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It might be mid-spring or later before that kind of upward freight volume is plotted as a four-week or longer trend line. It’s also possible that months of mostly negative year-over-year rail freight numbers during the first half of this year could mathematically result in a flat full-year 2020 pattern, even if there is nominal 2% to 4% volume growth.
Let’s be clear about what kind of growth is being discussed here. How is growth defined? Railroads’ quarterly earnings reports focus mostly on changes in revenue, revenue per railcar, margins, cash flow, and my personal favorite—change in earnings per share. Those metrics tell a tale of private-company valuation.
As an economist with both a public service and a private railroad career, I balance those carriers’ private changes with these other measures of transport system-wide growth measures:
The metrics above measure rail freight in a way that relevant to shippers and the community. They are not an internal computation of corporate wealth. Two core questions: 1) Which one of these growth parameters requires more freight equipment? 2) Is the size of the rail freight fleet increasing?
There are two opposing railcar theories in the industry. One theory sees a continuing but smaller rate of new freight cars being added to the North American fleet. The other theory suggests a considerable slowing of new car orders—and a shrinking volume of railcar backorders. At the railcar manufacturing level, both outlooks acknowledge a large surplus of railcars on hand, but technically in a stored position. As much as 24% of North American 1.62 million railcars are currently “parked” (stored). In most industries, the fact that nearly one-quarter of the fleet is not being utilized would generally be considered a sign of economic distress.
It’s easy to ignore that low utilization if the railroads have increasing financial valuations. But once the corporate enterprise year-over-year valuation increases slows, the railcar storage and traffic units of change will become more obvious factors.
Here are the hurdles for rail freight through much of 2020 to anyone expecting breakout growth:
Considering these competitive factors, the resulting outlook for railcar replenishment during the first six months of 2020 looks somewhat bleak. As such, expectations of many new freight car orders seems a speculative play. Delaying delivery of backlogged railcars seems like a prudent plan until the fog of the U.S. economy clears a bit. No one is sure yet of what increase in traffic (if any) will come from the recent tariff agreements. There is an element of “wait and see.”
Let’s remember that the railcar ordering pattern in North America has been highly cyclical and dominated by super-cycle thinking. Said simply, the periodic rushes to invest in railcars suggests that due diligence might be prudent. In the past two decades the super-cycle in commodities has been in coal, later in ethanol, crude by rail, frac sand, etc. Railcar orders spiked a few years ago at about 80,000 when the crude oil and frac sand volumes were predicted as high growth. By comparison, it helps to recall that long-term nominal fleet replacement might be in the 40,000 to 45,000 range annually.
Among the most-ordered railcar types over the past decade have been covered hoppers, tank cars and intermodal cars. But in recent years, the need for intermodal cars has decreased. And the once “hot market” frac sand hopper car has seen its market use decrease.
The outlook for railcars varies by commodity market. The covered hopper accounts for one out of every two railcar types built between 2016 and 2018. That represents just over 100,000 covered hopper cars delivered in that time period. The boxcar is interesting. The boxcar fleet has been trending as an “orphan” railcar over the long-term. Figure 1 identifies the scale of that boxcar market, according to the Railway Supply Institute in a presentation made 11 months ago at Rail Equipment Finance 2019. Figure 2 illustrates the steady decline of the boxcar fleet. The overall trending compound annual growth rate decline in the North American boxcar fleet is about -4.4%. In contrast, the overall GDP rate is at about 2.5%.
There are various committees and shippers group examining the boxcar issue. But nobody seems willing to step up and write the necessary capital check. With the Precision Scheduled Railroading (PSR) business model, Class I railroads are experiencing capital returns in excess of 14%. The boxcar lacks a champion inside those big railroads. Will a shipper have to make the investment commitment? It is another year, and the debate continues. Scale-wise, we may be talking about an investment in 20,000 to 30,000 boxcars. That investment equates to about $2 billion to $3 billion.
There is a great deal of data about railcar building as a sector. As Figure 3 shows, there have been several railcar market surges (and declines) over the past three decades. This graphic was recently presented by financial analyst Kristine Kubacki, CFA, Vice President Investor Relations at Wabtec. The period between the first quarter of 2002 to the third quarter of 2009 was the most recent high point of backlogged railcar orders, peaking at more than 140,000 railcars. This was during the so-called North American rail freight Renaissance period. Those cycles are getting shorter in time length and less voluminous at their peaks.
As for the total railcar fleet, since 2010 the North American railcar fleet has expanded. Will that overall pace y/y continue into 2020-2030?
UMLER North American freight car fleet total registered size (in thousands). Source: 2019 Railinc data, Rail Equipment Finance 2019
By March or early April, it should be apparent what the outlook for railcar manufacturing is, since a pattern of railcar deliveries and new orders should become more evident. By late summer, there should be enough data to determine if railroads, even with more units year-over-year, re increasing market share.
If trucking volume in tons or load units moved grows at a rate of about 2.5%, then rail volume must grow significantly faster. Why? Because trucking freight has such a huge market share compared to rail freight market share. Rail freight cannot grow market share by tracking one-for-one units with trucking companies.
There still is little direct evidence offered by the railroads practicing PSR regarding the fundamental question: “Is PSR statistically improving freight carloads per year per car unit?” If that happens, then statistically this should reduce the need for more new cars. Who is going to be the first to deliver those PSR car utilization and fleet re-sizing numbers?
Independent railway economist, Railway Age Contributing Editor and FreightWaves author Jim Blaze has been in the railroad industry for more than 40 years. Trained in logistics, he served seven years with the Illinois DOT as a Chicago long-range freight planner and almost two years with the USRA technical staff in Washington, D.C. Jim then spent 21 years with Conrail in cross-functional strategic roles from branch line economics to mergers, IT, logistics, and corporate change. He followed this with 20 years of international consulting at rail engineering firm Zeta-Tech Associated. Jim is a Magna cum Laude Graduate of St Anselm’s College with a master’s degree from the University of Chicago. Married with six children, he lives outside of Philadelphia. “This column reflects my continued passion for the future of railroading as a competitive industry,” says Jim. “Only by occasionally challenging our institutions can we probe for better quality and performance. My opinions are my own, independent of Railway Age and FreightWaves. As always, contrary business opinions are welcome.”
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