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December 2017



Rail News: Rail Industry Trends

RailTrends 2017 recap — by Tony Hatch



Tony Hatch is an independent transportation analyst and consultant, and a program consultant for Progressive Railroading’s RailTrends® conference.

“It is not even the beginning of the end. But it is, perhaps, the end of the beginning…”
— Winston Churchill on railroads facing up to IT challenges
(or maybe he said it after the second 1942 battle of El Alamein)
 

Greetings and thanks to Progressive Railroading/TradePress Media Group Inc., the 20 speakers, our sponsors — and the record 200+ attendees — for making RailTrends® 2017 (RT17) such a success. The event was held Nov. 30-Dec. 1 at the Marriott Marquis Hotel in New York City.
 
Perhaps more than any of the previous 12 conferences, this year’s event confronted the challenges facing the North American freight rail industry — and maybe, just maybe, began to lay the groundwork for a broader effort to combat cynicism and embrace new technologies. It was also time to bid adieu to four speakers and friends: Railway Association of Canada (RAC) President and CEO Michael Bourque, who was to begin a new journey as CEO of the Canadian Real Estate Association right after RailTrends ended; and Railway Supply Institute President Tom Simpson, Florida East Coast Railway President and CEO Jim Hertwig and Amtrak Co-CEO Wick Moorman, who all will retire in the coming weeks.

One message we heard (and heard) was that the economy is humming — and that in this environment, the rails can show growth over the near and intermediate term despite facing slightly tougher comparisons, the ongoing secular issues in coal and a mounting technology threat. Remember, after all that spending helping to generate improved returns over the course of this century (i.e., the “Railroad Renaissance”), the rails are in great financial and operating condition. They're trim ... as in fighting trim.

But we cannot underestimate the changes happening in logistics (even if some overestimate them). Railroads’ ability to take on the coming challenges requires the first step of acknowledging those challenges. That is happening, after a brief period of ostrich-impersonating. But that is just the first step. Another would be to reduce the impact of the “cult of the OR” and invest in capacity and technology. As Oliver Wyman Global Rail Practice Head Rod Case put it in his presentation titled "The Impact of Energy and Digital Transformation on Rail," North American freight railroads are facing a “retrench or innovate" choice.

I understand the skepticism regarding the "I" word — after all, railroads generally aren't thought of as leaders in innovation, rightly or wrongly. As if to prove that point, the Wall Street Journal's “Management Top 250” published on Dec. 6 listed only one railroad out of 250 American companies — CSX at #200. (Caveat: it is a U.S.-only list and is strangely nostalgic, with IBM at #5 and GE at #20. The top transport company was UPS at #33.)
 
So: What follows are the challenges for rail — and railroads' responses to same — as presented and discussed at RT17.


The Challenges

1. Technology as threat. RT17 Platinum Sponsor Oliver Wyman, in the person of Mr. Case (“Dr. Doom”), once again highlighted coming IT-inspired paradigm shifts in freight transportation, and not “just” electronic and driverless trucking (which in the Oliver Wyman base case at present could lead to a loss of some 18 percent of the current intermodal (IM) base (!!). Rod noted that rail operations were continuing to move against the grain, or contra-trend: bigger trains versus smaller shipments; standing pat on locomotive emissions (noting that with acquisitions of new locos ground to a halt, just 12 percent of the U.S. fleet is at Tier 4) versus growing use of electronic vehicles and other means of emissions efficiencies.

2. Service degradation as impediment. It is no secret that 2017 wasn't a banner year for rail service — and not just at CSX (and, not just because of the hurricanes). Metrics declined all year, with velocity hindered a tad by the relative growth of coal volumes, to be sure, as well as the weather incidents and the CSX issues associated with installing precision scheduled railroading (PSR) — but still. That must be changed, and in a variety of ways, it was specifically addressed at RT17 — directly by CSX Vice President-Industrial Products Michael Rutherford, and CN Executive Vice President and Chief Marketing Officer J.J. Ruest; and culturally by Canadian Pacific Senior Vice President and CMO John Brooks.

3.  The U.S. government (as unreliable interferer).

a. NAFTA and trade. National Railroad Construction and Maintenance Association (NRC) President Chuck Baker noted that the issue of trade wasn’t getting sufficient notoriety (not so in these quarters), while the RAC’s Bourque noted that Canada was seeking to diversify its trading partners (as is Mexico). CN's Ruest stated that he didn’t think that import TEUs into British Columbia bound for the U.S. Midwest would be impacted greatly (they are bonded, so they don’t legally pass into Canada), but it isn’t a rational world these days. Association of American Railroads (AAR) President and CEO Ed Hamberger noted that his oft-quoted stat that 42 percent of AAR carloads are tied to trade (already a huge percentage) and it reflects U.S. Class totals only — so the real impact (counting Mexican and Canadian originated carloads) is much larger, and the impact on anticipated growth components of rail traffic even greater still.

b. Tax and investment. While the proposed major corporate tax cut — the “Tax Cuts and Jobs Act” legislation — would/will be a boon to U.S. Class I carriers as high cash-tax payers, the focus on big picture “reform” has excluded the Section 45G short-line tax credit. This lobbying setback comes despite the short-line tax credit being the most supported effort in D.C. All is not lost, but as of press time, it looked as if it would have to be saved in yet another very-end-of-the-year play.  I had thought that tax reform might obviate the need for 45G, but I was flat wrong: American Short Line and Regional Railroad Association (ASLRRA) President Linda Bauer Darr said that for her constituency of 603 short lines, “Tax reform doesn’t move the dial compared to 45G” because most or at least many short lines cannot wouldn't be able to take advantage of the corporate tax cut.

c. Regulation. As in: catching up to technological change on the rail side, say, in predictive maintenance (as opposed to leading the changes on the highway!) and requiring compliance with costly and outdated rules, which was espoused by the AAR, ASLRRA, GE and the entire focus of the presentation delivered by Norfolk Southern Corp. Senior Vice President Law and Corporate Relations John Scheib: "Technology and Law: The Future of Railroading."


The Responses
 
1. Mr. Robot. Technology was specifically addressed from a positive perspective Scheib (a rising star at NS), GE Transportation Chief Commercial Officer, Digital Solutions Peter Thomas and ASLRRA's Darr. Scheib called PTC, to be fully installed next year, the “backbone of rail technology in the future” and joined CN in leading the rails away from the defensive posture on the unfunded mandate to seeing PTC as, perhaps, the tech savior of the industry. This is not an insignificant symbolic shift. Meanwhile, GE's Thomas noted that technology enabling improvements in visibility, collaboration, locomotive-based performance monitoring and dynamic scheduling is available now or will be soon (as in one to three years out).

2. Rail service! Service improvement was an underlying theme (the need for/the pace of), directly or indirectly. Even Mr. Case admitted that there was an effective model out there — CN was providing an example of how to actually grow carload business. As we all know by now, CN combined the productivity elements of PSR with marketing focus and (usually) good service.

Of course, CSX has been in the spotlight's harsh glare on that subject. CSX's Rutherford passionately emphasized that the Class I's service problems were increasingly in the rear-view mirror and that those problems arose while learning to execute the model — not the product of the PSR model itself. From an optical viewpoint, proving that point will provide some cover for the entire industry. (As CSX looks to restructure its intermodal product and align it closer to the mixed-freight segment, JB Hunt issued a delay warning on its website of 24-72 hours on CSX destinations) We look forward to the delayed CSX Investor Conference (perhaps around March 1, 2018?) to hear from Michael again as well as new Chief Operating Officer Jim Foote — and from Hunter Harrison himself. In the meantime, we must congratulate CSX and Michael for consistently showing up at shipper and investor meetings as well as RT17, rather than hiding until the numbers improve.

3. Go long! With our CMO focus, we discussed playing offense (service innovation) as well, with Union Pacific Railroad EVP and CMO Beth Whited acknowledging some “rising tide” market-based benefits (the petrochemical boom in the Gulf), while also emphasizing UP’s secular effort, such as in perishables (“Cold Connect,” formerly RailEx with full UP support) and in Logistics (LOUP – hmmm). UP recently restructured Marketing into four “teams” (Beth’s words): Ag, Energy, Industrial and Premium (autos and IM — which are also conjoined at BNSF Railway and at Norfolk Southern — but not at CSX).
 
4. Changed playbook? CP’s Brooks discussed the new marketing organization at his railway and what he characterized as an end to a period of inward focus (essentially a strategic inflection driven by “cultural change”). He also talked about market extension efforts with Genesee & Wyoming (GWR), and with CSX in Detroit (a marketing alliance that had been dismissed by the prior leadership, interestingly) to rebalance their portfolio and their share of the Canadian market — of course the regarding the latter, not without a fight; however, in the near term a window of opportunity may be briefly opening.

5. The combined arms approach. CN’s Ruest presented the Class I's case for the combined arms approach to growing faster than the North American economy and the North American freight rail industry. This has come at a price as CN has outgrown its (and its port partners’) capacity, resulting in service issues at the heretofore untouchable industry leader. But, as yet another theme emerging from the conference suggests, CN has acknowledged the issue and taken steps to address it, spending on crews (hiring and training), locomotives and the network with an aim to be back on track, so to speak, by second half of 2018.

6. Stick to your guns. Kansas City Southern EVP and COO Jeffrey Songer presented a great case for the Class I's capex-inspired operating improvements and the case for NAFTA-rail trade opportunities in refined products after the Pemex reforms (including that neat joint venture with Watco Cos.), Gulf Coast plastics (especially the massive SASOL expansion) and the old standbys, autos and intermodal. Songer spoke music to my ears by saying that KCS was still in the first inning — all of this assumes good umping, of course. As for NAFTA's near-term fate: As I mentioned during the analysts' panel with Donald Broughton (principal and managing partner of Broughton Capital), anything that hurts trade would be a big blow to the economy, and to the transportation industry. So: Any attempt to put up those walls, literally and figuratively, would be a problem.

7. Small ball. Short lines were a major RT17 theme and not just because GWR Chairman, President and CEO Jack Hellmann received our 2017 Railroad Innovator Award (and at G&W's recent investor conference, highlighted the company's industrial development process) ... or because Watco Cos. LLC CEO Rick Webb highlighted his company’s entrepreneur-on-steroids outlook (rails, of course, but terminals, storage/SIT capacity, ports, repair facilities, joint ventures — with KCS into Mexico, notably). Class I presenters also hailed their short-line partners. CP's Brooks talked about small roads in a very positive light as market “extenders” (note CP's GWR deal into the Ohio Valley). Hellmann revealed that GWR had just received its recent J.D. Power and Associates' customer satisfaction survey results: The company almost achieved its goal of 8.0 (out of 10) by scoring 7.96 (we’ll round up). Interestingly, the North American freight rail industry as a whole received a 7.0. Watco's Webb, meanwhile, said his company reached a 79 percent customer retention rate, short of the goal of 85 percent, but trending up and Watco's best in a decade.

8. Mr. Referee? The AAR’s Hamberger asked at RT17 for a more up-to-date, progressive view from the U.S. Department of Transportation, and a couple days later, he and the rail industry got a big call overturned: On Dec. 4, the USDOT reversed itself on the ECP (electronically controlled pneumatic brakes) rulemaking, which would have been a very large and totally unnecessary burden.

9. Amtrak’s improvements will help the entire rail industry. The much-feared “summer of hell” in New York City at Penn Station turned into a “summer of heck,” thankfully. Wick Moorman's valedictory address showed a sense of cultural change as Amtrak is applying a Class I focus on safety, airline-like marketing thoughts (thanks to new CEO Richard Anderson), renewed vigor, and more reliable government spending support (thanks to the FAST Act) than we have seen in years.

Finally, the estimable Dick Kloster of AllTranstek LLC and FTR delivered his annual Rail Car Outlook (not too bullish, of course) — here's his forecast, complete with context.

Again: Thanks to everybody who made RailTrends 2017 the informative and invigorating event that it was. See you next year.   

 



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