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February 2007



Rail News: Rail Industry Trends

On the Right of Way
NRC: Rail capital cycle a hot topic in Miami



 
Tony Hatch
Maintenance, repair and operation is
one of the hot areas, as it is perceived as
less cyclical than pure manufacturing-
based rail suppliers.
The National Railroad Construction and Maintenance Association (NRC) held its annual convention/get-together Jan. 4-7 at Miami’s Doral Golf Resort & Spa, which was jammed to the gunwales. Attendance was almost double last year’s annual. And why not? Times are good if you serve the rail industry, or the road and rail (and port) network, in general.

After years of underinvestment (both public and private), demand for logistics and transportation infrastructure services well exceeds supply, and sources of capital have noticed (moreso the private than the public sector, but noticed all the same). Secondly, both traditional and new sources of capital are eager to sate this demand, and maintenance, repair and operation is one of the hot areas, as it is perceived as less cyclical than pure manufacturing-based rail suppliers.

S.R.O. at NRC
Back to the NRC event: With 500-plus in attendance, NRC featured packed exhibition halls and meeting rooms, where attendees heard from all of the Class Is and several key regionals. They also learned about emerging growth areas, namely Mexico (as expressed by James Jones, former U.S. Ambassador to Mexico, and current Kansas City Southern board member and co-chairman of Manatt Jones Global Strategies), the ethanol boom (a solid presentation from Tom Young of HDR Engineering Inc.) and the Dakota, Minnesota & Eastern Railroad Corp. (represented by President and CEO Kevin Schieffer).

For obvious reasons, the NRC supports the DM&E’s efforts to get $2.3 billion in federal loan financing for its much-ballyhooed PRB project. Transit, too, was represented (i.e., Miami-Dade Transit). And there were details on a host of other “Major Rail Projects and Rail Projects of National Significance,” as presented by NRC President Ray Chambers, chairman of Chambers, Conlon & Hartwell; and Steve Bolte, Progressive Railroading’s publisher. The tenor of the NRC annual was upbeat, to say the least.

New money available!
Private equity and infrastructure funds see rail as a major opportunity. One of the biggest finance stories last year — and one that will remain for the foreseeable future, really — is the liquidity boom and the rise to outright prominence of the private equity players. The financial markets are awash in cash, and the subhead to the story line has been “too much money, too few deals.”

This bodes well for those looking to finance, recapitalize or sell their businesses. For capital providers, it’s meant they’ve needed to sharpen their analyses and branch out into new industries and sectors. Infrastructure investing from large Australian banks (and emulated by some U.S. institutions) also has been one of the segments drawing in large flows of capital.

All these trends support rising valuations and increased capital availability for rail contractors (Progress Rail Services Corp. and RailWorks Corp., among other recently acquired and refinanced entities), rail suppliers and even railroads themselves (large PE player Fortress Investment Group L.L.C.’s recent purchase of RailAmerica Inc.).

One of the key signs of railroad managements’ self-belief in the “railroad renaissance” are Class Is’ 2007 capex plans. So far, Class I capex plans for 2007 represent a 10 percent year-over-year increase — justifiable, it seems, given that two-thirds of the rails will earn their cost of capital in ’07. I think of what Matt Rose of BNSF Railway Co. is doing. BNSF benefited tremendously from what some analysts called “overspending” in the late 1990s when the volume surge began a mere few years later. Rose is still spending (’07 calls for a 3 percent increase to $2.8 billion, although “growth” capex will perhaps double).

On being far-sighted
What lesson can we learn from the way BNSF shares were treated (very badly) at the dawn of this century? That far-sighted leadership created an intermodal superpower ... or that not correctly, consistently matching current capex to volume on almost a quarterly basis (!) will lead to share price weakness. So far, Class I execs are reaffirming aggressive, and justifiable, capex increases for ’07, based on long-term strategic plans and opportunities. Each Class I told NRC attendees they have even more opportunities to work together this coming year than ever before, and offered long-term plans that will provide additional opportunities for the foreseeable future.

Bottom line: 2007 will be another record year for rail and infrastructure spending, with some shifts within the mix, and perhaps some surprises on the upside (intermodal car orders, maybe?).

More important, it’s finally possible that the extreme cyclicality of the railway supply chain will be lessened as the secular changes brought on by the “railroad renaissance” will lead to more consistent capital spending based on longer-term strategic planning and less quarter-to-quarter, tactical thinking.

Tony Hatch has been a senior transportation analyst on Wall Street for 19 years, and an independent analyst and consultant since 1998.


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