The Creel Deal
Railroad Weekly Mar. 20 2023
courtesy: James Wheeler
Inside This Issue
· The Creel Deal: At Long Last, STB Says Yes to CP-KCS
· The Decision’s Conditions: Most Importantly, Seven Years of Oversight
· Railroad Stock Slumps but CP Stock Jumps: Investors Applaud STB Ruling
· Economic Clouds Darken: Will the Fed Take Its Foot off the Brakes?
· Strike Threat: CN Faces a Potential Work Stoppage This Week
· With Better Ops, Volume Pops: Fluidity a Big Driver of This Year’s Carload Growth
· Car Problems: CSX Expresses Disappointment with Pace of Auto Growth
· Another Round? Will CP-KCS Be the Last of the Class I Mergers?
“The Board concludes that this transaction should improve rather than degrade the performance of the industry. It is for these reasons that the Board approves the merger.”
-The Surface Transportation Board
· March 21st, 2021. On that day two years ago, Canadian Pacific agreed to buy Kansas City Southern, promising shippers “dramatically expanded market reach.” Last week—March 14th, 2023—the merger cleared its last hurdle. The Surface Transportation Board, in a four-to-one vote, agreed to approve the transaction. During its two-year journey, CP encountered a lifetime of corporate drama, including a back-and-forth bidding war with archrival Canadian National. During the STB’s exhaustive review of the merger, thousands of interested parties—customers, unions, politicians, other railroads, etc.—expressed their opinions, some at a live hearing before the Board last fall. Ultimately, CP’s arguments held sway, convincing the majority of Board members that a combined CP-KCS would indeed benefit shippers, workers, Amtrak, and even public safety and the environment by providing more alternatives to trucking. The Board did, however, impose some conditions, including protections against stifling competition at key gateway points like Laredo (on the U.S.-Mexico border). CP-KCS will also be subject to seven years of STB oversight and data-reporting requirements (more details below).
· The CP/KCS news momentarily moved the hot spotlight away from Norfolk Southern. It’s of course been in the news for unfortunate reasons linked to its derailment in East Palestine. The state of Ohio is now suing NS, in a 58-count federal lawsuit seeking to hold it financially responsible for the accident. State Attorney General Dave Yost, accused the railroad of “recklessly endangering” both the health of area residents and Ohio’s natural resources.” NS shareholders, meanwhile, are suing as well. Company executives certainly acknowledge some level of responsibility. “But in the meantime,” said its CFO at a JPMorgan event in New York last week, “we got a business to run, and we’re running that business, and we’re really excited about the future.”
· As you’ll read about in more detail below, the volume situation for North America’s Class I railroads remains mixed. Intermodal markets, especially international, are unambiguously weak. It’s not a great story for chemicals either. CSX, for one, was expecting stronger growth of autos. On the other hand, freight categories like construction aggregates are growing nicely. And importantly, railroads—notably CSX and NS—are growing their bulk shipments simply by operating much more fluidly than they were this time last year. That’s lifting grain and coal, most importantly. Coal demand, however, is undoubtedly losing some steam as utilities become sufficiently stocked and natural gas prices drop. A final note about y/y carload growth: Annual comparisons will get easier as the year goes on.
· The STB merger ruling, fallout from the East Palestine affair, the JPMorgan investor event, evolving trends in demand… as if there wasn’t enough on the minds of railroad executives, they’re now confronting a decidedly more pessimistic view about the economy. The mood turned sour as distress raced through the U.S. banking system, starting with the collapse of Silicon Valley Bank. Washington and Wall Street stepped in with measures to calm the situation, enough so to lift stock markets. But financial markets overall remain uneasy. Optimists point to major differences between now and 2008, when the housing market was in much worse shape and sloppy lending practices much more pervasive. Pessimists see the instability spreading, prompting a flight to safe assets like government bonds at the expense of productive lending to homes and businesses. Sure enough, demand for U.S. Treasury bonds has been spiking.
· The gloom thickened with another hot consumer inflation report, and a less-than-stellar retail sales report (see chart below). On the other hand, a report on producer inflation showed prices are now falling, notably in the transportation and warehousing sector. In addition, oil prices are down 16% from just two weeks ago. Surely, the latest banking panic will have some deflationary impact as well.
· How would you like to be the Fed right now? Do events of the past two weeks alleviate your inflation fears? Or is the job market still hot enough to warrant another aggressive rate hike? For every expert on CNBC screaming that rates need to rise higher, there’s another screaming just the opposite. But it’s the Fed’s decision. The big question before the SVB affair was whether Jay Powell and his colleagues would hike by 25 or 50 basis points. Now there’s a good chance it might follow the Bank of Canada’s lead and take a pause, not hiking at all. The world will be watching on Wednesday.
· A few other notes before moving on: Stocks as mentioned rose last week, led by tech stocks that tend to benefit from the prospect of lower interest rates—which now appear more likely based on signals from the bond market (investors are betting that the Fed won’t be hiking for long). In any case, railroad stocks were not invited to the party—with one exception. While UP, CSX, NS, and CN stock declined, CP’s stock increased 6%. Thank you, STB.
· At that big JPMorgan conference in New York City last week, it wasn’t just railroads participating. There were airlines too (airline fans click here), and one of them had something to say about railroads. Air Canada, once a government-controlled company like Canadian National, said it’s currently using rail tankers to move jet fuel from the western prairies to Toronto airport. The reason? A recent spike in New York Harbor-priced fuel, owing to capacity issues with northeastern refineries. Jet fuel from western Canada is cheaper. But “it’s not an endless supply.”
· Kentucky’s Ramaco Resources, which mines metallurgical coal for steelmaking, shared some railroad thoughts during its latest earnings call—the company depends heavily on both CSX and Norfolk Southern for its transportation needs. It said the “litany of rail and logistic issues” hurt profits last quarter, comparing its experience to Murphy’s Law: “We always seem to get rail delays just at a quarter’s end.” However, “we are now hopeful that in ’23, logistics will return to a more normalized cadence based on what we are hearing from our railroad partners.” It went on to praise both eastern railroads for their recent operational performance. At its Elk Creek mine in West Virginia, Ramaco said it’s working with CSX to add additional trains late in the second quarter. It separately said metallurgical coal pricing remains strong, way above the seven-year average. Steel demand is solid too, noting that as of March 7th, “U.S. hot rolled steel prices have risen over 75% from their recent lows, largely on the back of encouraging economic activity. Lead times are now at eight weeks, which is the highest level since 3Q,21.”
· FedEx, in an earnings call last week, said customers want to diversify their supply chains, primarily with Mexico in mind. But as the company’s chief customer officer said: “I do want to be clear that it is a future conversation. From a magnitude perspective, we do not see any short-term large shifts that would change the position of China being the world’s manufacturer.” Expressing a similar sentiment, Los Angeles port director Gene Seroka said in a monthly media briefing last week that China still accounted for 57% of all imported containers last year. “The bottom line from where I sit: I don’t expect nearshoring to have a significant impact on global trade, for the Port of Los Angeles in the near-term.”
The STB’s Decision
· Four of the STB’s five members, including chairman Marty Oberman, voted to approve the first large railroad merger in roughly a quarter century. The combined CP-KCS railroad, they concluded, will still be the smallest of the Class Is. It will open faster single-line service options spanning the U.S., Canada, and Mexico. It will lead to rail traffic growth and shift some 64,000 trucks off the road. It will add an estimated 800 new union jobs. Amtrak will benefit. And the new railroad will have more muscle to compete with other Class Is, all of them still considerably larger.
· The Board did however—while dismissing many of the specific remedy requests made by rival railroads—impose stringent oversight and reporting conditions to address many of the concerns raised throughout the review process. CP-KCS will be subject to STB oversight for seven years, a long period relative to past railroad merger rulings. This will allow the Board to monitor and address any concerns, regarding for example disruptions to commuter rail service in Chicago or transborder freight traffic crossing the border at Laredo. Importantly, CP-KCS must keep its interline gateways (connection points between its system and those of other railroads) open on commercially reasonable terms. If it wants to raise interline rates at critical gateways above a certain threshold, it will have to justify that in writing. If there’s a dispute with customers about what’s “commercially reasonable,” the STB could step in, or the matter would go to arbitration. There are a few other detailed conditions as well, and CP will be held to all its commitments, including one to cooperate with UP and BNSF to ensure adequate capacity along the Texas Gulf Coast route.
· The one dissenting member was Robert Primus, who also disagreed with the Board’s earlier decision to review the transaction using older and less onerous rules. His written dissent voiced skepticism about CP’s promises and invoked concerns about excessive railroad market concentration, the absence of a service assurance plan (something that would have been required under the new merger rules), and likely harm to affected communities.
· At a press conference announcing the big decision, Chairman Oberman specified examples of improved traffic flows resulting from the merger, including the movement of Midwestern grain to the Gulf Coast and Mexico, energy products from Alberta to the Gulf Coast, intermodal goods between Dallas and Chicago, intermodal goods between the Port of Lazaro Cardenas and North America’s Midwest (Chicago, Toronto, Montreal, and Eastern Canada) and finished vehicles and automotive parts crossing the U.S.-Mexico border. A more specific example: Grain growers within reach of elevators served by CP in the Upper Midwest will now have a direct alternative to BNSF and UP when shipping to markets in the South-Central States, Texas, and Mexico. Oberman said the two railroads have almost no track redundancies or overlapping routes, a “central fact” in the Board’s decision. He praised CP for its entrepreneurial energy, citing the joint venture it struck with Maersk to boost container volumes through Vancouver. He mentioned the CP’s acquisition of the CMQ Railroad as well, giving it direct access to the Port of Saint John. U.S. railroads, in his opinion, have not behaved so entrepreneurially.
· Oberman, furthermore, praised CP and KCS’s industry-leading safety records. Commenting indirectly about what happened with NS in East Palestine, he said the public is vastly better off if hazardous materials—many of which are essential to the economy—move by train rather than truck. No less than 94% of all hazmat safety incidents in the U.S. involve trucks.
· Would the STB consider any other Class I mergers? While avoiding hypotheticals, Oberman suggested CP-KCS was unique because of its size, and that any other combination of Class Is would be reviewed under the new and stricter merger rules. Some industry observers would like to see an east-west transcon railroad in the U.S., creating efficiencies that would especially benefit intermodal shippers. A transcon railroad, proponents say, would lead to more freight moving by rail versus truck—no more lengthy and costly switching needed mid-continent. Many shippers, however, don’t want any combined railroads with more pricing power than they already have.
· If anyone has any last-ditch attempts to change the Board’s mind, they must do so by April 4th. Otherwise, the decision becomes final on April 14th.
The JPMorgan Event
· Triumphant. No better word describes the aura of CP’s chief Keith Creel as he addressed an audience of investors in New York City, one day after the STB’s fateful announcement. Creel says he’s “elated” by the news, commending the STB for its “thoughtful and thorough” process. He then recounted the past, starting with CP’s sickly state after he was recruited by Hunter Harrison to help turn things around. “They had the worst service in the industry. They had the worst financial performance in the industry. They were not able to invest. Their pension fund was approaching insolvency. Their debt was junk status almost. This was a company that was in trouble. This was not a company that was thriving. It was barely surviving. And we came with a mandate to restore its financial health.”
· Creel makes no apologies for Precision Scheduled Railroading, however controversial. At CP, anyway, PSR was a powerful means to improve service, increase asset utilization, control costs, and invest in safety, he argues. Ultimately, it not just saved the company but turned it into a corporate superstar, esteemed by a wide array of stakeholders. CP today has “never invested more in its people, invested more in its infrastructure. We’ve never enjoyed the levels of safety that we enjoy today, nor have we ever enjoyed the levels of service that we enjoy today. And every bit of that was enabled by implementing—properly implementing—a precision scheduled railroading operating model.”
· Upon learning of the STB’s decision, CP promptly announced its new executive team, led by Creel himself. Kansas City Southern’s chief Pat Ottensmeyer will depart the company, but not before staying on as an advisor through the end of the year. His experience with the Mexican market is seen as particularly valuable. As for the STB’s conditions, CP doesn’t have any major objections. “We intend to participate cooperatively and proactively to assist the STB during its oversight process and will honor the conditions the STB has imposed,” the railroad said in a statement. And hammering home his praise for PSR, Creel said in New York that “it’s what allowed us to get to the table to be able to have a seat, to be in a position to compete for and successfully purchase the Kansas City Southern. Had it not been for PSR, that never would have occurred.”
· An occasion to celebrate, no? Yes. On April 14th, the new CP-KCS will hold a “commemorative event” in Kansas City, where the two railroads connect. Then comes the difficult integration work, undertaken after much study of what went right and wrong with past railroad mergers. One thing it won’t do is get overly ambitious with technology, at least not early on. “We’re not going to try to put two systems together and create and innovate some new IT system.”
· Mexico, of course, is a big reason why CP wanted KCS so badly. The first joint CP-KCS trains between Chicago and Mexico City should start running in late April or early May. The route will be called Train 181, with Creel explaining that Train 101 is CP’s crown jewel—its flagship service connecting Toronto with Vancouver, every day of the week.
· Some examples of new traffic CP-KCS hopes to carry: Frozen goods and protein goods produced in mid-America, sent to Texas and Mexico, with cars returning northward carrying fruits and vegetables. Achieving such balanced flows of freight in both directions is a critical objective of railroad operating economics, minimizing empty cars (which cost money to move but don’t produce any revenues). Connecting the CP and KCS networks, furthermore, will allow for longer-distance freight movements, pushing up the combined railroad’s average length of haul. And that too is a key objective of railroad economics—longhaul journeys create economies of scale and thus lower unit costs. Creel by the way gives the example of an intermodal shipment from Mexico City to Chicago, which is more than 2,000 miles. In Canada, he says, the average domestic intermodal move is more like 1,600 to 1,700 miles.
· Even the STB seems excited about moving more freight across the Mexican border by trains versus trucks. As Creel points out, the border is not open 24/7 for trucks. “What we’re on the verge of doing [is] creating inland terminals with the support of the Mexican regulator… to allow those products [like] poultry to be inspected inland and not stop at the border. It’s transformational. We’ll blow right through.” KCS has also been building a new bridge in Laredo that when finished next year, should more than double daily train handling capability from 30 to 60-plus.
· Creel also talked about the new railroad’s ability to help customers like the ocean liner Maersk meet their carbon reduction goals. He spoke about the abundance of valuable land it can develop, some in booming areas like north Dallas. “There’s a state-of-the-art intermodal terminal there today with room to build four or five more if we need to, room to build transloads, room to build automotive compounds, room to create these sticky solutions that, again, will bring and attract revenue and keep it on our railroad as long as we do our job, providing safe and reliable service.” He mentioned coveted land assets in Houston and Kansas City as well. In the latter metro, KCS was never really able to evolve beyond being a mere interchange carrier. The merger changes that, presenting lots of new revenue opportunities that justify investments in more terminals and other facilities.
· Will there be any subsequent Class I mergers? Creel is doubtful. “I don’t think this industry is going to see more consolidation.” How about labor relations: “We have a very innovative collective agreement that’s not the national agreement.” CP will seek to cover KCS employees with its agreements over time.
· FYI: The new CP-KCS will hold an investor day in late June, providing more information about its post-merger plans.
· CN’s CFO Ghislain Houle was informed of the STB’s merger decision while he was speaking in New York, promptly congratulating CP and affirming CN’s contentment. Though its efforts to push CP aside and buy KCS itself ended unsuccessfully, CN has confidence in its own tri-coastal network. “I think that we’re not overly concerned about this transaction.” Houle repeated past comments about not interlining much with KCS in the first place, and how becoming part of the EMP container pool with UP and NS “is starting to get traction.” He adds: “We’re starting to… move truck traffic that actually comes from Mexico, going to Chicago, interchanging with us, and then going to Detroit, Michigan, Toronto, Montreal...” CN has essentially swapped KCS for UP in moving goods to and from Mexico.
· Houle says “we’re starting the year quite strong,” with revenue ton miles up 10% y/y. Some of that is simply due to easy comparisons—this winter’s weather in Canada has been less disruptive than last. But the growth also reflects meaningful demand strength in freight categories like frac sand, coal exports, autos, and of course grain.
· That said, intermodal remains a drag, and same for housing-related lumber. U.S. industrial production is weakening. And refined petroleum products, chemicals, and plastics aren’t seeing much growth. Though unmentioned at the conference, CN is surely watching events in the banking sector with a keen eye. For now, management still thinks it can grow its 2023 volumes in excess of industrial production.
· Operationally, things are going well. It’s moved that 10% increase in volume with 15,000 fewer cars on the network thanks to cars moving longer distances per day. This equates to a big boost in productivity.
· Labor negotiations, make no mistake, pose some concerns. The Unifor union, which represents intermodal, automotive, mechanical, and clerical employees, voted to strike if a negotiated settlement is reached. A labor stoppage could occur as early as this Tuesday. If it does, Houle says “we intend to use management employees to continue to perform key activities.” That should allow CN to maintain service to key ports (i.e., Vancouver, Prince Rupert, and Halifax). It hopes to keep key intermodal terminals open, namely Vancouver, Calgary, Regina, Toronto, Montreal, and Halifax (it will likely not serve Prince George, Edmonton, Saskatoon, Winnipeg, and Moncton). As of Saturday, Unifor said it would continue negotiating through the weekend in hopes of settling the dispute. You can read the union’s position here.
· Regarding other labor developments, a new government directive on crew rest rules will be costly. But management thinks it can offset at least some of the cost with measures to boost productivity.
· Houle and his colleague Janet Drysdale addressed the hot topic of safety, as well as a topic of growing importance: the environment. More and more rail customers, Drysdale said, are demanding things like tools to calculate the carbon emissions of their shipments. Houle described ways in which CN is improving track default detection, among other things.
· A key goal for the CN marketing team is finding more demand to make use of the excess capacity it has from eastern Canada going south. “Doug [MacDonald] and the team are pushing hard on filling up that space.” In Halifax, port operations are much improved under new ownership, heralding future growth and future market share wins from port competitors like New York/New Jersey. (Halifax is currently running at just 50% to 60% of its container capacity). And if there’s one railroad that can do this it’s CN, not CP, insists Houle. “We've got the best transit time from Halifax going to Toronto, Detroit, Chicago than our Canadian competitor by quite a bit.”
· On the Western front, filling up empty capacity is the last thing CN needs to worry about. “I think if anything, we’ve grown our business in Western Canada probably a little faster than we may have liked.” Doing so caused costs to inflate, hurting profits. “So you may see us grow a little less in Western Canada than we’ve done in the past, but more of it will fall to the bottom line.” And what if demand exceeds what CN wants to supply? “Then we use this as a tool to get better pricing.”
· CN will speak in more detail at an investor day event it’s hosting in early May. It promises to unveil some “very exciting specific growth projects,” notably in eastern Canada.
· Happy to be talking about something other than East Palestine, NS gave an update on business trends, including the latest on demand, operations, and labor relations. It did, however, open with an update on the financial impact of the Ohio derailment. While it declined to give a cost estimate, it expects to do so when it reports Q1 earnings next month. Operationally, the incident caused network bottlenecks affecting the railroad’s capacity. It’s using alternative routings to mitigate the impact. But importantly the affected line is part of a “premier route” for NS. Slower velocity on the network should persist for another eight weeks or so.
· Prior to the East Palestine derailment, service [was] the best it’s been in two years.” Peak season, it added, was “extraordinarily strong” for parcel customers like UPS. Supply chain distress is freeing up faster than management expected. Pricing remains solid too. But as CFO Mark George explains, “volume is the issue right now for us.” Remember, NS has outsized exposure to what’s currently a sickly intermodal market. But management is still hopeful about longterm growth. It also mentioned coiled metal, agriculture, and food products as examples where NS can “drive exceptional value from a safe, reliable, resilient service over a long period of time.” But George acknowledged railroads need to win trust. “We probably have to go through a full cycle of [economic] ups and downs to demonstrate to customers that this time is different. And that’s really what our message is: This time is different.”
· Economic and intermodal clouds notwithstanding, longterm macro trends do favor NS’s southeastern-heavy geography. That’s where a lot of industrial re-shoring is taking place. It’s a region with lots of industrial real estate development more generally. “Nine of the top ten states for doing business are on our network. The other one is Texas, which we have very good connections to with our interline partners.” George mentioned Scout Motors, which is building a new South Carolina plant on the NS network.
· What about coal? That’s definitely a less pretty picture with respect to domestic electricity generation. Power plants/utilities are well stocked and natural gas prices are way down from their highs. As for export coal used for steel production, NS calls this an underserved market, though it is seeing some new U.S. mines on its network. And of course, it’s better able to handle the coal traffic now than it was while understaffed. “We feel for now pretty good about the [coal] export markets.”
coal/steel price trends; source: Ramaco:
· George addressed a question about the new intermodal service NS is now offering to Memphis, from the port of Virginia (Norfolk) to Memphis. He said this probably wouldn’t have worked 15 years ago; Memphis was too far east. “But over time, the steamship lines and the ports are really invested in making optionality something that their customers can benefit from.” Also, “there are very robust routes and structures now to deliver freight to the east coast,” including from Southeast Asia and even China. “What we’re trying to do is provide for our customers that same optionality and give them the opportunity to benefit from the investments that steamship lines and ports have made to deliver that product to the east coast and serve some of those hinterland markets that before really weren’t feasible from an east coast location.”
· As for domestic intermodal, weak trucking markets, meaning low truck pricing, is making life difficult for railroads. “It’s been a challenge.” NS hopes to lay the groundwork for good intermodal service that enables partners like J.B. Hunt and Hub Group “to convince their customers and prospective customers that [longterm] they can bet on intermodal.”
· George spoke about some about new labor agreements offering paid sick time. He did say NS is still “critically understaffed” as some key locations. On what it calls “super core” routes, “we probably still have about 15 locations where we are understaffed and that’s where we’re trying to channel a lot of our hiring efforts.” But overall, “we’re feeling a lot better about our crew issues right now than we were certainly a year ago, but even six months ago.”
· You’ll hear more from NS this week. On Wednesday, the Senate Committee on Commerce, Science, and Transportation will hold hearings on rail safety, with CEO Alan Shaw scheduled to testify. The AAR’s Ian Jefferies will speak as well.
· CFO Sean Pelkey began by reaffirming his railroad’s five PSR-focused principles: 1) operating safely, 2) optimizing asset utilization, 3) controlling cost, 4) improving customer service, and 5) valuing and developing employees. The latter two, as CEO Joe Hinrichs emphasized when reporting Q4 earnings in January, need more attention than they’ve received in the past.
· Operationally, CSX is delivering “just about the best numbers that we’ve ever seen across the network.” Pelkey said things started improving in Q4, “when we were finally able to get enough train and engine employees to run the plan. I think that was the major issue that we were facing last year We’re now able to do that and you’re seeing these cycle time improvements, you’re seeing reductions in overtime, you’re seeing crews who are actually able to get home to their families.”
· And freight volumes? Year-to-date so far in 2023, “we are down a little bit.” More specifically, total carload traffic is down 0.6%. But that’s with a lot of variance across different freight categories. On the bright side, coal volumes are up 23% y/y. Grain traffic is up 16%. Auto traffic is up 7%. Other big gainers include crushed stone, clay, glass, and sand, all commonly used for construction (think industrial construction, not housing). Primary metals, petroleum, and even lumber and wood are up this year too. On the other hand, the industry’s scourge right now—intermodal—is down 9% for CSX. Chemicals, a critical part of its business, is down 4%. Non-metallic minerals including phosphate are down 20%.
· Within intermodal, international is the biggest drag (and getting worse as the year progresses). But it’s largely “something that we expected going into the year. It’s something that our international intermodal partners were very clear about, very much related to an overbuild on retail inventories as well as uncertainty around consumer demand.” Its partners (Schneider, for example) say the weakness will likely persist through the first half of this year but then “hopefully, it stabilizes after that.” The bullish longterm outlook for intermodal hasn’t changed though.
· Auto traffic, as mentioned, is up this year. But dissapointgly so. “Auto is not running quite as strong as we expected it to be. It’s still up year-over-year. But we’ve been hampered by some quality issues at… several of the plants that we serve with some of our largest customers.” But Pelkey added hopefully: “We should see that start to turn around in the coming weeks.”
· Regarding strength in aggregates (i.e., gravel, crushed stone, sand), CSX attributes that to a lot of municipal construction projects, surely boosted by federal infrastructure spending. It said metals traffic has at times this year hit its highest levels since 2015, thanks to a decade-high level of shipments. Why is grain up so much? Chalk that up to better service—“Cycle times last year were 18 to 19 days. This year, they’re closer to 10 days, nearly a 50% improvement.” That’s largely the explanation for coal’s growth as well, though comparisons here are skewed by last year’s Curtis Bay fire disruption. That said, “we do feel good about where the export market is at.” He said that’s true for both metallurgical (the majority of the export market) but also thermal. Coal is also getting a boost as last year’s production issues at several CSX customer mines get rectified.
· And utility coal? It’s “holding up so far, as we’re continuing to do some restocking.” But “obviously, natural gas could be a headwind going forward.” Pelkey is referring to the sharp decline in natural gas prices, incentivizing power plants to use more of it in lieu of using coal.
· On labor, CSX has about 7,200 active train and engine service (T&E) employees currently. It wants to boost that number a bit going into summer vacation season, to perhaps 7,400. It already has the people in training to reach that goal, but it continues to hire conductors, mindful of attrition.
· On pricing, “We’re seeing very positive results on the repricing front, particularly in the merchandise segment and strong pricing in coal as well, and met coal prices have held up. So I would say we feel good about where we’re at from that perspective.”
· Speaking more generally, Pelkey says “we’ve got to be a company that continues to focus on cost control and asset utilization, while also figuring out how we can stimulate investments and innovation… technology that ultimately will position us to grow profitably in the coming years.”
· To skeptics who point to the railroad industry’s poor track record on growth these past few years, CSX points to all the industrial development now taking place in the east. “Last year was a banner year for industrial development,” Pelkey said. “I mean I don’t think there’s been a year in my nearly 20-year history with CSX that we’ve had a better year for new plant announcements on CSX’s network… billions and billions of dollars of customer investment [and] thousands and thousands of new jobs.” He said most of the projects, including large auto manufacturing plants, won’t require much of its own capital investment, aside from perhaps some railcars and modest track infrastructure. In addition, CSX has more than a dozen shovel-ready sites for potential new customers, partnering with state and local officials eager to lure more manufacturing jobs.
· And of course, as all railroads preach, growth will come from truck conversions. “You put those two things together [industrial development and truck conversions], and I think we feel pretty confident in our ability to continue to outgrow the economy.”
· J.B. Hunt, not to be confused with J.P. Morgan, spoke at last week’s big Wall Steet event as well, repeating its mantra that the intermodal market is a “coiled spring” ready to bounce from its current weakness. “We have the equipment, we have the people, we have the sales team and the customer experience team, and we’re certainly ready to grow… We believe our customers want more of what we do.” CEO Shelley Simpson did however say she’s “slightly less optimistic than our customers” with respect to demand in the second half of 2023. Her best guess is that conditions are moving toward a return to pre-pandemic norms, but “it comes down to timing of when our customers can work through their inventory.” In any case, for now, “we’re in the middle of a freight recession, mostly [due to] inventory correction.” Obviously, J.B. Hunt is also watching truck rates to determine how much intermodal demand railroads can ultimately capture.
· The company’s intermodal chief Darren Field echoed Simpson’s slightly pessimistic take. “We’ve talked to a host of customers and everybody continues to remain optimistic. We’re probably just a touch tempered from where we started the year.” When customers are ready, though, J.B. Hunt will be ready to serve them—this was not always the case in recent years amid shortages of chassis, drivers, railroad capacity, etc. Now, railroads are operating more fluidly and shortages of key inputs are no longer a major issue. “The opportunity to convert business off the highway is front and center for us, and we’re working on it every day.”
· Railroad problems, the company said, stemmed from carriers having to suddenly compete for labor, perhaps for the first time in their long histories. It thus took them a long time to hire back the staff they needed. A new potential worry is whether the East Palestine accident will lead to new regulations that slow trains down. J.B. Hunt doesn’t appear too concerned, saying what customers want even more than speed is reliability: “Consistency in service is what they care most about.”
· Field talks about three channels for growing the firm’s intermodal business. One is highway conversion, always “top of mind” for the company. There’s organic growth, where existing customers increase shipment volumes. And finally, there’s an opportunity to make transloading (from international boxes to larger domestic boxes) more efficient with additional investments. Field uses the example of a 15,000-foot train with 450 international boxes, requiring 450 cranes, 450 chassis, etc. “We feel like we can make the railroads… more efficient in the domestic market” if that same 15,000-foot train as only 300 domestic containers, requiring only 300 crane lifts, etc. “Our drayage… is going to respond much faster to get that equipment out of the rail terminal to free that capacity up for the next 300 container train coming in.”
· What BNSF is doing in Barstow, Calif., will create such transloading growth opportunities. That’s “exciting to us as we’re the dominant provider of domestic capacity on their rail system.” It will also “arm the customers with more confidence about a future of imports flowing through Southern California.” That last comment, alas, speaks to concerns that Southern California might be losing its clout as a gateway for the container trade—concerns amplified by the shift in imports to east and Gulf coast ports. One thing is clear though, J.B. Hunt and BNSF—after some rocky years that involved what Field called “marriage counseling”—are now closely aligned in their objectives.