(The Fort Worth Star-Telegram posted the following article by Dan Piller on its website on February 3.)
FORT WORTH, Texas — Now that Union Pacific Railroad has overcome the problems stemming from its merger with Southern Pacific in the late 1990s, Burlington Northern Santa Fe Railway of Fort Worth faces a veteran competitor at the top of its game.
It’s no duel to the death; in a good economy, there will be enough business for both.
But neither underestimates the other.
“Burlington Northern Santa Fe is tough competition, no doubt about it,” says Union Pacific Chairman Dick Davidson at his company’s headquarters in downtown Omaha, Neb.
Davidson’s counterpart, BNSF Chairman Matt Rose, is well aware that he faces a fully revitalized Union Pacific, long the industry’s most profitable railroad.
“UP is tough, and everybody knows it,” Rose says. “Frankly, though, I’d rather have a strong competitor than a weak one. Look at the airlines. If you have a crippled competitor, what you end up with is a competitor who is doing discounted, marginal pricing. Nobody wants that.”
Burlington Northern Santa Fe has its corporate headquarters in Fort Worth on Western Center Boulevard west of Interstate 35W. It also operates an intermodal and automobile loading facility at Alliance Airport, as well as a small freight yard on Northeast 28th Street.
Union Pacific operates the giant Centennial Yard southwest of downtown off Vickery Boulevard, which it inherited when it bought the old Missouri Pacific Railroad two decades ago.
The two railroad giants originate or deliver 90 percent of all rail traffic between Chicago, the Gulf of Mexico and the Pacific Ocean.
They move most of the nation’s harvests, the coal that powers utility generators, the lumber and concrete used to construct buildings and most automobiles from plants to local markets.
Each increased its profits in 2002. BNSF’s net income rose from $731 million in 2001 to $760 million last year. UP’s jumped 39 percent to a record $1.3 billion.
The 2002 performance was notable because economists have long regarded railroads as a basic economic indicator. And 2002 was hardly a stellar year for the economy.
But the Big Two of the West, whose combined histories total 293 years, serve as examples of the resiliency of the old economy. While the business landscape is littered with the troubles of dot-coms, telecoms, airlines and wholesale energy traders, BNSF and UP are chugging along smoothly.
“I’ve been in the railroad business for four decades, and in many ways, the industry has never been stronger,” Davidson says.
Rose says: “Both of us are doing what companies are supposed to do — make profits, generate cash flow and pay dividends. The trouble we’ve had in recent years is that there’s always a hot speculative sector, like the dot-coms, that generate all the buzz. Everybody then wonders what’s wrong with us.”
The investment community sees the competition between the two as about even.
“There’s no question that BNSF faces a stronger Union Pacific now than it did three to four years ago,” says analyst Rick Paterson of UBS Warburg. “UP lost some traffic during that period, but they’ve gotten it back. It’s a new game now.”
But he adds: “BNSF has good management and good service. They’ll compete successfully.”
Although investors have newfound respect for the stability of the railroads’ earning and cash power, BNSF and UP still aren’t Wall Street darlings. Their price-to-earnings ratios — 11.2 for UP and 12.6 for BNSF — trail the 26.4 average for the Standard & Poor’s 500. Union Pacific increased its quarterly dividend from 20 cents to 23 cents in December to spark more investor interest, and BNSF has for years run an aggressive stock repurchase plan to put extra kick in its shares.
More notably, shippers, long their most persistent critics, are saying nice things about the railroads these days.
“We still have trouble with railroad traffic,” says Edward Emmett, president of the National Industrial Traffic League. “But they have their service act together now. I don’t get nearly as many phone calls from our members about service as I did a few years back.”
Emmett is referring to what happened in 1997 and early 1998 when Union Pacific nearly choked itself and its customers trying to digest its $5 billion merger with Southern Pacific. Unfamiliar with SP’s antiquated and capital-starved system, UP spent months trying to untangle significant congestion that started in Houston and spread through Texas, the Midwest and into California.
Davidson worked out the problem with what appears, in hindsight, to have been an obvious solution: He ordered one-way traffic on the northbound and southbound lanes of the double-track line from St. Louis to Houston. Railroads had always run both ways on each side of double-tracks because it was thought to be more efficient.
Davidson’s switch brought UP out of its most embarrassing — and money-losing — period in the past half-century.
Another innovation of those desperate days — joint dispatching centers that Union Pacific and BNSF set up in the Houston area, Kansas City and in California to better coordinate their traffic — has also proved its worth.
Even now, Union Pacific’s ties with BNSF keep the competition from getting too heated, Davidson says.
“We interchange about 40 percent of our freight with BNSF, so in a sense, they are as much a partner as competitor,” he says.
The most lingering effect of Union Pacific’s 1997-98 meltdown has been a harder line against big mergers on the part of politicians and regulators. BNSF tried to merge with Canadian National in 1999, but rival carriers shot down the proposal and got a regulatory moratorium against mergers. Rose and Davidson agree that while a transcontinental linkup among the Big Four survivors — UP and BNSF in the West and CSX and Norfolk Southern in the East — would appear logical, it won’t happen soon.
“The political climate is against it,” Davidson says. “I have four years left until retirement, and we won’t see a big merger in my working lifetime.”
So in the foreseeable future, BNSF and Union Pacific will move ahead unmerged. Because both serve the same territory, there is a tendency to think of them as mirror images. But there are differences.
Union Pacific has advantages in two crucial areas — agriculture and automobiles. A year ago, it secured 100 percent of General Motors’ business (some of it taken from BNSF), enabling its automotive shipment revenues to grow by 8 percent to $1.2 billion for the year.
BNSF doesn’t break out its automobile shipment business, although it is a major carrier for Ford, as well as Honda and Nissan.
Union Pacific also has a long-profitable perishable agricultural shipment business in California, helping it to a 4 percent gain in agricultural revenues. That enables it to be less exposed to the harsh ups and downs of the export grain markets, which last year were weak.
“We haven’t given up on ag exports, but we depend on it less,” Davidson says.
BNSF is more dependent upon shipments of grain from the Midwest to export ports on the Gulf of Mexico and West Coast. Agricultural revenues were down in 2002 from $1.5 billion to $1.4 billion, and Rose isn’t optimistic that 2003 will see a dramatic turnaround.
“Of all the commodities we haul, ag has the most variables,” he says. “You have the world economies, politics, dumping, subsidies, and on and on. We think ag business will turn up, but it’s hard to say when.”
Similarly, the big coal shipments from Wyoming strip mines to Midwestern and Southern utilities have failed to produce breakthrough profits for either carrier. BNSF has long been the nation’s largest coal carrier and for years staked its franchise on shipments of the low-sulphur Wyoming coal, the more environmentally friendly fuel. But in 2002, low prices caused utilities to burn the even cleaner natural gas and leave their stockpiles of coal largely untouched. Coal revenues mirrored the performance of agriculture, dropping by about $100 million to $2 billion.
“If we still depended on coal and ag, we’d been in trouble,” Rose says wryly of 2002, adding that he is optimistic that the recent runup in natural gas prices to above $5 per thousand cubic feet will encourage utilities in Texas and elsewhere to add more coal to their fuel mix this year.
But BNSF no longer has to depend on coal and agriculture, thanks to the 1995 merger that combined the old Burlington Northern with Santa Fe Pacific of Chicago. When Gerald Grinstein, then BN’s chairman, proposed the $5.4 billion merger, he wanted Santa Fe’s mainstay Los Angeles-to-Chicago intermodal service, which sends a steady stream of consumer products from the West Coast into markets in the Midwest and on the East Coast. A quick look at BNSF’s 2002 performance shows how Grinstein’s hunch paid off.
Revenues from consumer products shipped on rail flatcars amounted to $3.3 billion of BNSF’s $8.9 billion in freight revenues last year.
That was virtually unchanged from the previous year but still amounts to the biggest single shipping group in BNSF’s product mix.
UP is in the intermodal game as well, but at less than half the volume. In 2002, $2 billion of UP’s $10.7 billion in freight revenues came from truckload shipments.
Last October, BNSF boosted its capabilities on the Chicago end of that run when it opened a new freight logistics park there, a multi-model facility that can handle rail, truck and intermodal services with distribution and warehousing on a single site.
The intermodal growth has made its way to Fort Worth. BNSF’s intermodal hub at Alliance Airport, opened by the old Santa Fe in 1994, handled 300,000 lifts (from railcar to truck) in 1995. Last year, the lift figure was 460,000.
Davidson isn’t shy about expressing his admiration for BNSF’s intermodal franchise, saying: “I don’t think we’ll ever be able to catch that. BNSF is good in intermodal.”
Rose says intermodal might get even better this year, thanks to near-record diesel prices, which drive up truck rates. When long-haul shippers and major consumer companies want to make shipments of 1,000 miles or more, the railroads can offer a better bid on their superior fuel economies.
“We see more and more truckers coming to us and wanting to work together,” Rose says.
But rising diesel prices are a two-edged sword.
On the negative side, the doubling of diesel costs in the past year robs from the bottom line. Both railroads warned Wall Street that first-quarter results might shrink if crude oil stays at two-year high.