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December 2006

Rail News: Rail Industry

Rail Outlook 2007 - Full Speed Ahead

— by Associate Editor Angela Cotey and Managing Editor Jeff Stagl

They've added track and expanded facilities. They've acquired more locomotives and cars. They've also increased the number of trains operating on their networks and reduced transit times. And their efforts are paying off. Many North American freight and passenger railroads met their '06 goals to expand capacity, boost productivity and improve network fluidity while also taking on more traffic.

Carloadings and intermodal traffic continue to reach unprecedented levels, and transit-rail ridership remains on the rise, often to record-setting counts.

In addition, freight roads' revenue is soaring to new heights and operating ratios are plunging to new lows, while passenger roads' income from fares is recovering a larger chunk of operating costs.

To say this year's been a good one for railroads is an understatement. To say next year will be another good one might be, too, if the feedback the Progressive Railroading staff received in recent weeks is any indication. From the Class I executive set to short-line leaders to passenger-rail senior managers, railroaders clearly believe the traffic- and revenue-building momentum they've ridden in 2006 will carry over into 2007.

Not that there aren't a few challenges ahead — a softening economy, shifting political winds in D.C. and the impact (if any) on infrastructure funding legislation, lingering capacity constraints, fuel prices, aging workforces and potential rancor with rail labor at the bargaining table concern just about everybody we talked with. But none of these issues are squelching execs' optimism about the prospects of keeping the momentum going well into 2007 — and, they hope, beyond. They believe they can continue to execute operational strategies and exploit ripe market conditions to divert more freight to rail and get more people to ride trains.

"The railroad industry has enjoyed a powerful resurgence in the last two to three years," says CN President and Chief Executive Officer E. Hunter Harrison, referring to the freight world, but expressing a sentiment that also applies to the transit-rail realm. "The industry's challenge in 2007 will be to extend that resurgence and take advantage of positive secular conditions."

For transit-rail execs, that means continuing to promote low ticket prices vs. high gasoline costs, which helped many agencies post double-digit ridership increases or set records in 2006.

For 2007, Los Angeles County Metropolitan Transportation Authority (LA MTA) officials expect a 15 percent boost in light-rail ridership and MTA Metro-North Railroad managers forecast a 2.5 percent to 3.5 percent gain in commuter-rail riders. In addition, Trinity Railway Express (TRE) execs project at least 1 million additional passengers in FY2007 after boosting ridership 11.9 percent in FY2006.

Favorable Factors

On the freight side, execs expect to continue mining strong coal, agricultural, intermodal and ethanol markets, which they believe will boost carloads and more than compensate for continued softening in the forest products and automotive sectors.

Barring a full-blown recession, freight roads will increase traffic next year because moderating demand will more negatively impact the trucking industry, which is more exposed to retail and industrial production, and has greater economic cyclicality risk, said global credit market rating agency Fitch Ratings in a Nov. 30 report.

Iowa Interstate Railroad Ltd.'s carloads will increase 6 percent to 8 percent primarily because of burgeoning ethanol business, says President and CEO Dennis Miller. Ethanol also will be a traffic springboard for OmniTrax Inc., which owns and operates 17 regionals and short lines. Fourteen ethanol plants are in various stages of development along subsidiary railroads' lines, says Chief Operating Officer Robert Parker.

"Acquisitions the last two years have helped us move away from an unhealthy reliance on grain harvests to a [diverse] customer base," he says. "Based on diversification, organic growth from existing customers and the ethanol explosion experienced by some of our railroads, we are forecasting a healthy growth rate in 2007."

So is Florida East Coast Railway (FECR), especially if the 351-mile regional can divert more intermodal business, such as a truck-to-steamship move of clothing material from the Carolinas to Florida Keys.

"We want to make it a rail-to-truck-to-steamship move," says FECR President and COO John McPherson.

CSX Corp. also is counting on intermodal to drive up 2007 carloads. The Class I can exploit the highway congestion and labor shortages that are placing additional pressure on the trucking industry, says Chairman, President and CEO Michael Ward.

Capacity Is Key

But only if, like other Class Is, CSX expands infrastructure capacity to accommodate more traffic. To that end, CSX will spend $2.8 billion in 2006 and 2007 to extend and relocate sidings, expand intermodal terminals, build logistics centers and acquire rolling stock.

"The [entire] industry has to continue improving service, making our networks more fluid and investing in our infrastructure," says Ward.

Capacity expansion is a big part of Kansas City Southern's traffic growth strategy. The Class I has incorporated the goal into a five-year plan, which also calls for further integrating KCS' U.S. and Mexican operations, and expanding its U.S./Mexico intermodal corridor.

"Accelerated spending on capacity expansion projects; facility enhancements at strategic locations, like Lazaro Cardenas, San Luis Potosi, Rosenberg [Texas] and Kansas City [Mo.]; and new major customers coming on line will add the density needed for KCS to offer more dedicated trains, improve service and grow revenues," says President and COO Art Shoener.

Raritan Central Railway L.L.C. plans to expand capacity, too. In 2007, the 16-mile short line will nearly double this year's capital spending to $1.5 million primarily to expand a steel and lumber product staging area for new customer BPB North America Inc., which will help boost carloads to 8,600 compared with 2006's 6,000, says President Eyal Shapira.

Expanding capacity remains key to helping transit agencies grow and manage traffic, as well. Several agencies already are beginning to bear fruit from projects completed this year.

In August, St. Louis Metro opened the eight-mile Cross County MetroLink extension, which so far has helped increase average weekday ridership by 20,000 passengers and will provide another ridership boost next year.

And last month, the Regional Transportation District of Denver opened its 19-mile Southeast Corridor, which doubled the light-rail system and is expected to meet the agency's goal to double ridership from about 36,000 to 72,000.

Other agencies have major projects slated for 2007. TRE will continue a 1.2-mile double-tracking project near CentrePort Station in Fort Worth, Texas, it began earlier this year, and Utah Transit Authority will continue constructing a 44-mile commuter-rail line and begin expanding its light-rail system.

"Next year, we hope to have two or three more rail projects under construction," says General Manager John Inglish. "We want to get out ahead of inflation; the faster we can build it, the more we can build."

LA MTA is in building mode, too. In addition to the downtown L.A.-to- Culver City Exposition light-rail line and Union Station-to-East Los Angeles Gold Line Eastside extension currently under construction, the agency plans to extend the Exposition Line from Culver City to Santa Monica, expand the Gold Line to the west, and connect the Gold and Blue light-rail lines in downtown L.A. the next few years.

"We've got no end of projects," says CEO Roger Snoble.

Neither does Metro-North, which next year will continue renovating stations, rebuilding the Harmon Yard diesel and coach shops, and constructing a new service and inspection facility in New Haven, Conn.

"Our biggest challenge in 2006, and same in 2007, is continuing to maintain our level of service while still growing service and implementing some of the major projects we have going," says President Peter Cannito.

Rolling Along

Other agencies are addressing capacity needs by acquiring rolling stock.

Next year, the Washington Metropolitan Area Transportation Authority will continue taking delivery of 182 ALSTOM Transport-built cars, which will be used to increase train consists from six to eight cars during rush hours; TRE will take delivery of four passenger cars from Bombardier Transportation; and New Jersey Transit will continue receiving 225 multi-level cars from Bombardier.

Several freight railroads also are zeroing in on rolling stock to boost capacity.

CN is increasing 2007 capital spending by 4 percent to $1.4 billion in part to purchase 65 new locomotives and upgrade its car fleet, and CSX expects to acquire more locomotives and cars.

But as BNSF Railway Co. and Union Pacific Railroad expand capacity to move more intermodal traffic in southern California, one transit-rail agency is finding it difficult to obtain additional track time to serve more passengers.

"It's a challenge to grow our train service at the same time when traffic from the L.A. and Long Beach ports is growing at a tremendous rate," says David Solow, CEO of Metrolink, which operates trains on BNSF's and UP's tracks. "As goods traffic increases, it will become harder for BNSF, UP and Metrolink to make sure service stays on time."

It'll also become increasingly difficult for many railroads to absorb the cost of infrastructure and operational improvements.

Many freight- and transit-rail execs hope capacity funding will be included in the next federal transportation reauthorization bill. Although the Safe, Accountable, Flexible and Efficient Transportation Equity Act of 2005: A Legacy for Users was just approved in summer 2005, the legislation was passed two years late — the six-year bill already is set to expire in 2009.

The National Surface Transportation Policy and Revenue Study Committee, which is charged with developing a recommendation to Congress for the next transportation reauthorization bill, has begun to hold hearings for transportation officials to voice their opinions on what they believe should be included in the new bill.

One committee member believes adequate funding for both rail sectors is a must.

"We need to recommend that we provide dollars not just for passenger trains, but also to increase capacity on the freight side," says Wisconsin Department of Transportation Secretary Frank Busalacchi.

Open Arms

The Class Is would welcome federal infrastructure funding assistance, as well as private-sector investments, says UP President and CEO Jim Young. Or, at least, some form of regulatory relief.

"The federal government needs to assure that regulatory and tax policies do not pose barriers to critical infrastructure investments needed to sustain economic growth," says Young.

For BNSF Chairman, President and CEO Matt Rose, a federal funding stimulus — such as the tax credit-proposing Freight Rail Infrastructure Capacity Expansion Act — would best serve railroads' infrastructure funding needs rather than direct government investment, which would be driven by the political process.

Such a stimulus would boost annual rail expansion capital from $2 billion to $4 billion, he said Oct. 4 during a keynote address at Progressive Railroading's RailTrends conference in New York City.

"Railroads are putting more expansion capital into their networks as return on invested capital approaches the cost of capital, but this [funding model] won't satisfy all potential demand," said Rose. "The right stimulus would ensure that good, market-based investments would be made sooner."

It's unclear what impact the Democratic control of Congress will have on the tax credit bill or other rail-related legislation. Many freight-road execs believe the industry should work together to communicate freight-rail's legislative needs to all politicians.

"The future of America's rail system is a bipartisan issue," said CSX's Ward.

Seeking To Avoid Roadblocks

Freight roads' legislative priority No. 1: derailing re-regulation bills, such as the Railroad Competition Act of 2006 (S. 2921), execs say.

"Re-regulation would be the ultimate irony at a time when infrastructure investments are critically needed to meet growing demand. After a quarter century since deregulation, our industry is beginning to show signs of recovering its cost of capital," said Ward. "It would benefit no one to send the industry back to the Dark Ages of the 1970s, when we had sub-par service, poor safety, dismal financial results and a weak infrastructure."

Taking a step back isn't what freight- and transit-rail execs have in mind. They've spent the better part of this decade expanding and upgrading infrastructure, and changing operational processes to ensure their respective road continues to move forward along the traffic- and revenue-growth path, and next year shouldn't be any different, they say — be it adding track in a congested area, operating longer passenger-train consists or handling more containers at an intermodal terminal.

"We believe we have areas with significant productivity potential," says UP's Young. "We can always improve."

Execs' goal, then? Stay the continuous-improvement course — not only in 2007, but for many years to come.

"Both our ridership and on-time performance are at a record pace, but continuing that — and continuing to meet customer expectations — will be a challenge for us forever," says Metro-North's Cannito.


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