volumes. The average all-in cost per gallon of diesel fuel increased by 40 cents, or $566 million, which is comprised of an increase in the average purchase price of 53 cents, or $759 million, partially offset by an increase in the hedge benefit of 13 cents, or $193 million (2005 benefit of $531 million less 2004 benefit of $338 million). Consumption in 2005 was 1,402 million gallons compared with 1,344 million gallons in 2004, resulting in a $58 million increase in fuel expense.

In the future, benefits from hedging activities are expected to decrease as the Company increases its fuel surcharge program. When compared to 2005, operating income is expected to be negatively impacted by the combination of fuel prices, hedges and fuel surcharge recoveries.

PURCHASED SERVICES

Purchased services expense includes ramping (lifting of containers onto and off of cars); drayage (highway movements to and from railway facilities); maintenance of locomotives, freight cars and equipment; transportation costs over other railroads; technology services outsourcing; professional services; and other contract services provided to BNSF. Purchased services expense also includes purchased transportation costs for BNSF Logistics. The expenses are driven by the rates established in the related contracts and the volume of services required.

Purchased services expenses of $1,714 million for 2005 were $290 million, or 20 percent, higher than 2004. This increase was primarily due to increases in the following volume-related costs: approximately $75 million higher intermodal ramp costs; approximately $70 million higher locomotive, freight car and equipment maintenance expense; approximately $45 million higher purchased transportation costs for BNSF Logistics and approximately $30 million higher payments for transportation over other railroads.

DEPRECIATION AND AMORTIZATION

Depreciation and amortization expenses for the period are determined by using the group method of depreciation, applying a single rate to the gross investment in a particular class of property. Due to the capital-intensive nature of BNSF’s operations, depreciation expense is a significant component of the Company’s operating expense. The full effect of inflation is not reflected in operating expenses since depreciation is based on historical cost.

Depreciation and amortization expenses of $1,075 million for 2005 were $63 million, or 6 percent, higher than 2004. This increase was primarily due to ongoing capital expenditures.

EQUIPMENT RENTS

Equipment rents expense includes long-term and short-term payments primarily for locomotives, freight cars, containers and trailers. Variances in expense are driven primarily by volume, lease and rental rates, utilization of equipment and changes in business mix resulting in equipment usage variances.

Equipment rents expenses for 2005 of $886 million were $96 million, or 12 percent, higher than 2004. Expense increases of $70 million for freight car equipment and $26 million for locomotive leases were driven by increases in units resulting from significant volume increases as well as higher lease rates.

MATERIALS AND OTHER

Material expenses consist mainly of the costs involved to purchase mechanical and engineering materials and other items for construction and maintenance of property and equipment. Other expenses include personal injury claims, environmental remediation and derailments as well as employee separation costs, utilities, impairments of long-lived assets and property and miscellaneous taxes. The total is offset by gains on land sales and other recoveries.

Materials and other expenses of $916 million for 2005, which consists of approximately $360 million of materials expense with the remainder consisting of numerous other items, were $461 million, or 33 percent, lower than 2004. In 2005, materials and other expense was impacted by an impairment charge of $71 million related to the future sale of certain line segments as well as $70 million of increased material costs for locomotives, freight cars and track structure, partially offset by lower environmental and personal injury expense in 2005. However, the $465 million pre-tax charge recorded in 2004 to reflect a change in BNSF’s estimates of unasserted asbestos and environmental liabilities more than offset these changes by a significant amount.

INTEREST EXPENSE

Interest expense of $437 million for 2005 was $28 million, or 7 percent, higher than 2004. This increase was primarily the result of higher average interest rates in 2005.

OTHER EXPENSE, NET

Other expense of $37 million for 2005 was $33 million higher than in 2004. The increase in other expense, net was predominantly due to the receipt of interest income on a settlement that occurred in 2004, losses on BNSF’s participation in a synthetic fuel partnership for which tax credits are generated and higher accounts receivable sales fees driven primarily by higher interest rates.

YEAR ENDED DECEMBER 31, 2004 COMPARED WITH YEAR ENDED DECEMBER 31, 2003

BNSF recorded net income for 2004 of $791 million, or $2.10 per share. 2004 net income includes a $288 million, net of tax, or $0.77 per share charge for a change in the Company’s estimate of unasserted asbestos liabilities and environmental liabilities (see Note 10 of the Consolidated Financial Statements). In comparison, net income for 2003 was $816 million, or $2.19 per share, which includes the favorable cumulative effect of an accounting change of $39 million, net of tax, or $0.10 per share (see Note 2 of the Consolidated Financial Statements).

REVENUES

FREIGHT

Freight revenues of $10,742 million for 2004 were $1,457 million, or 16 percent, higher than 2003. Freight revenues in 2004 included fuel surcharges of $357approximately $350 million compared with $110approximately $100 million in the prior year. Average revenue per car/unit increased 5 percent in 2004 to $1,126 from $1,074 in 2003.

CONSUMER PRODUCTS

The Consumer Products’ freight business includes a significant intermodal component and consists of the following business areas: international, direct marketing, truckload, intermodal marketing companies, automotive, and perishables and dry boxcar.

Consumer Products revenues of $4,245 million for 2004 were $588 million, or 16 percent, greater than 2003. The increase in Consumer Products revenue is primarily due to double digit volume growth in the international, truckload, and perishables sectors. The increase in average revenue per unit of 4 percent is primarily related to rate increases and increased fuel surcharges.

INDUSTRIAL PRODUCTS

Industrial Products’ freight business consists of four business areas: building products, construction products, chemicals and plastics, and petroleum products.

Industrial Products revenues increased $310 million, or 15 percent, to $2,448 million for 2004. The revenue increase is primarily due to increased lumber, plywood, particle board

CONSUMER PRODUCTS Consumer Products revenues of $4,245 million for 2004 were $588 million, or 16 percent, greater than 2003. The increase in Consumer Products revenues was primarily due to double-digit volume growth in the international and domestic intermodal sectors. The increase in average revenue per unit of 4 percent was primarily related to rate increases and increased fuel surcharges.
INDUSTRIAL PRODUCTS
Industrial Products revenues increased $310 million, or 15 percent, to $2,448 million for 2004. The revenue increase was primarily due to increased lumber, plywood, particleboard and paper traffic in the building products sector and increased business in steel, taconite and clay in the construction products sector, as well as increased traffic in petroleum products and plastics. Rate increases along with increased fuel surcharges contributed to a 5 percent increase in average revenue per car.

COAL

BNSF is one of the largest transporters of low-sulfur coal in the United States. Approximately 90 percent of all BNSF Railway’s coal tons originate from the Powder River Basin of Wyoming and Montana.

Coal revenues of $2,277 million for 2004 increased $252 million, or 12 percent, versus a year ago. The increase iswas primarily a result of new customer business volumes and higher demand from existing customers. Average revenue per car increased 4 percent primarily driven by contractual rate escalations and increased average length of haul.

AGRICULTURAL PRODUCTS

The Agricultural Products’ freight business is the transportation of agricultural products including corn, wheat, soybeans, bulk foods, fertilizer, and other products.

Agricultural Products revenues of $1,772 million for 2004 were $307 million, or 21 percent, higher than revenues for 2003. This increase is primarily driven by strong corn and wheat exports out of the Pacific Northwest. The average revenue per car increased 12 percent primarily driven by the mix of commodity and destination price increases, increased fuel surcharges and increased average length of haul.

AGRICULTURAL PRODUCTS   Agricultural Products revenues of $1,772 million for 2004 were $307 million, or 21 percent, higher than revenues for 2003. This increase was primarily driven by strong corn and wheat exports out of the Pacific Northwest. The average revenue per car increased 12 percent primarily driven by the mix of commodity and destination price increases, increased fuel surcharges and increased average length of haul.

OTHER REVENUES

Other Revenues increased $76 million, or 59 percent, to $204 million for 2004 compared to 2003. This increase iswas primarily attributable to increased volumes related to BNSF Logistics, a wholly-owned non-rail subsidiary that specializes in providing third-party logistic services, and demurrage.

EXPENSES

Total operating expenses for 2004 were $9,260 million, an increase of $1,512 million, or 20 percent, over 2003. The increase was primarily due to a $465 million pre-tax charge to reflect changes in the Company’s estimate of unasserted asbestos liabilities and environmental liabilities. The increase in operating expenses was also the result of an 11 percent increase in gross-ton miles handled and significant fuel price increases.

COMPENSATION AND BENEFITS

Compensation and benefits includes expenses for BNSF employee compensation and benefit programs. The primary factors influencing the expenses recorded are volume, headcount, utilization, wage rates, incentives earned during the period, benefit plan participation and pension expenses.

Compensation and benefits expenses of $3,322 million were $359 million, or 12 percent, higher than 2003. The increase iswas primarily related to the significant increase in volumes. These increases in traffic volume drove an approximate 3 percent increase in employee headcount as well as greater overtime and crew training costs. Improved financial performance has led to higher incentive expenses for the Company’s salaried and scheduled workforce. Additionally, BNSF recognized increased pension costs of $17 million.

FUEL

Fuel expenses of $1,335 million for 2004 were $242 million, or 22 percent, higher than 2003. The increase in fuel expense is due to an increase in the average all-in cost per gallon of diesel fuel, as well as an increase in consumption driven by higher volumes. The average all-in cost per gallon of diesel fuel increased by 9 cents, or $124 million, which is comprised of an increase in the average purchase price of 29 cents, or $394 million, partially offset by an increase in the hedge benefit of 20 cents, or $270 million (2004 benefit of $338 million less 2003 benefit of $68 million). Consumption in 2004 was 1,344 million gallons compared with 1,213 million gallons in 2003.

PURCHASED SERVICES

Purchased services expense includes ramping and drayage, maintenance of locomotive and freight car equipment and technology services outsourcing, and other services, such as vegetation control, provided to BNSF, as well as purchased transportation costs for BNSF Logistics. The expenses are driven by the rates established in the service contracts and the volume of services required.

Purchased services expenses of $1,424 million for 2004 were $172 million, or 14 percent, higher than 2003 primarily due to higher costs for locomotive contract maintenance expense of $50 million, haulage expense of $27 million and intermodal ramp costs of $20 million for contracted transportation over other railroads, all of which were primarily driven by higher volume. Additionally, purchased transportation costs for BNSF Logistics increased $45 million as a result of increases in its business.

DEPRECIATION AND AMORTIZATION

Depreciation and amortization expenses for the period are determined by using the group method of depreciation, applying a single rate to the gross investment in a particular class of property. Due to the capital-intensive nature of BNSF’s operations, depreciation expense is a significant component of the Company’s operating expense. The full effect of inflation is not reflected in operating expenses since depreciation is based on historical cost.

Depreciation and amortization expenses of $1,012 million for 2004 were $102 million, or 11 percent, higher than 2003. The majority of the increase iswas due to ongoing capital expenditures. Additionally, about $40 million of this increase was due to the expiration of credits to depreciation expense resulting from the application of purchase accounting at the time of the merger in 1996. As a result of a depreciation rate study completed with the assistance of third-party consultants in 2004, BNSF adopted new depreciation rates applied to track structure. This change in rate caused a net decrease in annual depreciation expense of approximately $5 million for 2004 and approximately $16 million on an ongoing annual basis, as calculated using the asset base at the time of the rate change.

EQUIPMENT RENTS

Equipment rents expense includes long-term and short-term payments primarily for locomotives, freight cars, containers and trailers. Variances in expense are driven primarily by volume, rental rates, the results of lease negotiations, utilization of owned equipment versus leased equipment, and changes in business mix resulting in equipment usage variances.

Equipment rents expenses for 2004 of $790 million were $85 million, or 12 percent, higher than 2003. Expense increases of $68 million for freight car equipment and $17 million for locomotive leases are predominantly related to significant volume increases.

FUEL

Fuel expense is driven by the level of locomotive consumption, market price and the effects of hedging activities.

Fuel expenses of $1,335 million for 2004 were $242 million, or 22 percent, higher than 2003. The increase in fuel expense is due to an increase in the average all-in cost per gallon of diesel fuel, as well as an increase in consumption driven by higher volumes. The average all-in cost per gallon of diesel fuel increased by 9-cents, or $124 million, which is comprised of an increase in the average purchase price of 29 cents, or $394 million, partially offset by an increase in the hedge benefit of 20-cents, or $270 million (2004 benefit of $338 million less 2003 benefit of $68 million). Consumption in 2004 was 1,344 million gallons compared with 1,213 million gallons in 2003.

MATERIALS AND OTHER

Material expenses consist mainly of the costs involved to purchase mechanical and engineering materials and other items for construction and maintenance of property and equipment. Other expenses include personal injury claims, environmental remediation, and derailments as well as employee separation costs, utilities, and property and miscellaneous taxes. The total is offset by gains on land sales and other recoveries.

Materials and other expenses of $1,377 million for 2004, which consists of approximately $300 million of materials expense with the remainder consisting of other items, including a charge of $465 million pre-tax related to a change in BNSF’s estimates of unasserted asbestos liabilities and environmental liabilities, were $552 million higher than 2003. In addition to the charge, materials and other expenses increased due to higher material costs of $44 million primarily to maintain freight cars and locomotives due to higher volumes, increased environmental expenses of $28 million primarily related to developments at two former fueling facility sites, increased casualty costs of $32 million driven by two large derailments, and a $24 million decrease in the carrying value of certain assets (see Note 7 of the Consolidated Financial Statements) partially offset by decreases in property and other miscellaneous taxes of $9 million, and increased gains from land sales of $23 million.

INTEREST EXPENSE

Interest expense of $409 million for 2004 was $11 million, or 3 percent, lower than 2003. This decrease was primarily the result of lower average interest rates and lower average debt outstanding.

OTHER EXPENSE, NET

Other expense of $4 million for 2004 was $10 million lower than in 2003. The decrease in expense was due to the receipt of interest income on a settlement that occurred during the third quarter of 2004, partially offset by losses on company owned life insurance.

INCOME TAXES

The effective tax rate in 2004 was 37.9 percent compared with 36.9 percent for the prior-year.prior year. The increase in the effective tax rate primarily reflects a tax settlement attributable to prior years that was settled favorably in 2003.

YEAR ENDED DECEMBER 31, 2003 COMPARED WITH YEAR ENDED DECEMBER 31, 2002

BNSF recorded net income for 2003 of $816 million, or $2.19 per share, which includes the favorable cumulative effect of an accounting change of $39 million, net of tax, or $0.10 per share (see Note 2 of the Consolidated Financial Statements), compared with net income for 2002 of $760 million, or $2.00 per share. Operating income of $1,665 million in 2003 was $9 million higher than 2002.

REVENUES

FREIGHT

Freight revenues of $9,285 million for 2003 were $412 million, or 5 percent, higher than 2002. Freight revenues in 2003 included fuel surcharges of $110 million compared with $26 million in the prior year. Average revenue per car/unit decreased 1 percent in 2003 to $1,074 from $1,084 in 2002.

CONSUMER PRODUCTS

Consumer Products revenues of $3,657 million for 2003 were $304 million, or 9 percent, greater than 2002. The increase in Consumer Products revenue is primarily due to increased volumes in the international and truckload sectors. The reduction in average revenue per unit of 2 percent is primarily related to the strong growth in the international sector, which has lower average revenue per unit.

INDUSTRIAL PRODUCTS

Industrial Products revenues increased $97 million, or 5 percent, to $2,138 million for 2003. The revenue increase is primarily due to increased business in steel, taconite, clay and minerals in the construction products sector and increased military, lumber, plywood, particle board and paper traffic in the building products sector, which were somewhat offset by lower plastics traffic. Rate increases along with increased fuel surcharges contributed to a 4 percent increase in average revenue per car.

COAL

Coal revenues of $2,025 million for 2003 decreased $46 million, or 2 percent, versus a year ago. The decrease is primarily a result of lower volumes from the first quarter draw-down of utility stockpiles, weaker demand due to milder weather, utility plant shutdowns and the conversion of a utility plant from coal to natural gas. The average revenue per car grew slightly.

AGRICULTURAL PRODUCTS

Agricultural Products revenues of $1,465 million for 2003 were $57 million, or 4 percent, higher than revenues for 2002. This increase is primarily due to more ethanol shipments from plants in the Midwest to California and higher shipments of ethanol by-products. Increased export shipments of soybeans also contributed to growth. The average revenue per car was down slightly due to a change in traffic mix partially offset by increased fuel surcharges.

EXPENSES

Total operating expenses for 2003 were $7,748 million, an increase of $425 million, or 6 percent, over 2002 primarily due to higher fuel expenses and greater volumes handled.

COMPENSATION AND BENEFITS

Compensation and benefits expenses of $2,963 million were $69 million, or 2 percent, higher than 2002 primarily due to higher volumes and the implementation of Statement of Financial Accounting Standards (SFAS) No. 143,Accounting for Asset Retirement Obligations, as described in Note 2 of the Consolidated Financial Statements, as well as wage inflation, higher pension costs and new hire crew training, partially offset by lower head counts and the favorable impact of railroad retirement reform on payroll tax costs.

PURCHASED SERVICES

Purchased services expenses of $1,252 million for 2003 were $106 million, or 9 percent, higher than 2002 primarily due to volume-related intermodal ramp and drayage costs and increased locomotive maintenance costs associated with maintaining more locomotives as well as higher service contracts expense related to an agreement to outsource the management of a large portion of BNSF’s information technology infrastructure entered into during the third quarter of 2002 and the implementation of SFAS No. 143.

DEPRECIATION AND AMORTIZATION

Depreciation and amortization expenses of $910 million for 2003 were $21 million, or 2 percent, lower than 2002 primarily due to the implementation of SFAS No. 143, as well as new lower depreciation rates for locomotives partially offset by normal increases for capital expenditures.

EQUIPMENT RENTS

Equipment rents expenses for 2003 of $705 million were $7 million, or 1 percent, higher than 2002 primarily due to volume growth partially offset by decreases in intermodal and carload equipment rent expenses. Decreases in intermodal and carload equipment rent expenses are a result of greater use of private trailers and containers, as well as favorable lease renegotiations and short term lease rate incentives.

FUEL

Fuel expenses of $1,093 million for 2003 were $245 million, or 29 percent, higher than 2002. The increase in fuel expense was primarily the result of a 16-cent, or $194 million, increase in the average all-in cost per gallon of diesel fuel. The increase in the average all-in cost per gallon of diesel fuel is comprised of a 17-cent, or $212 million, increase in the average purchase price which is partially offset by an increase in the hedge benefit of 1-cent, or $18 million (2003 benefit of $68 million less 2002 benefit of $50 million). Consumption in 2003 was 1,213 million gallons compared with 1,149 million gallons in 2002.

MATERIALS AND OTHER

Materials and other expenses of $825 million for 2003 were $19 million, or 2 percent, higher than 2002 principally due to the implementation of SFAS No. 143, employee severance costs and lower gains from property sales substantially offset by decreased material costs and bad debt expense.

INTEREST EXPENSE

Interest expense of $420 million for 2003 was $8 million, or 2 percent, lower than 2002. This decrease was primarily the result of lower average interest rates and an increased benefit from interest rate hedges, partially offset by higher average debt outstanding.

OTHER EXPENSE, NET

Other expense of $14 million for 2003 was $2 million higher than in 2002.

INCOME TAXES

The effective tax rate in 2003 was 36.9 percent compared with 37.5 percent for the prior-year period. The decrease in the effective tax rate primarily reflects a tax settlement attributable to prior years that was settled favorably in the second quarter of 2003.

LIQUIDITY AND CAPITAL RESOURCES

Cash generated from operations is BNSF’s principal source of liquidity. BNSF generally funds any additional liquidity requirements through debt issuance including commercial paper, the leasing of assets and the sale of a portion of its accounts receivable.

OPERATING ACTIVITIES

2005

Net cash provided by operating activities was $2,609 million during 2005 compared with $2,377 million during 2004. The increase was primarily the result of an increase in earnings before the effect of the 2004 third quarter charge related to a change in BNSF’s estimates of unasserted asbestos liabilities and environmental liabilities, which had no impact on the Company’s cash flows (see note 10 of the Consolidated Financial Statements) and a use of cash related to the $350 million decrease in the Company’s accounts receivable sales program (see Note 6 of the Consolidated Financial Statements). The decrease in the Company’s accounts receivable sales program resulted in higher commercial paper (see Note 9 of the Consolidated Financial Statements).

2004

Net cash provided by operating activities was $2,377 million during 2004 compared with $2,285 million during 2003. The increase iswas primarily the result of an increase in earnings before the effect of the aforementioned third quarter charge related to a change in BNSF’s estimates of unasserted asbestos liabilities and environmental liabilities, which had a de minimis impact on the Company’s cash flows.2004 charge.

INVESTING ACTIVITIES

20032005

Net cash provided by operatingused for investing activities was $2,285$2,023 million during 20032005 compared with $2,106$1,595 million during 2002.2004. Investing activities for the year include $1,750 million of capital expenditures, which were $223 million higher than 2004 primarily due to an increase in capital expenditures for maintenance of BNSF’s track structure and for terminal and line expansions. The increase wasin cash used for other investing activities primarily reflects the resulttiming of changesequipment financing activities, consideration paid to another carrier for trackage rights and alternative access rights (see Note 7 of the Consolidated Financial Statements), line acquisitions and investment in working capital andPace Synfuels as well as a $26 million cash source in the Seattle Sound Transit transactionfirst quarter of 2004 related to the consolidation of San Jacinto Rail Limited (see further discussion underNote 2 of the headings “Other Matters; Seattle Sound Transit”)Consolidated Financial Statements).

INVESTING ACTIVITIES

2004

Net cash used for investing activities was $1,595 million during 2004 compared with $1,806 million during 2003. Investing activities for the year include $1,527 million of capital expenditures, which were $199 million lower than 2003 primarily due to the fact that most of the locomotives acquired in 2004 were leased, whereas the majority of locomotives acquired in 2003 were purchased.

2003

Net cash used for investing activities was $1,806 million during 2003 compared with $1,517 million during 2002. Investing activities for the year included $1,726 million of capital expenditures which were $368 million higher than 2002 primarily related to the purchase, instead of lease, of locomotives as well as the advance construction of double track on a portion of BNSF Railway’s transcontinental route.

A breakdown of cash capital expenditures during 2005, 2004 2003 and 20022003 is set forth in the following table (in millions):

The above table does not include expenditures for equipment financed through operating leases (principally related to locomotives).

FINANCING ACTIVITIES

20042005

Net cash used for financing activities during 20042005 was $478$833 million primarily related to:to the following: (i) dividend payments of $231 million; (ii) net debt repayments of $292 million; and (iii) common stock repurchases of $376$799 million, (ii) prepaid forward share repurchases of $600 million (see Note 15 of the Consolidated Financial Statements), and (iii) dividend payments of $267 million, which werewhere partially offset by net debt borrowings of $599 million and proceeds from stock options exercised of $420$244 million.

In December 2005, BNSF issued $500 million of 6.613 percent junior subordinated notes due December 31, 2055. The junior subordinated notes are callable on or after January 15, 2026, at par plus accrued and unpaid interest. On January 15, 2026, if the junior subordinated notes are not called, the interest rate will change to an annual rate equal to the 3-month LIBOR rate plus 2.35%, reset quarterly. Interest payments may be deferred, at the option of the Company, on a cumulative basis for a period of up to five consecutive years; however, during this time the Company will not be permitted to declare or pay dividends on its common stock. In the event that certain financial covenants are not maintained, the Company will be required to sell common stock, the proceeds of which will be used to pay any accrued and unpaid interest. At December 31, 2005, the Company was in compliance with these covenants. Because of this structure, certain rating agencies provide a considerable degree of equity treatment for purposes of calculating various ratios and metrics. The majority of the net proceeds of the debt issuance are being used to repurchase common stock, with the remainder used for general corporate purposes.

Aggregate debt to mature in 20052006 is $465$456 million. BNSF’s ratio of net debt to total capitalization was 42.7 percent at December 31, 2005, compared with 39.9 percent at December 31, 2004, compared with 44.0 percent at December 31, 2003.2004. The Company’s adjusted net debt to total capitalization including operating lease commitments was 51.5 percent at December 31, 2005, compared to 51.0 percent at December 31, 2004, compared to 54.3 percent at December 31, 2003.2004. BNSF’s adjusted net debt to total capitalization is a non-GAAP measure and should be considered in addition to, but not as a substitute or preferable to, the information prepared in accordance with GAAP. However, the information is included herein as management believes that adjusted net debt to total capitalization provides meaningful additional information about the ability of BNSF to service long-term debt and other fixed obligations and to fund future growth.

The following table presents a reconciliation of the calculation of adjusted net debt to total capitalization percentage:

b	Adjustment for other debt equivalents principally includes accounts receivable financing. See Note 6 of the Consolidated Financial Statements.

bc

Adjusted netJunior subordinated notes are included in total debt to total capitalization includes operating leases and other debt equivalents inon the calculationrespective Consolidated Balance Sheet; however, as they include certain equity characteristics as described above, they have been assigned 50% equity credit for purposes of net debtthis calculation.

Pursuant to existing Board authority, BNSF can issue up to an additional $1 billion of debt securities. The decrease in adjustedCompany expects that it will file shelf registration statements for this additional $1 billion when it is ready to issue the debt.

2004

Net cash used for financing activities during 2004 was $478 million primarily related to the following: (i) dividend payments of $231 million; (ii) net debt to total capitalization reflects the improved financial performancerepayments of BNSF.$292 million; and (iii) common stock repurchases of $376 million, which were offset by proceeds from stock options exercised of $420 million.

The Company issued $250 million of 4.88 percent notes due January 15, 2015. The net proceeds of the debt issuance were used for general corporate purposes including the repayment of outstanding commercial paper.

BNSF had $500 million of debt capacity available under its shelf registration at December 31, 2004.

2003

Net cash used for financing activities during 2003 was $489 million primarily related to common stock repurchases of $217 million, dividend payments of $191 million and net debt repayments of $151 million partially offset by proceeds from stock options exercised of $68 million.

The Company exercised an option to call $150 million of 7.50 percent bonds due July 2023. The bonds were called at a price of 103.02 percent of par, and commercial paper was used to fund the call.

BNSF issued $250 million of 4.30 percent notes due July 1, 2013. The net proceeds of the debt issuance were used for general corporate purposes including the repayment of outstanding commercial paper.

The Company exercised an option to call $29 million of 2.63 percent mortgage bonds issued by a predecessor company and due January 1, 2010. Cash generated from operations was used to fund the call.

2002

Net cash used for financing activities during 2002 was $587 million primarily related to common stock repurchases of $353 million, a net reduction in borrowings of $90 million and dividend payments of $183 million, partially offset by proceeds of $40 million resulting from the exercise of 2.3 million stock options.

The Company constructed an intermodal facility built by a third party real estate developer and entered into an agreement to lease the intermodal facility for 20 years from a third party lessor. Under accounting guidance, the Company was considered the owner of the facility during the construction period. The transaction was evaluated and it was determined that sale-leaseback accounting did not apply due to the existence of a purchase option. Accordingly, the transaction was treated as a financing for which the Company recorded an asset in property and equipment, net and a liability in long-term debt and commercial paper of $138 million that represented the fair market value at lease inception.

BNSF issued $300 million of 5.90 percent notes due July 1, 2012. The net proceeds of the debt issuance were used for general corporate purposes including the repayment of outstanding commercial paper.

DIVIDENDS

Common stock dividends declared were $0.74 per share, $0.64 per share, $0.54 per share, and $0.48$0.54 per share annually for 2005, 2004 2003 and 2002,2003, respectively. Dividends paid on common stock were $267 million, $231 million and $191 million during 2005, 2004 and $183 million during 2004, 2003, and 2002, respectively.

COMMON STOCK REPURCHASE PROGRAM

In July 1997, the Board authorized the repurchase of up to 30 million shares of the Company’s common stock from time to time in thethrough open market.market transactions or otherwise. In December 1999, April 2000, September 2000, and January 2003 and December 2005, the Board authorized extensions of the BNSF share repurchase program, adding 30 million shares at each date to the total shares previously authorized bringing BNSF’s share repurchase program to 150180 million shares. During 2005, 2004 2003 and 2002,2003, the Company repurchased approximately 14 million, 10 million, 8 million, and 138 million shares, respectively, of its common stock at average prices of $54.95 per share, $35.98 per share, $27.25 per share, and $27.85$27.25 per share, respectively. Total repurchases through December 31, 2004,2005, were 134148 million shares at a total average cost of $26.82$29.49 per share, leaving 1632 million shares available for repurchase out of the 150180 million shares presently authorized.

LONG-TERM DEBT AND OTHER OBLIGATIONS

The Company’s business is capital intensive. BNSF has historically generated a significant amount of cash from operating activities, which it uses to fund capital additions, service debt, repurchase shares and pay dividends. Additionally, the Company relies on access to the debt and leasing markets to finance a portion of capital additions on a long-term basis.

BNSF has agreed to acquire 1,315845 locomotives by 2009. As of December 31, 2004,2005, BNSF has taken delivery of 615403 of the 1,315845 locomotives. During 2004,2005, BNSF took delivery of 334288 locomotives, which were primarily financed through operating leases.

In the first quarter of 2004, BNSF entered into a contractual obligation to acquire 6,000 grain cars over the course of the nextfollowing four years. Through December 31, 2004,2005, BNSF has taken delivery of 1,4934,500 of the hoppers, which were primarily financed through operating leases.

The locomotives and grain cars under these agreements have been or are expected to be financed through one or a combination of sources including, but not limited to, cash from operations, capital or operating leases and debt issuances. The decision on the method used for a particular acquisition financing will depend on market conditions and other factors at that time.

The Company also utilizes a commercial paper program backed by a bank revolving credit agreementsagreement to manage liquidity needs. The following table summarizes the more significant obligations of the Company at December 31, 2004. For 20052006 and the foreseeable future, the Company expects that cash from operating activities, access to capital markets, the accounts receivable sales program and the bank revolving credit agreementsagreement will be sufficient to enable the Company to meet its obligations when due. The Company believes these sources of funds will also be sufficient to fund capital additions that are necessary to maintain its competitiveness and position the Company for future revenue growth.

The Company’s ratio of earnings to fixed charges was 3.064.62 and 3.003.06 times for the years ended December 31, 20042005 and 2003,2004, respectively. Additionally, the Company’s ratio of net cash provided by operating activities divided by total average debt was 3539 percent and 3335 percent for the years ended December 31, 20042005 and 2003,2004, respectively. The increase in the ratio of net cash provided by operating activities divided by total average debt is primarily due to increased revenue and lower average debt outstanding.

The following table summarizes the Company’s obligations under long-term debt and other contractual commitments at December 31, 20042005 (in millions):

b	Gross payments due which include an interest component.

c	Includes short-line minimum usage commitments, asset maintenance and other purchase commitments.

d

Consists of employee separation payments as discussed in Note 11 of the Consolidated Financial Statements, the 20052006 required pension plan contribution and actuarially estimated payments expected to be made over the next five years for other post-retirement benefit plans as discussed in Note 13 of the Consolidated Financial Statements.

In the normal course of business, the Company enters into long-term contractual requirements for future goods and services needed for the operations of the business. Such commitments are not in excess of expected requirements and are not reasonably likely to result in performance penalties or payments that would have a material adverse effect on the Company’s liquidity.

CREDIT AGREEMENTSAGREEMENT

Commercial paper and the revolving credit agreementsagreement are discussed in Note 9 of the Consolidated Financial Statements. The revolving credit agreements includeagreement includes covenants and events of default typical for this type of facility, including a minimum consolidated tangible net worth test, a maximum debt-to-capital test, and a $75 million cross-default provision. At December 31, 2004,2005, the Company was in compliance with its debt covenants. BNSF’s tangible net worth is $4 billion greater than the minimum consolidated tangible net worth required under the agreement, and the maximum debt-to-capital test provides approximately $7$6 billion of debt capacity above BNSF’s outstanding debt as of December 31, 2004,2005, before an event of default would occur under these covenants. With the exception of a voluntary bankruptcy or insolvency, any event of default has either or both a cure period or notice requirement before termination of the agreements.agreement. A voluntary bankruptcy or insolvency would be considered an immediate termination event.

OFF-BALANCE SHEET ARRANGEMENTS

SALE OF ACCOUNTS RECEIVABLE

The accounts receivable sales program of Santa Fe Receivables Corporation (SFRC), as described in Note 6 of the Consolidated Financial Statements, includes various provisions that, if triggered, would allow the investors participating in this program, at their option, to cancel the program. These provisions include a minimum consolidated tangible net worth test and a maximum debt-to-capital test, which are the same as in the BNSF revolving credit agreements described above. BNSF’s tangible net worth is approximately $4 billion greater than the minimum consolidated tangible net worth required under the agreement, and the maximum debt-to-capital test provides approximately $7$6 billion of debt capacity above BNSF’s outstanding debt as of December 31, 2004. At December 31, 2004, investor interests of $650 million were outstanding under the $700 million accounts receivable facility. SFRC renewed $350 million of the $700 million accounts receivables facility, effective June 2004, for an additional 364 days. In addition, SFRC entered into a separate $350 million accounts receivables facility, effective June 2003, with a five-year term. As a result of amendments2005. The Company’s capacity to the facilities in October, 2004, the commitments of the investors to purchasesell undivided interests for the two facilitiesto investors under the accounts receivable sales program are currently scheduledwas $700 million at December 31, 2005, which was comprised of two $350 million, 364-day accounts receivable facilities. The Company amended these facilities on October 14, 2005, modifying their expiration dates to expire in October 2005 and October 2008, respectively.2006. Management expects to be able to either extend the commitment of the current investors under the accounts receivable sales program past October 20052006 or to find additional investors in the accounts receivable sales program who will be committed to purchase undivided interests after October 2005.

The accounts receivable sales program provides efficient financing at a competitive interest rate toas compared with traditional borrowing arrangements.arrangements and provides diversification of funding sources. Since the funding is collateralized by BNSF receivables, the risk of exposure is only as great as the risk of default on these receivables (see Note 6 of the Consolidated Financial Statements).

GUARANTEES

The Company acts as guarantor for certain debt and lease obligations of others. During the year ended December 31, 2004past few years the Company has primarily utilized guarantees to allow third-party entities to obtain favorable terms to finance the construction of assets that will benefit the Company. Additionally, in the ordinary course of business, BNSF enters into agreements with third parties that include indemnification clauses. The Company does not expect performance under these guarantees or indemnities to have a material adverse effect on the Company’s liquidity in the foreseeable future (see Note 9 of the Consolidated Financial Statements).

PENSION FUNDING

The Company will make required contributions of approximately $13 million to the qualified BNSF Retirement Plan in 2005.

INFLATION

Due to the capital-intensive nature of BNSF’s business, the full effect of inflation is not reflected in operating expenses because depreciation is based on historical cost. An assumption that all operating assets were depreciated at current price levels would result in substantially greater expense than historically reported amounts.

OTHER MATTERS

COMMERCIAL

In July 2004, BNSF Railway initiated an arbitration proceeding under a Joint Service Agreement (JSA) with J.B. Hunt Transportation (J.B. Hunt), a major truckload carrier (the “carrier”) with which BNSF Railway handles substantial joint intermodal movements. In the proceeding, BNSF Railway is seekingsought an increase in its divisions of joint revenue for intermodal movements. InAdditionally, the pending proceeding, J.B. Hunt is also challengingcarrier challenged the basis of the divisions basis and raisingraised other issues under the JSA. TheAn Interim Award decision was issued by the arbitration panel on September 16, 2005, increasing BNSF’s revenue divisions, and favorably resolving other issues raised in the proceeding. Both parties accepted the Interim Award as the final and binding award in the arbitration on October 17, 2005. By agreement of the parties, on October 19 the panel entered an order terminating the proceeding. In the fourth quarter of 2005, BNSF recorded a gain of approximately $26 million pre-tax, $16 million, net of tax, or $0.04 per share, as a result of this proceeding is not expected to haveretroactive award of compensation for the period of July 7, 2004 through September 30, 2005. Of this gain, $21 million was recorded as an increase in Consumer Products revenue, and the remaining $5 million was recorded in purchased services expense as a material adverse effect onreimbursement of legal fees.

In February 2005, the Company received a Civil Investigative Demand from the Antitrust Division of the Department of Justice requesting information concerning the Company’s resultspricing activities relating to the shipment of operations, financial position or liquidity.

HEDGING ACTIVITIES

The Company uses derivatives to hedge against increases in diesel fuel prices and interest rates as well as to convert a portion of its fixed-rate long-term debt to floating-rate debt. The Company formally documents the relationship between the hedging instrument and the hedged item, as well as the risk management objective and strategy for the use of the hedging instrument. This documentation includes linking the derivatives that are designated as fair value or cash flow hedges to specific assets or liabilities on the balance sheet, commitments or forecasted transactions. The Company assesses at the time a derivative contract is entered into, and at least quarterly thereafter, whether the derivative item is effective in offsetting the changes in fair value or cash flows. Any change in fair value resulting from ineffectiveness, as defined by SFASStatement of Financial Accounting Standards (SFAS) No. 133,Accounting for Derivative Instruments and Hedging Activities,as amended, is recognized in current period earnings. For derivative instruments that are designated and qualify as cash flow hedges, the effective portion of the gain or loss on the derivative instrument is recorded in Accumulated Other Comprehensive Incomeaccumulated other comprehensive income (AOCI) as a separate component of stockholders’ equity and reclassified into earnings in the period during which the hedge transaction affects earnings.

FUEL

BNSF measures the fair value of fuel hedges from data provided by various external counterparties. To value a swap, the Company uses the forward commodity price for the period hedged. The fair values of costless collars are calculated and provided by the corresponding counterparties. BNSF monitors its hedging positions and credit ratings of its counterparties and does not anticipate losses due to counterparty nonperformance (see Note 3 of the Consolidated Financial Statements).

Between January 1, 2006 and February 13, 2006, the Company converted approximately 66 million gallons of WTI collars into HO swaps at an average price of approximately $0.95 per gallon. Additionally, the Company entered into HO-WTI swap agreements for 1.5 million barrels at an average price of $10.18 per barrel. These hedges will expire during 2006.

INTEREST RATE

From time to time, the Company enters into various interest rate hedging transactions for the purpose of managing exposure to fluctuations in interest rates and establishing rates in anticipation of future debt issuances as well as to convert a portion of its fixed-rate long-term debt to floating-rate debt. The Company uses interest rate swaps and treasury locks as part of its interest rate risk management strategy. BNSF’s measurement of the fair value of interest rate swaps and treasury locks is based on estimates of the mid-market values for the transactions provided by the counterparties to these agreements (see Note 3 of the Consolidated Financial Statements).

EMPLOYEE AND LABOR RELATIONS

Approximately 88 percentA significant majority of BNSF Railway’s employees are union-represented. BNSF Railway’s union employees work under collective bargaining agreements with various different labor organizations. A negotiating process for new, major collective bargaining agreements covering all of BNSF Railway’s union employees has been underway since athe bargaining round was initiated November 1, 1999.2004. Wages, health and welfare benefits, work rules and other issues have traditionally been addressed through industry-wide negotiations. These negotiations have generally taken place over an extended period of time and have previously not resulted in any extended work stoppages. The existing agreements have remained in effect and will continue to remain in effect until new agreements are reached or the Railway Labor Act’s procedures (which include mediation, cooling-off periods and the possibility of Presidentialpresidential intervention) are exhausted. TheAgreements undergoing renegotiation in the current agreementsbargaining round provide for periodic wage increases until new agreements are reached.

UNIONS WITH AN AGREEMENT UNDER THE PREVIOUS BARGAINING ROUND

In the previous bargaining round, which began on November 1, 1999, BNSF’s entire unionized workforce, reached final agreements that cover periods through December 2004.

2005 BARGAINING ROUND

The current bargaining round for all unions with contracts that will comecame into effect after January 1, 2005, began on and after November 1, 2004, with the serving of Section 6 notices, which are each side’s initial proposals. BNSF will participateis participating in coordinated national handling of these proposals. The current agreements as discussed above, areremain in effect until new agreements are reached or until changes to the existing agreements are made.

UNIONS WITH AN AGREEMENT UNDER THE PREVIOUS BARGAINING ROUND

In the previous bargaining round, the United Transportation Union, the Brotherhood of Maintenance of Way Employes, the Brotherhood of Locomotive Engineers and Trainmen, the Transportation Communications Union, the Brotherhood of Railroad Signalmen, the American Train Dispatchers Association, and the International Brotherhood of Electrical Workers representing approximately 91 percent, collectively, of BNSF’s unionized workforce, have reached final agreements that cover periods through December 2004.

UNIONS WHICH HAVE NOT SETTLED AN AGREEMENT UNDER THE PREVIOUS BARGAINING ROUND

Through the National Carriers’ Conference Committee, BNSF is continuing efforts to settle the previous bargaining round with the International Association of Machinists, Sheet Metal Workers’ International Association, and National Conference of Firemen and Oilers, which together represent approximately 9 percent of the Company’s unionized workforce.

RAILROAD RETIREMENT REFORM

Railroad industry personnel are covered by the Railroad Retirement System instead of Social Security. BNSF Railway’s contributions under the Railroad Retirement System have been approximately triple those in industries covered by Social Security. The Railroad Retirement System, funded primarily by payroll taxes on covered employers and employees, includes a benefit roughly equivalent to Social Security (Tier I), an additional benefit similar to that allowed in some private defined-benefit plans (Tier II), and other benefits. Investment of Tier II Railroad Retirement assets had, until 2001, been limited to special interest-bearing U.S. Treasury securities. The Railroad Retirement and Survivors’ Improvement Act of 2001 (Act) creates a new National Railroad Retirement Investment Trust to hold Tier II Railroad Retirement assets and empowers the trustees to invest these assets in the same types of investments available to private sector retirement plans. In addition to liberalizing certain retirement benefit requirements for rail employees, the Act reduced Tier II Railroad Retirement tax rates on rail employers beginning in 2002 and eliminated a supplemental annuity tax. In 2002, the Company realized savings of approximately $20 million and realized incremental savings of approximately $30 million and $20 million in 2003 and 2004, respectively. Based on projected wage levels and number of employees, the Company expects to realize further incremental savings in 2005 of approximately $10 million due to an additional 0.5 percentage point reduction in the Tier II rate for 2005. Future adjustments in the Tier II Railroad Retirement tax rates assessed will depend on Railroad Retirement fund levels.

SEATTLE SOUND TRANSIT

In December 2003, the Company entered into several agreements with Central Puget Sound Regional Transit Authority (Sound Transit), a government authority established by King, Pierce and Snohomish counties within the state of Washington. BNSF has agreed to sell to Sound Transit under the threat of condemnation a combination of (a) four easements enabling Sound Transit to offer commuter rail service over the existing BNSF track from Seattle to Everett and (b) 18 miles of railroad line from south of Tacoma to Nisqually, Washington.

Sound Transit will pay BNSF approximately $260 million for four commuter easements to operate trains on the segment between Seattle and Everett and entered into agreements both for service on the commuter easements and joint use of track for commuter and freight purposes. The Company received approximately $80 million of cash in 2003 upon the closing of the first easement and $80 million of cash in 2004 upon closing of the second easement. The sale proceeds will be recognized in income over the use of the associated track structure (approximately 37 years). Over the next threetwo years, upon the subsequent closings subject to conditions in the sale agreement, BNSF will receive an additional $100 million for the remaining two easements.

Sound Transit will also pay BNSF to convey the 18 miles of railroad line and associated real estate from south of Tacoma to Nisqually in three separate sell transactions. First, the Company received approximately $8 million of cash in 2003 and reported a gain in income of $2 million, net of tax, as a result of the real estate sale for station-related parcels to Sound Transit. Second, the Company received $6 million of cash and a $6 million note receivable in the third quarter of 2004 associated with the sale of approximately half of the 18 miles. The gain on this sale was deferred due to certain continuing involvement in the property. This continuing involvement expired in November 2004, and the Company recognized a gain in income of $7 million, net of tax. The Company collected $3 million of the $6 million note receivable related to this sale in 2005, and the remaining $3 million is expected to be collected in 2006. Third, the Company received $3 million of cash and a $9 million note receivable in the fourth quarter of 2005 associated with the sale of the remaining railroad line and real estate. The Company recognized a gain of approximately $9 million, net of tax, associated with the sale. The Company is expected to collect the $6$9 million note receivable over the next two years. Third,

NEW MEXICO DEPARTMENT OF TRANSPORTATION

In the fourth quarter of 2005, BNSF Railway Company expectsentered into an agreement with the New Mexico Department of Transportation (NMDOT) to sell the remaining railroadCompany’s rail line and real estatecertain adjacent property between Belen, New Mexico and Trinidad, Colorado while maintaining freight easement rights on the line. Upon satisfaction of closing conditions, the sale is anticipated to close in 2005segments over the next 3 years for approximately $15 million.a total purchase price of $76 million and will allow NMDOT to create a commuter rail line. The Company expectsrecognized an impairment charge of $71 million in the fourth quarter of 2005 related to recognizethis agreement and anticipates recording a gain of approximately $8$21 million netin the first quarter of tax, associated with that sale.2006 upon the sale of one of the line segments. The Company received $9 million in 2005 related to this sale, and expects to receive cash payments of $45 million in 2006, $18 million in 2007, and $4 million in 2008. While this rail line has been a critical alternative route for the Company, it will become less significant over the next several years as the double-tracking of the main line transcontinental route is completed.

AMERICAN JOBS CREATION ACT OF 2004

In October 2004, the American Jobs Creation Act of 2004 was signed into law. Part of the legislation includes the repeal of a 4.3–cent tax per gallon of diesel fuel. The tax will beis being gradually phased out in 2005 and 2006 and will be completely phased out by 2007. Based on actual and projected fuel consumption, the repeal of the tax resulted in $21 million in incremental savings in 2005 and is expected to result in incremental savings of approximately $20 million, $10 million and $30 million for BNSF in 2005, 2006 and 2007, respectively.

CRITICAL ACCOUNTING ESTIMATES

In the ordinary course of business, the Company makes a number of estimates and assumptions related to the reporting of results of operations and financial position in the preparation of its financial statements in conformity with accounting principles generally accepted in the United States of America. Actual results could differ significantly from those estimates under different assumptions and conditions. The following discussion addresses the Company’s most critical accounting estimates.

Management has discussed the development and selection of the critical accounting estimates described below with the Audit Committee of the Board of Directors, and the Audit Committee has reviewed the Company’s disclosure relating to them in this Management’s Discussion and Analysis of Financial Condition and Results of Operations.

LEGAL

BNSF’s most significant legal claims relate to personal injury claims and environmental matters. These claims are discussed in more detail below.

During 2004, BNSF recorded a $465 million pre-tax charge to reflect changes in its estimate of unasserted asbestos liabilities and environmental liabilities. Of this amount, $293 million and $172 million were related to unasserted asbestos and environmental liabilities, respectively. The $465 million pre-tax charge was recorded in materials and other expense and reduced net income by $288 million, or $0.77 per share during 2004.

PERSONAL INJURY

Personal injury claims, including asbestos claims and employee work-related injuries asbestos claims and third party injuries (collectively, other personal injury), are a significant expense for the railroad industry. Personal injury claims by BNSF Railway employees are subject to the provisions of the Federal Employers’ Liability Act (FELA) rather than state workers’ compensation laws. FELA’s system of requiring the finding of fault, coupled with unscheduled awards and reliance on the jury system, contributed to increased expenses in past years. Other proceedings include claims by non-employees for punitive as well as compensatory damages. A few proceedings purport to be class actions. The variability present in settling these claims, including non-employee personal injury and matters in which punitive damages are alleged, could result in increased expenses in future years. BNSF has implemented a number of safety programs designed to reduce the number of personal injuries as well as the associated claims and personal injury expense.

BNSF records a liability for personal injury claims when the expected loss is both probable and reasonably estimable. The liability and ultimate expense projections are estimated using standard actuarial methodologies. Liabilities recorded for unasserted personal injury claims are based on information currently available. Due to the inherent uncertainty involved in projecting future events such as the number of claims filed each year, developments in judicial and legislative standards and the average costs to settle projected claims, actual costs may differ from amounts recorded.

ASBESTOS

The Company is party to a number of personal injury claims by employees and non-employees who worked aroundmay have been exposed to asbestos. The heaviest exposure for BNSF employees was due to work conducted in and around the use of steam locomotive engines that were phased out between the years of 1950 and 1967. However, other types of exposures, including exposure from locomotive component parts and building materials, continued after 1967, until it was substantially eliminated by 1985.

Prior to 2000, claim filings against the Company for asbestos were not numerous and were sporadic. Accordingly, while the Company had concluded that a probable loss had occurred, it did not believe it could estimate the range of reasonably possible loss because of the lack of experience with such claims and the lack of detailed employment records for the population of exposed employees. The Company believed, however, that the low end of the range of reasonably possible loss, as that term is used in FASBFinancial Accounting Standards Board (FASB) Interpretation No. 14 (FIN 14),Reasonable Estimation of the Amount of a Loss, was immaterial. Subsequent to this period, claim filings increased and, when they continued into 2004, the Company concluded that the low end of the range of reasonably possible loss would be material and that an estimate for unasserted asbestos exposure liability needed to be recorded. BNSF then engaged a third party with extensive experience in performing asbestos studies to assist in assessing the unasserted liability exposure. The objective of the assessment was to determine the number of estimated unasserted asbestos claims and the estimated average cost per claim. The Company, with the assistance of the third party, first determined its exposed population from which it was able to derive the estimated number of unasserted claims. The estimated average cost per claim was then determined utilizing recent actual average cost per claim data.

Based on the assessment, the Company recorded an undiscounted $293 million pre-tax charge for unasserted asbestos claims.claims in the third quarter of 2004. The $293 million pre-tax charge was recorded in materials and other expense and reduced net income by $182 million, or $0.49 per share, for the year ended December 31, 2004.

Key elements of the assessment included:

From these assumptions BNSF projected the incidence of each type of disease to the estimated population to arrive at an estimate of the total number of employees that could potentially assert a claim. Historical claim filing rates were applied for each type of disease to the total number of employees that could potentially assert a claim to determine the total number of anticipated claim filings by disease type. Historical dismissal rates, which represent claims that are closed without payment, were then applied to calculate the number of future claims by disease type that would likely require payment by the Company. Finally, the number of such claims was multiplied by the average settlement value to estimate BNSF’s future liability for unasserted asbestos claims.

The most sensitive assumptions for this accrual are the estimated future filing rates and estimated average claim values. Asbestos claim filings are typically sporadic and may include large batches of claims solicited by law firms. To reflect these factors, BNSF used a multi-year calibration period (i.e., the average historical filing rate for the period 2000-2003) because it believed it would be most representative of its future claim experience. In addition, for non-malignant claims, the number of future claims to be filed against BNSF declines at a rate consistent with both mortality and age as there is a decreasing propensity to file a claim as the population ages. BNSF believes the average claim values by type of disease from the historical period 2002-2004 are most representative of future claim values. Non-malignant claims, which represent approximately 95 percent of the total number and 80 percent of the cost of estimated future asbestos claims, were priced by age of the projected claimants. Historically, the ultimate settlement value of these types of claims is most sensitive to the age of the claimant. A 10 percent increase or decrease in either the forecasted number of unasserted claims or the average claim values would result in an approximate $30 million increase or decrease in the liability recorded for unasserted asbestos claims.

BNSF anticipates obtaining annual updatesDuring the third quarter of 2005, the study.Company obtained an update of this study, which concluded that the original September 2004 study continues to represent a reasonable estimate of BNSF’s future asbestos exposure. Therefore, management recorded no additional expense as a result of this update. The Company plans to update the study in the third quarter of 2006. On a quarterly basis, BNSF will monitormonitors actual experience against the number of forecasted claims to be received and expected claim payments. Adjustments to the Company’s estimates will be recorded quarterly if necessary. More periodic updates towhen necessary (see Note 10 of the study will occur if trends necessitate a change.Consolidated Financial Statements for additional information).

The following table summarizes the activity in the Company’s accrued obligations for both asserted and unasserted asbestos matters (in millions):

Of the obligations at December 31, 2004 obligation, $2922005, $266 million is related to unasserted claims while $53and $60 million is related to asserted claims. At both December 31, 2005 and 2004, $21 and 2003, $18 million isare included in current liabilities.liabilities, respectively. The recorded liability wasis not discounted. In addition, defense and processing costs, which are recorded on an as-reported basis, are not included in the recorded liability. The Company is presently self-insured for asbestos-related claims.

The following table summarizes information regarding onlythe number of asserted asbestos claims filed against BNSF: