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April 2015

Rail News: Rail Industry Trends

Grupo Mexico rail unit IPO would net $1.2 billion, Ferromex officials say

— by Pat Foran, editor

Next month, Grupo Mexico S.A.B. de C.V. plans to hold an initial public offering (IPO) of 15 percent of its Infraestructura y Transportes Mexico S.A. de C.V. (ITM) division. ITM comprises Ferrocarril Mexicano S.A. de C.V. (Ferromex), Ferrosur S.A. de C.V., and logistics firm Intermodal Mexico.

Grupo Mexico officials plan to use the IPO proceeds — an expected $1.2 billion — to prepare for the rail traffic growth they've always believed would come. Given that Ferromex is ITM's key business unit, and that it serves the Mexico City-Guadalajara-Monterrey economic triangle, four ports on the Pacific Ocean and two on the Gulf of Mexico, the 5,028-mile railroad likely will be the chief beneficiary.

"We'll be investing back in the railroad," says Ferromex Chief Executive Officer Rogelio Velez. "And we will be very aggressive in our investments."

It'll mean buying more locomotives and acquiring new freight cars. It'll mean boosting infrastructure capacity in a big way — in part, to help pave the way for more automotive and intermodal business. But for the foreseeable future, strategists at Ferromex and Ferrosur expect growth in all of their railroad's business segments.

When Mexico privatized its freight railroads in 1997, the railroads handled only 18 percent of the country's freight traffic. Now, they handle 27 percent.

"We know the railroads should handle over 30 percent of the freight," Velez says, noting that U.S. freight railroads carry more than 40 percent. "We still have a lot of opportunity for railroad business in Mexico."

That's one reason Grupo Mexico officials expect the IPO to generate investor interest. ITM's recent financial performance should help, as well.

In 2014, ITM recorded sales of just under $2 billion, a 7.5 percent increase compared with the unit's 2013 total. Carload traffic was up, albeit slightly; Ferromex, for example, hauled 790,546 carloads in 2014, a 1.6 percent increase, according to Association of American Railroads' data.

Velez attributed the slow growth to what he termed a "depressed" economy in Mexico for much of 2014. But a "strong" U.S. economy helped drive crossborder traffic, which was up 12.3 percent year over year, he says.

"It was basically because of automotive," Velez says.

During the past year, three new auto plants opened: for Mazda in Salamanca, Nissan in Aguascalientes and Honda in Celaya. Ferromex serves all three. Ferromex-Ferrosur roads hauled a record 1.75 million vehicles in 2014.

The industrial products segment also was a traffic driver. Ferromex-Ferrosur hauled 129,160 carloads, a 9 percent increase compared with the same 2013 period. The segment includes beer.

"Because the U.S. economy has been good, there's been a lot of Corona beer sold," Velez says.

New rail-car production, too, helped boost carload totals last year.

"There are six manufacturing plants in Mexico, and they are building rail cars at a 100 percent rate," Velez says. "We're moving a lot of rail cars to the U.S."

Intermodal volumes also continue to increase. In 2014, Ferromex container traffic was up 20 percent year over year, Velez says. One reason: In late 2013, Union Pacific Railroad introduced an intermodal service between Chicago and Monterrey, Mexico, providing shippers another option for moving goods across the U.S. border six days a week. UP owns 26 percent of Ferromex; Grupo Mexico owns the rest.

UP trains carrying containers interchange in Eagle Pass, Texas, with Ferromex, which provides service between the border and Monterrey.

For the year, Ferromex posted an 8.2 percent increase in intermodal revenue, down from the more typical double-digit increases.

"It was not as good as we expected, but it was still growth," Velez says.

Preparing the railroad to handle that growth has been a priority for the past several years, and Ferromex officials originally set aside $415 million for capital expenditures in 2014. But "regulatory uncertainty" prompted the railroad to tamp down spending to $289 million, Velez says.

"Last year, the Mexican Congress had sent a bill to the Senate in which there were some things that were very dangerous — it called for forcing the railroads to open up our networks to third parties," says Velez, noting that Ferromex and Kansas City Southern de Mexico S.A. de C.V. both hold concessions granting each of them line exclusivity until 2027. "Basically, any third party — a guy or company that bought two locomotives and cars — could ask for permission to use the lines. Open access would make it very difficult for us to manage. Our efficiency would have gone down."

Ultimately, the Mexican Senate reworked the bill. When Ferromex officials read the revised law, which was "published," as Velez puts it, in January, they were relieved.

"It wasn't that bad," he says. "We think it might even have improved the concession language of the original law."

It certainly made it easier for Ferromex officials to return to the kind of capex planning they've been accustomed to. The 2015 plan is to invest $411 million, enabling Ferromex and Ferrosur to complete the 34-locomotive order placed with Electro-Motive Diesel Inc. last summer. Ferromex will receive 19 SD70ACe units and the 1,124-mile Ferrosur, 15 locomotives.

To keep pace with surging automotive traffic, Ferromex also will acquire 550 tri-level cars from Trinity Industries Inc., Velez says.

Meanwhile, Ferromex also has set aside $122.1 million for rail replacement, tunnel clearance and double-track projects (see Progressive Railroading's 2015 MOW Spending Report).

And there will be a lot more money set aside for capex in the next few years if the planned IPO nets the return Grupo Mexico execs believe it will. Grupo Bursatil Mexicano and Credit Suisse Group will serve as the underwriters.

"We hope to be doing [the IPO] before May 15," Velez says, adding that the pre-offering investor "road show" could bring Grupo Mexico officials to financial centers in North America and, possibly, Europe. "We're expecting it to bring in around $1.2 billion."

Under the five-year plan, the details for which were still being hammered out as of March 31, Ferromex and Ferrosur would acquire 75 locomotives and, as of press time, an undetermined number of rail cars.

"We'll probably spend around $15 million per year on cars — again, it's automotive that's driving it," Velez says. "An Audi plant is coming, Kia is coming and BMW will be coming in 2017, so the plants continue to be built in Mexico. We currently only own about 500 cars in our fleet of almost 4,000, so the rail cars we're investing in, we'll own."

Ferromex and Ferrosur also will use the IPO proceeds to work "very aggressively on new capacity," Velez says. It'll mean developing new and expanded rail yards, planning a series of double-track projects and completing tunnel clearance projects to accommodate more automotive and doublestack trains.

"As it has been with all of our investments the past few years, it's about growth," says Velez, who joined Ferromex in 2000 and was named CEO in 2008. "It's what we've always talked about."



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