By Lee Buchsbaum

Even though the western railroads continuously established and shattered their monthly PRB service records during 2008, with the stark economic downturn, nobody will really remember their feat. In fact, after realizing their shipping goals out of the Power River Basin (PRB), BNSF and Union Pacific (UP) may have lessened the need for critical shipping for a while. PRB coal users across the Midwest and East are almost uniformly reporting large and fully replenished stockpiles going into their winter burns. And, as a result of the economic downturn and reduction in GDP, there will be less electricity produced across the boards until there is an economic upswing. 

In the East, after bellying up to significantly higher coal contracts due to the exploding export market and seeing priority export coal bypass their power plants on the way to tidewater ports, utilities purchasing eastern coal are anticipating better service following the global meltdown. Without the high-priced coal heading overseas, utilities hope CSX and NS remember their bread and butter: steam coal. 

But looming over the entire coal, utility, and railroad industry, however, is the vast sea change occurring in Washington. With a new administration and Congress taking power, new regulations and the potential of re-regulation for the railroads is in the offing. In late 2008 and early 2009, several Congressmen introduced legislation that would re-examine the anti-trust protections enjoyed by the railroads and re-visit some of the effects that successive mergers have had upon now captive shippers. Leadership at the Surface Transportation Board (STB), which regulates the rail industry, is likely to change as well.  Railroads will likely attempt to trade market power for government funding as they weigh in on their own infrastructure needs and attempt to secure some government bailout funds as well. In any case, change is definitely in the air. 

With Increased Capacity in the System, 2009 Should Be a Solid Transport Year
“2009 looks pretty solid for coal transportation,” said Tom Canter, executive director, National Coal Transportation Association. “On the rail side, it’s been proven that we already have sufficient capacities, especially coming out of the Powder River Basin.”  The Joint Line now has “sufficient capacity to go up to 400 to 450 million tons a year. And they could do more, including Montana. For the whole of the Joint Line, we just set a new record in 2008 of 375 million tons shipped. We’re pretty pleased to see that.”

Canter believes that coal shipments out of the west are probably going to be equal to or slightly lower than the year before. “It’s been proven that the railroads can move what’s demanded out of the west, including both Utah and Colorado. Demand will be pretty close to last year’s levels, or just a little bit below. But we’re not going to see that once-predicted 5% increase this year—unless GDP really climbs.”

Moreover, following the record transportation successes of the railroads—especially the western lines—throughout the nation’s generation fleet, there’s “no great deficit of coal stockpiles right now. There may be some here and there, but it’s not like it was in 2005 after the derailments with everybody screaming for coal,” said Canter. 

“Everyone has a significant amount of inventory in their stockpiles. With the economy down, the burn is down. Last year rail deliveries were robust, so people are going to want to drop their inventories,” said Duane Richards, CEO, Western Fuels Association.

Despite the Economic Slowdown, Record Setting Shipments Out of the PRB
For 2008, both UP and BNSF set new coal shipment records on the Joint Line. Overall, UP reported that they had loaded 13,212 trains out of Southern PRB (Note: UP serves the Joint Line south of Gillette; BNSF serves both the Joint Line and several coal branches north of Gillette and in Montana). For UP, this was 332 more loaded trains than the previous record, which was set in 2006. The 204.6 million tons of coal loaded in 2008 was 5% higher than the record set in 2007. “Our investments in the Joint Line and throughout our coal network continue to pay dividends in terms of our coal train velocity and throughput,” said Doug Glass, vice president and general manager, energy, UP.

Throughout 2008, BNSF also set a record: loading 274.7 million tons of coal in the PRB, including Wyoming and Montana mines, breaking the previous record set in 2007 by 5.9 million tons, or 2.2%. Average daily BNSF train loadings in the PRB for 2008 were 51.5 trains per day, more than a train-a-day ahead of the 2007 pace of 50.2 trains per day. “These numbers speak for themselves,” said Patrick Hiatte, general director, media relations, BNSF.

Closing out the year, in December, BNSF loaded a total of 22.9 million tons of coal throughout the PRB, up slightly from the 22.8 million tons loaded in December 2007. Average daily train loadings in the PRB for December 2008 totaled 51 trains per day, up from an average of 50.7 trains per day loaded in December 2007. During the same period, UP moved 1,118 trains out of the SPRB for an average of 36.06 trains per day. UP’s average train-per-day record was set during November 2007 at 38.63 trains per day.

The UP/BNSF Joint Line numbers during December included a combined loading average of 68.35 trains a day, and 24,829 loaded trains for the full year which was a 4.4% increase over 2007.

While the railroads have a lot to be proud of in terms of their PRB origination records, Canter countered that their success is also due, in part, to the producers and utilities which did their part by investing in additional loading and handling capacity. “Not only have the railroads done well with cruise and distributed power and track capacity, the mines have done well because they’ve added additional train landing spots. On the other end, the utilities also deserve a share of recognition because they added additional track and car capacity,” said Canter. Many of the PRB coal users have recently acquired high capacity, aluminum train sets and, due to increased train length, added to their storage space and unloading capacity at their power plants and terminals. Throughout the last few years and especially in 2008, many of the mines also increased their landing spots and trackage to accommodate more trains. “You also have more mines using third party loaders. By having dedicated, on-the-spot crews to move and load the trains while on mine property, the producers continued to increase their overall efficiencies. Bottom line is that everybody’s earned a piece of that pie in improving the system,” said Canter.

“I feel good about how the railroads have, and, are currently operating. It’s quite a rebound from years before, especially out west,” said Mike De Bord, vice president, transportation and combustion services, American Electric Power (AEP). “But their success is due not just because of the capital outlays they have made, but also improvements at the mines and utilities as well.”

Another success has been improvements in car recycle times, especially by the western carriers, so much so that AEP is reviewing their train set investments. “Having an abundance of cars may become a challenge. We may have to find some temporary storage space for them. But with cycle times improved, we won’t need to have as many cars. That’s a welcome challenge on our part,” said De Bord. 

The railroads, shippers, and producers project that if planned expansions continue, total production and rail delivery capacity from the Powder River Basin could eventually reach 500 million annual tons by 2012, if market conditions prevail. Though judged by today’s economic distress, it may be sometime before demand reaches those levels. Even before New Year’s celebrations played out, major coal producers were announcing cut backs, both in the west and east, as markets continued to shrivel. 

Despite Arch Coal having its best financial year yet, during October it decided to idle a dragline and a shovel at its Black Thunder mine. “We are electing to leave tons in the ground to preserve our valuable reserve base for future periods when market conditions are more attractive,” said Greg Schaeffer, vice president, external affairs, Arch Coal western operations. “As we’ve demonstrated in the past, Black Thunder mine can operate very efficiently at a range of volume levels.” Stifel, Nicolaus & Co. analysts calculated a possible 7 million ton drop in production at Black Thunder if the idled equipment remains offline for a full year.

In January, Peabody Energy also announced it would trim its PRB output by 10 million tons in 2009. Combined, these cutbacks are meant to help those companies maintain their individually targeted price points in a slackening market. However, even with these reductions, some coal analysts expect there could be a 20 million ton surplus in the overall U.S. coal market this year if production throughout the sector isn’t reduced to diminishing customer needs, according to a December FBR report. Foundation Coal already had utilities ask to defer shipments, the FBR report said.

Decreasing Exports Will Hopefully Yield Improved Service
Though most of the attention for coal shipments is given to the western lines’ haulage of PRB coal, eastern-originated product is still critical. While CSX and NS were rapidly working to move as much coal as possible for export, many utilities felt they were getting “shrifted” as their lower valued coal was sidetracked for export coal. “The railroads deny that there was any great shortfall, especially in the southeast. But with met coal usage and export going down, I don’t see a capacity problem re-occurring in the east, if there really was one this year,” said Canter. “Also, throughout 2008, CSX loaded up with some new locomotives and increased their car-building program. As did NS. Both have worked hard to increase their capacities through capital improvements and new equipment.”

Last year, the eastern utility industry certainly saw a very tight market with more demand than capacity, both on CSX and NS, said one industry insider, but with less coal going to the coasts “there are some indications that shipments for us are improving.” Early reports suggest that exports are rapidly falling. “We’re seeing Eastern railroads lose 1 million tons in Virginia in December. That just means fewer cars being used for export, fewer crews, etc. It frees up those resources for us or other businesses,” said Canter.

“At the end of the day, shipping coal for domestic utilities is the railroad’s bread and butter. We’re certainly enjoying some improvements in service with the export downturn.  While railroads certainly want to get all the business they can, from our perspective, we want and need strong railroads. We just need to be sure that the capacity is there to feed our power plants and take care of our customers too,” said De Bord. 

The Potential for Rail Re-Regulation, a Mixed Blessing
Another issue that the new administration and Congress will likely take up is railroad regulation and re-regulation issues. Again, this is where the railroads will be in a bargaining position. “They may accept some regulation such as rolling back bottlenecks and having more reciprocal switching agreements in exchange for infrastructure dollars,” said Canter.

Among the Democrats with more power will be Sen. John D. Rockefeller of West Virginia, who takes over as chairman of the Senate Commerce Committee. As senator of a state where coal companies rely heavily on railroads, he has been a vocal critic of the industry’s pricing practices. An aide to Rockefeller said “achieving competitive balance” between the interests of the railroads and their competitors will be high on the senator’s agenda. According to some, Rockefeller, who himself is a descendent of the original railroad barons, relishes a personal vendetta against an industry which has had such a profound impact on the American landscape.

In Congress, two recently-introduced bills will make it easier for customers to challenge railroad rates before the STB and subject the rail industry to renewed antitrust scrutiny. Among the biggest proponents are the estimated one-quarter to one-third of rail customers known as “captive” shippers—those which, either through merger or abandonment only have access to one rail carrier.

While the railroads defend their rate increases as a response to years of losing money, Ed Hamberger, president of the Association of American Railroad (AAR), said railroad profits “are vital at a time when railroads need to spend $148 billion to accommodate an expected boom in rail volumes in decades ahead.” He also cited a recently completed study, the so-called Christensen Report (named after the consulting group commissioned by the federal Surface Transportation Board to investigate growing railroad market power) titled “A Study of Competition in the U.S. Freight Railroad Industry and Analysis of Proposals That Might Enhance Competition” which concluded that rising rail rates in recent years largely have been “the result of declining productivity growth and increased costs rather than the increased exercise of market power.”

Canter also speculates that if the railroads do lobby for Federal funding, and are successful in receiving part of the stimulus funds, they may be horse-trading for funding for new safety equipment in addition to assistance in building-out their capacity.  “They may lobby for ECP brakes, Positive Train Control, and other new technologies that will help them move trains more efficiently and safely, especially if they will be sharing their trackage with new mass transit and increased passenger traffic,” he said. If you run less trains, but make them longer, have them operate safely with less dwell time, that will increase efficiency tremendously. And as the railroads have begun to point out more often, railroads are much more environmentally friendly than trucks.  

Measuring Pricing Power: Cases for and Against Rail Re-Regulation

According to the Wall Street Journal, the relatively strong financial performance of the Class One railroads was ironic in a year when the wounded economy adversely affected other freight haulers, such as truckers and ocean shippers. “During the first nine months of the year, there were some real strong spots with certain commodities like grain, and coal which was strong all year,” said Tom White, director, editorial services, AAR. 2007 was the industry’s best year in history in terms of revenue, and earnings. Earnings for the first three quarters of 2008 were also robust. One can speculate that had the economy not given way so fast, 2008 may have set records. Despite the slowdown which began in the third quarter, U.S. railroad volumes were still the fourth highest on record behind 2005, 2006, and 2007—according to data released in early January by the AAR. Some analysts predict the industry might yet report modest profit gains for the fourth quarter, even though rail freight volumes in November were down 10%, the largest single-month drop since the railroad association began tracking such data in 1997.

For their part, the railroads largely agree with the recent Christensen report. It has four main findings, said Hiatte. “First, both railroads and shippers have benefited from deregulation. There have been dramatic reductions in costs and efficiencies and increases in productivity have yielded lower rates. Second, railroads are not earning adequate revenues based upon their capital outlays. The study did find that Class One railroads have been close, but have fallen short more often than not. Third, some of the proposed revenue changes that are being floated in Congress and on the Federal level have the potential of damaging rail services, and fourth, from our perspective the report’s findings do not support the re-regulation of the rail industry.” 

Hiatte cites the report as stating that, in terms of pricing, there are few instances between 1987 and 2003, and then since 2003, where prices and marginal costs have increased at a marginal rate. “Railroads have high fixed costs,” given their common carrier status, overall railroads don’t produce enough revenues to cover their costs. Therefore, “differential pricing is necessary for revenue adequacy,” said Hiatte. “From a coal shipment perspective, the railroads are not favoring any particularly business over another when it comes to service improvements. 

“From our viewpoint, the key findings of the report are that revenue to variable costs is not a reliable indicator of market dominant behavior, other transport modes, barging for example, put more pressure on rail rates than rail-to-rail competition. There is little room to provide significant rate relief to certain shippers without threatening the over railroad industry’s viability or forcing higher rates for other shippers,” said Hiatte.

Buchsbaum is a Denver-based freelance writer and photographer specializing in industrial subjects. He can be reached through his Web site at www.lmbphotography.com or by phone at 303-746-8172.