Introduction to precision railroading, part 3: where do we go from here?

(Source: freightwaves.com 11/05/18)

November 05, 2018 Brian Bowers, contributor

“We cannot solve our problems with the same thinking we used to create them”

—Albert Einstein

Last week we began exploration of the definition of precision railroading and how the industry is attempting to apply it. It is encouraging to see longstanding practices and processes being questioned.

An equally troubling question is whether the right people are participating in the discussion and whether the current railroad culture allow open dialogue to occur. It hasn’t in the past so changes will be needed if new outcomes are desired.

Hunter Harrison solved this dilemma by dictating that changes would occur. Leaders at Norfolk Southern (NYSE: NSC) and Union Pacific (NYSE: UNP) have shared that a more traditional planning process will drive the change. How is that best achieved?

Einstein’s advice advocates the introduction of new perspectives, expertise and knowledge. Consultants have been engaged for many years and haven’t been the answer. Perhaps retired industry leaders could be brought back that wouldn’t be burdened with potential impact to their careers. Engagement of customers, suppliers or other functional experts should all be considered. Securing external facilitators would also help fight the gravitational pull of traditional rail culture.       

Railroads are under constant pressure from investors to pursue and apply precision railroading.  Finding the right balance among cost reduction, capital investment, service performance and network capacity is a complicated process.

The following challenges must be overcome for individual railroads and the industry to achieve sustainable success:

Interline Rail Performance

Canadian railroads are blessed with transcontinental networks that minimize the need to interchange trains and cars with other railroads. Unfortunately, the reality in the United States and Mexico is quite different. Trains moving over long lengths of haul typically will experience one and at times two rail interchanges. This requires operational and administrative coordination of crews, locomotives and rail cars. Reviewing current activity reflects a spectrum of effectiveness. Problems typically occur that are related to the balance of rail cars, blocking of trains by destination and network congestion. The result is often transit delays, utilization of less efficient alternative routes or customers left to manually achieve the connection. The grounding and crosstown movement of thousands of intermodal units each month in Chicago reflects this reality. The recent elimination of steel wheel interchanges by CSX (NYSE: CSX) and the western railroads is further evidence of retreating to your own franchise. My desire is to have the industry explore a more strategic solution to how interchanges occur, with the goal of identifying interchange solutions that can deliver improved transit performance and asset utilization for all parties. Request for public or private investment in infrastructure is likely to emerge from those discussions. I have never been an advocate of new rail mergers, but perhaps it is time to reopen that dialogue as well.

Network and Asset Fluidity

The number of railcars held on line is one of the industry’s primary operating metrics. Maintaining an optimal fleet of cars is critical to meeting the needs of customers and keeping the network fluid. My concern lies in the potential that the focus on cost reduction will cut the car count below adequate levels. A large percentage of the industry car fleet is supplied and managed through TTX. Guidance from all railroads is utilized to determine the timing and amount of fleet adjustments.

Considering the wide range in appetite for incremental cost that exists today between precision and non-precision railroads, I wonder how that process is functioning. Rightsizing of rail line-haul networks has created efficiencies but also reduced the amount of track available to store cars. Long-term storage often places cars in locations that are difficult and expensive to access. Railroads will need to work closely with customers across the network to maintain the right balance among cost, operating efficiency and network flow. Customer demand planning has often contributed to current inefficiencies through overstated forecasts and problems in operating processes and shipping & receiving facilities.

Customer Interface and Engagement

Railroads have a well-earned a reputation for being challenging to work with. Progress has been made but building a more productive line of communication and integration with customers would be beneficial. The Hunter Harrison model of precision railroading is built on the premise that customers benefit by modifying their load tender and service requirements around the railroad’s more efficient model. That reality wasn’t always communicated with sensitivity so many relationships have suffered. I believe that the optimal solution is for both parties to better understand the cost components and operating capabilities of each other. Solutions supported by precision execution should remove real cost and create value for both parties.

Achieving Operational Excellence

Achieving operational excellence is my greatest expectation for precision railroading. The strategy opens the door for the operational changes and process excellence required to deliver truck competitive service. Railroads have provided this level of intermodal performance to UPS (NYSE: UPS) for many years. Raising network performance to that standard would produce a breakthrough in permanent truck conversion. Consistent premium service would entice new private investment in assets, improve network and terminal velocity and deliver enhanced financial results for railroads and their customers.  UPS pricing and minimal terminal dwell performance reflects the potential that this change offers to the industry.

The Canadian National (NYSE: CNI) purchase of a refrigerated trucking company, Trans X Ltd., last week was an interesting strategic move. Trans X brings trucking expertise and technology that should expedite intermodal growth and operating efficiency. The rail landscape is littered with failed attempts to provide in-house drayage and trucking services. Customer frustration with problematic drayage service and management at Union Pacific’s Loup unit reflects this dilemma. Their strategy has been to incentivize customers to shift from ramp-to-ramp service where they managed their own drayage to a door-to-door configuration. The logic to create market density similar to large asset competition is sound but the execution has fallen short.  As Union Pacific leadership moves forward with precision railroading, Loup is one area that will require more–not fewer– resources and headcount.

Profitability Without Equal Value

The investor call for improved operating ratios has at times lacked strategic balance with creation of customer value. Requests to remove assets and raise pricing need to reflect offsetting operation costs or improvement in value to customers. Sensitivity to how industry profitability is viewed by customers and regulators is needed to avoid a potential backlash or engagement from Washington.

Repair the Culture

Expedited implementation of precision railroading under Hunter Harrison was achieved but carried a significant cost to company culture at all three railroads. It appears that leadership at Canadian National has reestablished a level of trust, but work with union and non-union labor remains at CP and CSX. The message from Keith Creel at Canadian Pacific (NYSE: CP) is on track but will take time before the rank and file is comfortable sharing contrarian views and positions.

Three models are emerging as industry leadership determines how they will respond to pressure from the investment community. Canadian Pacific and CSX are still operating within the Hunter Harrison model. Gaining active organizational engagement will be a challenge for leadership at both railroads. Norfolk Southern, Union Pacific and Kansas City Southern have communicated encouraging intent but will need to overcome the tendency to replicate current ineffective process. Leadership at Canadian National benefits from having completed implementation of precision railroading and having time to repair damage created in the process. CN and the unburdened BNSF—owned by Berkshire Hathaway (NYSE: BRK.A)–are good bets for early success as the evolution of precision railroading continues.  

Hunter Harrison is gone but his legacy continues to drive transformational change in the rail industry.  It is difficult to determine the outcome, but the journey will be interesting.

Brian Bowers is an industry veteran and a consultant on intermodal issues. He is also a member of the FreightWaves Advisory Board.