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“What is our most valuable asset? The network!”
“There is a very good time coming up ahead.”
— CN President and CEO JJ Ruest at RailTrends 2019
The RailTrends 2019 theme, if there was one, was no near-term inflection (the current state of the economy and of rail volumes were barely addressed) ... but preparation for that coming inflection (whenever it is) and the corresponding future market share battles is underway.
Also: Precision scheduled railroading (PSR) is not "anti" but rather critical for future growth.
Here's my RailTrends 2019 recap:
1. D.C. matters (again). Of course it always did and does, but as Association of American Railroads CEO Ian Jefferies pointed out, the Surface Transportation Board is becoming “very, very active” once again, starting with the hearings on assessorial charges, etc. (no resolution, but pressure), and continuing to the recent hearings. STB Vice Chairman Patrick Fuchs was almost scarily eloquent in his speech — although perhaps less open than Chairman Ann Begeman was last year during RailTrends 2018 due to open cases before the board this year. This year, Fuchs he noted (in his overall theme of “Seven Important Numbers”) the number 0 — representing the number of rates cases filed over the last three years at the STB. While I argued that maybe because of the amount of business under contract, and thus exempt from the STB’s rather dwindling volume coverage, the board thinks it is due to the complexity and cost of filing, and under-represents what they think might be railroad “market dominance.” (I always think back to Hunter Harrison’s great quote on use of truckers in his 2017 CSX- STB hearing.) Fuchs did give the rails good marks (the number: 77 percent of cars online 2017-present) on PSR progress in 2019. Meanwhile, Jefferies' overall response was stirring, and best summarized by the man himself from his Dec. 2, 2019, op/ed piece in The Hill.
a. Chuck Baker, president of the American Short Line & Regional Railroad Association, noted that despite 45G “fatigue,” the short-line investment tax credit process was alive and well, although (in addition) he is looking into other finding efforts such as “RRIF Express”, etc. (Editor's note: On Dec. 20, 2019, President Trump signed H.R. 1865, which extended the Section 45G short-line tax credit for five years, making it retroactive to 2018 and effective through 2022.)
b. Mike O’Malley, president of the Railway Supply Institute, noted the efforts to prevent Chinese devouring of the market, first by CCRC in the passenger market but implications for the freight-car market (it appears Congress will act in this). He also talked about the harsh “Debarment Law” for suppliers in (mostly passenger work) in the state of New York. The law now is being in legally challenged.
c. Ashley Wieland, president of the National Railroad & Construction and Maintenance Association, discussed her (then upcoming) conference at which I spoke, along with Canadian Pacific CEO Keith Creel; and STB Commissioner Fuchs and his colleague, Commissioner Marty Oberman..
d. Federal Railroad Administrator and old friend Ron Batory discussed rail safety improvements, and noted that the freight-rail industry was at (or ahead of) targets in PTC implementation ... with some worries on the passenger side (“no losers, just laggards,” he said).e. Ottawa counts, too: After the strike at CN, the heat will be felt more by railroads in the United States then in the North, but the politics in Canada are getting almost as fractured as here. Railway Association of Canada President and CEO Marc Brazeau noted the three-way national split: the West/”Wexit,” the East and Quebec (again). Brazeau noted the official reductions in expected GDP; Prime Minister Trudeau is calling for tax cuts as a stimulus and the CEO of Royal Bank of Canada noted that “the next couple of years will be challenging” (emphasis mine). On a positive note, the RAC is working with Ottawa for support for a Canadian version of PTC (see below).
2. Tech fear was ever-present in the Q&A... and, of course, in the presentation of my good friend, the evil (kidding) Doctor Doom, Rod Case, head of the Global Rail Practice at Oliver Wyman. As noted by the estimable Roy Blanchard in his weekly review, Case did offer some good news: PSR will help the North American rails by lowering their cost — and increasing their competitiveness, adding (cheap) capacity, reducing dwell and increasing reliability. But then Rod was Rod — and we need Rod to be Rod. He noted that rails still needed to fully embrace a culture of continuous change (not just continuous cost-cutting). And, scarily, he posited that the coming changes in energy impact through technology (the reduction in costs for truckers, etc) will be even more impactful than the labor advantage counter-attack from the highway (aka AV or “driverless”). Under his current scenario, without changes in rail, a flattish overall carload outlook to 2045 — despite economic and population growth — would mean an overall share drop from 32 percent to 27 percent. His two examples were incredibly interesting: finished vehicles and grain! The former is really the first sector of rail-share capture in the early days of the “Railroad Renaissance” and the latter is, well, the heartbeat of rail. Scary indeed … and my fear is that much of the technology shown to the investment community over the past year is operations-focused. That’s not a bad thing (see Rod-lowering costs, above), but moves like the CN moving the CIO position to report to the COO scare me that the customer-facing technology might get short shrift. Also on the negative side of the ledger, that “pilot project” between short lines, a major paper shipper and a Class I that I was so excited about ~18 months ago is still … stalled.
3. Addressing the tech fear. On the other hand, CN assures me that my fear is misplaced, and every Class I (and the short lines) at RailTrends talked tech. Union Pacific Railroad discussed API, Norfolk Southern Railway talked about its “Trackmobile” project (and speaker EVP John Scheib noted that PTC was moving from “unfunded mandate” to the coming “backbone of the virtual railroad” in RT17), etc. The night before Day One of RT, a dinner with Kansas City Southern Chief Innovation Officer Brian Hancock and CN VP of Financial Planning Janet Drysdale — both in the audience at RT19 — was most reassuring. Both carriers are at the very top of the rail tech game, and both are looking at a new, more modern PTC (called “ETC” in Canada) for the two NAFTA countries not covered by the U.S. law to install their own system-wide digital backbones. We also heard about an imminent carrier-led industry initiative to get all rail equipment tagged and visible, perhaps within half a decade from approval! Finally Wabtec Corp. CEO Rafael Santana was incredibly impressive in describing the efforts to counter the Bad Doctor’s warnings about energy/fuel competitiveness for rails starting with a battery conversion of the existing fleet (being tested on the BNSF next year), as well as discussing their ongoing efforts to make themselves more productive.
4. The Year of the Short Line — deals, deals, deals. At RT19, it was announced that the CP had bought the CMQ, the Fortress-rescued line in the Canadian/U.S. East that the CP itself spun off years back for, it was said, some 10 times what Fortress paid for it. Our traveling circus short-line panel, first started at the 2017 ASLRRA convention, has grown: In addition to Genesee & Wyoming (Inc. President-North America Michael Miller), Watco Cos. LLC (VP & CCO Stefan Loeb), Pan Am Railways (EVP & CCO Michael Bostwick), Anacostia Rail Holdings Co. (VP & CCO Eric Jakubowski), and R. J. Corman Railroad Group (VP of Commercial Development Justin Broyles), we welcomed newcomer RailUSA LLC (President and CFO Barbara Wilson). I think I can make a case, as I have done since we put this band together, that these could well be the smartest folks in the room, even if one of them is my college classmate. The panelists noted that the valuation boom was an issue, not even a double-edged sword for them (excepting, perhaps,. GWR, about to “make it rain”). Anacostia's Jakubowski thinks there will be more supply from the Class Is to come, beyond and including CSX — as lower density segment sales “is the next natural step” after PSR. Among the panel highlights:
• All of the panel short lines are growing, bucking the overall big-rail trend.
• Pan Am is very excited about the CP-CMQ deal.
• The short-line holding companies also think that my (and others’) fear of a coming short line “capex flood” is overblown ... the theory holding that short lines created 15-30 years ago are coming to the end of the former Class I parent’s spending and capital “honeymoon,” with a big true-up, especially in bridges, coming. R. J. Corman noted how efficient with capex; GWR noted how their expensive bridge work “de-risked the business.” Most of their capital work is done by contractors (see NRC).
• Even though all of the Class I execs at RT19 (and everywhere) singing the praises of their short-line partners, those partners are still elements of what one short-line official called the “traditional Class I mind-set," with a focus on optimizing their own systems rather than the network as a whole, with eventual even larger benefits. The continuing disappointment of my beloved “paper industry pilot program” is actually not an example of this, but brings up one aspect: the idea of data being either company-specific (bad) or non-proprietary (good).
• The short lines also think Class Is remain too OR-obsessed, and have perhaps cut too deep. The old Hunter maxim, that through PSR we create a “service that sells itself,” doesn’t actually work in the skeptical, once (?) burned real world.
• It seems silly to end this short-line takeaway on a sour note. On the whole, the panel was very, very optimistic.
5. The Class Is wisely looked beyond the current slump to the future. And they see PSR not (just) as a cost-cutting tool, but primarily as a growth driver. Now, this viewpoint might have been colored by the fact that we had two CEOs who were CMOs, three current CMOs, and a head of strategy as the Class I representatives — but that is also why they were chosen to present at RT19! In chronological order:
• Union Pacific (CMO Kenny Rocker) sees PSR as helping to provide “customer solutions,” and the cost-cutting in the consolidation of its Chicago intermodal footprint as a way of simplifying their offerings and product. Rocker noted that Car Trip Plan Compliance was up 10 percent YTD to the low 70s.
• Norfolk Southern (EVP Strategy John Scheib) represents a company most squeezed by the competing (in appearances, anyway) demands for shareholders and regulators, but noted the railway's enormous operational improvement, without any noticeable regulatory complaint — and without any spike in safety incidents.
• CSX (CMO Mark Wallace) sees more growth potential at this U.S. network than in his two stops in Canada, including the “mothership.” That’s saying something (and remains to be seen). But giving Mark confidence is the railroad's own operational improvements under PSR — notably, its Car Trip Plan Compliance after seeming to plateau, has stair-stepped up to the 85 percent level. The current project is the rebuild of the (“broken”) intermodal franchise.
• CN and President/CEO JJ Ruest were heroes for coming to RT19 during the middle of their strike. Some of the bigger takeaways were their growing belief on the eastern part of its network as a growth driver — the Massena deal with CSX, the development of Quebec City as a big ship/big train hub. JJ interestingly took a slightly different tack on PSR — he noted that it didn’t address the rails’ “growth deficiency,” which at CN they are doing through new market development, funding capacity growth, and off-rail partnerships (short lines) and M&A.
• Canadian Pacific (CMO John Brooks) — John is the author of one of my favorite phrases describing the PSR life-cycle, the post-revolution “pivot to growth,” and he furthered that thesis with his descriptions of what he called the normal Canadian “intermodal rebalancing,” and the flurry of deals CP has been announcing, and the capture of a three-peat of the rail “Triple Crown” (2017-19 industry-leading volume growth, safety record and lowest OR). John continued to emphasize CP's monetization of its real-estate assets (often created by PSR) to “provide room to grow.”
6. Will the rails gain their intermodal mojo in 2020? The Analyst Panel — featuring with Donald Broughton, Larry Gross and myself — focused on intermodal. Don and I debated whether trucking statistics have all of the believability of China’s official economic statistics. Don's views on truck pricing surely carry weight, but ATA tonnage seems to often be divorced from economic reality. Larry noted a few points that bear reflection:
• Within the decline in overall North American intermodal volumes (down 3-4 percent), international is flat. It is, of course, trade-distorted — but that number also trails the +2 percent international TEU import growth, so share is being lost here, too (mostly by port diversion reaccelerating towards the East, a sign of the Chinese portion of the trade war). Eastern ports have much lower rail share, remember.
• The great “look northward” Canadian argument/example (mine, among others), post-PSR growth pivoting, must also take into consideration port diversion — British Columbia ports over U.S. Pacific ports (although I would argue that Canadian rail service played a part in that). Larry stated that international big ship movements fit the big train bias of PSR ... although, recall that Hunter himself was no fan of the intermodal business since the ocean voyage itself was so unpredictable and thus hard to manage on the rail asset side, a trend that will only increase.
• Resin (plastic pellet) growth in the Gulf also distorts the figures, with many containers staying in the ports without the commensurate gains in transloaded 53-foot boxes as happens in SoCal.
• Larry and Don expect “very modest” intermodal upside in 2020.
7. Kansas City Southern CEO Pat Ottensmeyer wins the coveted Progressive Railroading 2019 Innovator of the Year Award and practically the whole KCS team came to celebrate. In his acceptance speech, Pat went over the transitions at KCS under his leadership, with three big wins: 1) Massively improved relations with all of the Class Is (started by his predecessor and mentor, Dave Starling); 2) build out a great team; 3) create a culture of innovation (Pat’s baby, with his CIO Hancock) to which really should be added 4) become politically engaged — Pat was a strong leader throughout the USMCA process. The KCS PSR process has seemingly been the smoothest of all south of the 49th parallel (Pat noted there have been no complaints to the STB) and has been driven by my other favorite phrase of the PSR process, “Service begets growth.” Pat brought out his baseball roots by saying that the transformation of KCS was “in the 8th inning (gulp!) … of a 17 inning game!”
8. The RailTrends Audience. This may seem to serve as an advertisement for RT20 (November 19-20; Client informal dinner 11/18), but what we like most about our RailTrends baby is the quality of the audience — and the fact that most speakers (90 percent of those mentioned above) graced us with their words and their presence for the entire event. In the audience were key suppliers and shippers, as well as owners (shareholders and private equity); and, in addition to the KCS team, top management leaders from NS and CSX attended, as did execs from 10 other short lines, one labor leader, the sole commissioner of the ARTF (the Mexican equivalent of the STB). In addition, three Class I CEOs who weren't RT19 speakers came by after the Nov. 21 AAR Board meeting ended. So there were plenty of opportunities to chat.
9. Dick Kloster and Integrity Rail Partners. Dick announced his brand-new, independent venture: Integrity Rail Partners, a research and advisory virtual firm to which I am honored to serve as an advisor. Stay tuned.
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