Another Rail Meltdown?

Dec. 21, 2004
Shippers hope Conrail's breakup June 1 won't repeat the UP-SP merger woes.

For thousands of U.S. companies that ship by rail, the transportation meltdown caused by the 1996 merger of Union Pacific (UP) and Southern Pacific (SP) railroads is all too fresh. Shipments that were supposed to take five days to reach their destinations often took as many as 30 -- if they didn't get lost altogether. Overburdened computer systems lost track of freight cars. Bottlenecks arose throughout the West -- particularly in Houston, where freight snarls lasted for a year and a half. Those problems have eased markedly. Still, you can't blame shippers for fearing that an even larger railroad marriage -- the planned June 1 acquisition of Conrail Inc. by Norfolk Southern Corp. (NS) and CSX Corp. -- might lead to the same problems, but on a bigger scale. That's not likely, insists John W. Snow, CSX's chairman, president, and CEO. "We don't see anything that will create a cataclysm for us like it did UP and SP," he recently told reporters. "We've been over it and over it. We don't foresee a lot of problems." One reason, he said, is that CSX is "benefiting from the lessons" of the UP-SP disaster. As a result, the carrier is ensuring that it has all its labor agreements approved and its information systems ready before the merger date. (UP, which was the acquiring company in the SP merger, did neither.) Also, CSX is "over-resourcing," as Snow puts it, to avoid the infrastructure inadequacies that plagued UP. It has made costly investments in capital spending, including double-tracking its main line between Cleveland and Chicago, buying new locomotives, and expanding rail yards and terminals. It also has spent heavily on hiring and training. Collectively, said Snow, the Conrail-related investment has caused a significant drain on CSX's operating income. NS is making similar investments -- enough, the firm says, to reduce 1998 net income by $156 million and earnings per share by 41 cents. But the investment is worth it, stresses Chairman and CEO David R. Goode. "We will avoid problems of the kind that could cause inconvenience to the public and thereby compromise expected operating and financial synergies," he pledged in a joint press conference with Snow earlier this year. "We want to get things right -- from the start." Even though the merger is one of the most complex in business history, with two companies acquiring a third, shippers seem similarly upbeat. "We were extremely worried that there would be a rerun of the UP-SP mess," admits Ed Rastatter, director of policy at the National Industrial Transportation League (NITL), a 90-year-old organization that represents more than 1,000 medium- to large-size industrial shippers. "But now we think they [NS and CSX] have things pretty well under control. They've spent two years making sure everything is ready. They've done lots of planning, integrating of computer systems, and investing in infrastructure." Even so, Rastatter says, "shippers are keeping their fingers crossed." But he's pleased that the June 1 merger date -- carefully chosen by the two carriers -- comes just after a long holiday weekend when rail shipments are light. He also reports that shippers -- especially present Conrail customers who will have to prepare new billing instructions -- seem ready. Although shippers are optimistic that severe service problems will be avoided, they're not equally confident that the merger will result in lower shipping rates. In competing to buy Conrail, Rastatter explains, NS and CSX bid the price far above Conrail's book value. He fears that the two carriers won't be able to generate enough new traffic to offset this premium, and thus will be forced "to gouge captive shippers." For the moment, though, the challenge facing NS and CSX is to avoid service problems -- at least severe ones -- after June 1. Serious disruptions likely would give momentum to legislation, introduced in Congress in the wake of the UP-SP service debacle and supported by some shippers, to re-regulate the rail industry. The industry generally has prospered, at least until the recent merger-related service problems, following its deregulation by the Staggers Act in 1980. "Talk of reregulation already is having an impact on the industry's access to capital," observes Anthony Hatch, New York-based transportation analyst and consultant. Because of the reregulation threat, he says, "few analysts are now willing to bet on the industry's potential for resuming a period of acceptable growth and fair return on investment."

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