Railroading in an Era of Tight Capacity: Where Is The Equilibrium

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Railroading in an Era of Tight CapacityWhere
Is The Equilibrium?

• Kevin Neels
• Charles River Associates
• January 10, 2005

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The acute phase of todays capacity crisis will
undoubtedly ease, over the long term as some kind
of equilibrium emerges.

• Is the current capacity shortage a passing
  phenomenon, or a manifestation of a longer term
  trend?
• What are the long term trends that are shaping
  the balance between demand and supply?
• How will the system respond?

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We have learned some relevant lessons from the
Sustainable Mobility Study conducted on behalf of
the World Business Council.

• Over the long term, social, environmental and
  economic considerations will constrain our
  ability to expand infrastructure.
• Demand for transportation will tend to grow more
  rapidly than supply
• Capacity constraints will tend to tighten over
  the long term
• Competition between passenger and freight
  transportation for the use of scare
  infrastructure will become more intense

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While overall demand levels may fluctuate, the
trend will be upward.
ILLUSTRATIVE
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Growth in supply will lag growth in demand, and
capacity utilization will increase over time.
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When demand grows more rapidly than supply,
prices will rise.
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When transportation systems run at near full
capacity, performance becomes more fragile.

• The system becomes more subject to catastrophic
  failure caused by natural disasters, acts of
  terrorism, derailments, or surges in traffic.
• Few alternate routes or facilities available to
  provide substitute service
• Effects of breakdowns and backups proliferate
  farther and more rapidly
• Scarcity of slack slows the process of recovering
  from disruptions

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These capacity challenges will prompt multiple
responses.

• Create more capacity within the existing system
• Press underutilized alternative capacity into
  service
• Greater differentiation by class of service
• Use price to ration demand
• Relocate economic activity
• Selectively expand capacity

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Railroad managers will continue to exploit new
methods and technology.

• In a capacity constrained world economics will
  push carriers to smoother, more efficient
  operations.
• The Rumsfeld solution lighter, faster, smarter
• Improved decision support tools to facilitate
  tighter and more efficient management
• Service design innovations to simplify and speed
  operations
• Competing railroads share parallel lines to
  enable bi-directional running
• Intelligent Transportation System, and the Holy
  Grail of PTC
• All of these make good sense. All are happening
  now. None will solve the problem. At best, they
  slow progress towards a capacity constrained
  world.

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Railroads will continue to press underutilized
(or unutilized) alternative capacity into service.

• When primary facilities reach capacity, secondary
  alternatives tend to get a second look.
• NS re-opened Enola yard in Harrisburg CS
  re-opened Stanley yard in Toledo
• Recent agreements diverted NS and CN overhead
  trains onto CPs relatively light density DH
• The UPS bullet train is back on the highway
• Light density shortlines are enjoying an increase
  of overhead traffic as the Class Is look for
  by-pass routes and short cuts
• Future trends
• Increase car utilization through creative
  backhaul marketing and management
• More generic car designs

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In a similar fashion, the maritime industry will
increasingly divert flows around congested ports.

• Secondary ports will become more important
  Baltimore, Prince Rupent, Port Manatee, Mexican
  ports, etc.
• Short Sea Shipping
• Extended hour operations for ports
• Development of inland ports
• Railroad intermodal shippingpatterns will shift.

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Over this past year railroads have actively used
price to ration demand, a harbinger of what is to
come.

• In a world of scarce capacity, priority goes to
  shippers willing to pay.
• Less discounting
• More public pricing
• More dynamic pricing by season, day-of-week, etc.
• More emphasis on reservations and forward selling
• CN recently announced expanded reservation system
  for all car types

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We will see increasing differentiation by class
of service

• High prices for fast, time-definite service
• (Relative) discounts for those willing to wait
• These trends will facilitate a restructuring of
  current business models
• Use of discounts to steer traffic toward less
  fully utilized times, routes, terminals
• Growing emphasis on differentiation by class of
  service
• Decreasing emphasis on differentiation by modes
• Growing emphasis on assembly of diverse service
  packages to meet specific shipper needs

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For the railroad industry, a world of tight
capacity will require a sea-change in thinking,
pricing and management.

• The North American railroad industry has operated
  in an environment of abundant capacity since its
  birth.
• Since the passage of the Staggers Act the
  industry has achieved impressive productivity
  gains, and shed an enormous amount of excess
  capacity.
• The major focus of service and pricing was to cut
  cost and divert truck, generating incremental
  revenue from otherwise unneeded capacity.

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In a world of constrained capacity, pricing
decisions will focus on different issues.

• Maximization of yield, rather than simply
  maximization of traffic.
• Recognizing bottlenecks and feeding that
  knowledge all the way through to the sales force.
• Understanding your own capacity constraints, and
  those of your competitors.
• Locking in baseload volumes.

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Chronic capacity shortages will change the way in
which siting and sourcing decisions are made

• Cost, availability and reliability of
  transportation will become much more important
  relative to labor costs
• Changes in transportation economics will slow or
  possible even reverse the trend toward global
  outsourcing
• We may discover that it simply doesnt make sense
  to move all of the worlds manufacturing to China

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The industry will selectively expand capacity if
the economics are right.

• Examples
• Major capacity improvements following BNSF, UPSP,
  CST/NS Conrail mergers.
• DME is proposing a third route from the Powder
  River Basin.
• UP and BNSF are double-tracking routes from
  Southern California to Chicago.
• The barriers to expansion are daunting.
• Although improved, railroad industry returns
  still fall short of cost of capital.
• Rail infrastructure investments are
  extraordinarily long-lived, making them highly
  risky.
• Public private partnerships will become more
  prevalent.

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Railroad investors also face considerable
regulatory risk.

• High profits are needed to attract investment.
• High profits also generate protests from
  shippers.
• The political and regulatory system provides
  multiple avenues through which shippers seek
  redress.

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A key and as yet unanswered question will we
have the patience to allow market forces to work?

• The industry has the potential to be paralyzed by
  a tragedy of the commons
• Many users of the system are concerned about
  keeping their individual costs down few are
  concerned about the viability of the network as a
  whole.