Let’s suppose, for the sake of argument, that the Class I railroads cannot successfully shift into growth mode. What happens then? Carload business will slowly wither away, except for the few bulk and dangerous commodities that have no other way to move. Intermodal will remain stuck in neutral, with domestic container and trailer traffic unable to break through a ceiling they hit in 2017. And no matter what railroads do, the onetime torrent of coal traffic will become a trickle.
Sure, there will be pockets of growth here and there. But they won’t be able to make up for the overall downward trajectory as more and more freight moves to trucks.
The irony is that the Class I systems are immensely profitable despite hauling less freight today than they did two decades ago. They’re a financial success story driven by higher productivity and higher rates.
In order to continue to produce double-digit earnings growth — something that Wall Street has come to expect — ideally the railroads need to do three things: Gain volume, raise rates faster than inflation, and make productivity gains and/or reduce costs. Analysts say the railroads’ annual rate-increase strategy is nearing an end, meaning they’ll have to push harder on the volume and cost levers.
At the Surface Transportation Board’s September hearing on the lack of carload growth, railroads sketched out their growth plans. Shipper groups made it clear that while they want to ship more via rail, they are instead sending more of their business to trucks due to railroads’ unreliable service, inflexible rates, and lack of rail competition. A look at the direction of the freight car fleet, which is predominantly owned or leased by shippers, backs this up: Excluding coal equipment, cars are being retired at about the same rate they’re being built. This combination of shipper sentiment and stagnant fleet size casts serious doubt on the Class I railroads’ ability to grow in any meaningful way.
Absent volume growth, the only way railroads will be able to make their investors happy is by resuming cost-cutting with a vengeance. You may say that there’s nothing left to cut. Why, look at how Precision Scheduled Railroading has shrunk locomotive fleets, shuttered shops, closed hump yards, reduced local service, pruned intermodal networks, gutted headquarters, and cut overall employment levels. This is, of course, true.
But with too much track and not enough traffic to support it, the Class I railroads eventually will be forced to find ways to wring out even more costs. None of them will be good for the industry.
Railroads can reap operational savings by slowing trains to 40 mph. It would save fuel, require fewer locomotives, and reduce track maintenance costs.
Count on Class I’s ripping up underutilized yards in prime locations and then selling the property to make way for, say, a truck-served Amazon warehouse. The old yard’s switching work can always be moved to smaller, outlying yards.
Main lines won’t be immune. In corridors where two railroads operate parallel routes, they can decide to downgrade or abandon one main line while sending all their trains over the superior main line. An example would be Norfolk Southern shifting trains to CSX’s high capacity former New York Central Water Level Route between Cleveland and Selkirk, N.Y., and spinning off or ripping up the single-track former Nickel Plate, Southern Tier, and Delaware & Hudson mains.
Sharing main lines would further reduce track and signal maintenance costs while creating a golden real estate opportunity. In traffic-clogged metropolitan areas, it’s not a stretch to imagine the conversion of redundant railroad rights-of-way into congestion-free toll roads for trucks. Railroads would get a one-time windfall from selling the property. And they’d forever be rid of the related property taxes.
This is a dark scenario for those of us who are champions of steel wheels moving on steel rails. No one wants to see more freight hauled by Peterbilt rigs and less coupled behind Wabtec locomotives. Yet, thanks to Wall Street pressure, it is a future that may await.
Wall Street’s demand for operating ratios around 60% means that railroads can’t go after freight that might come with a profit margin of 25% or 30% but is otherwise perfectly suitable for rail. At the STB hearing, shippers and regulators questioned whether this focus on only the most profitable traffic was a violation of the railroads’ common carrier obligations. It’s a fair question — and a sign that they believe the industry is heading in the wrong direction.
You can reach Bill Stephens at bybillstephens@gmail.com and follow him on LinkedIn and X @bybillstephens
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