(The following story by Jason M. Breslow appeared on the Medill Reports website on May 14.)
CHICAGO — There is little admiration for Canadian National Railway Co. in towns along the 198-mile long Elgin, Joliet & Eastern Railway around Chicago. In the western and northwestern suburbs in particular, communities are uniting against CN and its plan to acquire a major portion of EJ&E track and substantially increase the traffic on it.
Among analysts and transportation experts, however, it’s difficult to find an organization more highly regarded than the Montreal-based company. Analysts tout CN for its efficiency. Experts say the company’s plan to run freight around Chicago via the EJ&E, which arcs from Waukegan to Joliet to Gary, would help ease severe congestion that’s plaguing the nation’s no. 1 rail node and shippers coast-to-coast.
The problem isn’t new, so why has CN chosen now to ruffle Chicago-area feathers? Because the deal may have a major bearing on the future of both the railroad and the region.
CN operates the only transcontinental rail network in North America, with more than 20,000 route-miles of track in Canada and the United States. It also generates the highest margins of any railroad in North America, besting its closest competitor’s operating ratio in 2007 by 13.2 percentage points.
“We view … Canadian National Railway as the premier North American railroad,” wrote Daniel Ortwerth, an analyst with Edward D. Jones & Co. L.P., in an April research note. Ortwerth rates CN stock “buy.”
“They’re the envy of the industry in terms of operating margin,” according to Keith Schoonmaker, an equity analyst with Morningstar Inc. Schoonmaker gives CN a rating of four out of a possible five stars.
Boosting the bottom line can be a struggle for railroad companies. As Schoonmaker explained in an April note, “It’s hard to imagine a more asset-intensive business than one in which a firm must own and maintain not only its motive power but also the road itself.” After taking a blow to net income in 2002, down to C$571 million, CN generated steadily rising profits, to C$2.158 billion last year.
Diluted earnings per share from continuing operations increased during that five-year span from $1.37 to $3.38 in 2007. EPS is expected to stretch to $3.55 this year and to $4.08 in 2009, according to a survey by Zacks Investment Research Inc. CN stock, trading around $55, is near its 52-week high of $58.49.
Conducting operations at CN is E. Hunter Harrison, who became president and chief executive officer in 2003, the same year CN began its financial rebound. Before joining the company, Harrison served as president and chief executive officer of Chicago-based Illinois Central Railroad Co., which CN purchased in 1998.
The Illinois Central deal was a great move for CN, according to Schoonmaker, “because with that one acquisition they got one great asset: Hunter Harrison … It’s like if you bought a company and got Henry Ford with it.”
Harrison is best known for introducing “precision railroading,” by which freight trains run on a schedule, just as passenger trains do. When the concept was introduced at CN in 1998 the company was spending approximately $79 to generate $100 in revenue. Today, it spends only about $64 for each $100 in revenue.
Harrison has the railway’s growth tied to two key initiatives. The first is a new container terminal that CN helped open last year in Prince Rupert, British Columbia. Although the port is still not at maximum capacity, analysts at Standard & Poor’s forecast it to boost revenues at CN by about $100 million in 2008, capitalizing on the boom in Asian trade that’s currently clogging the ports of Los Angeles and Long Beach.
The company’s second big initiative is its hotly contested $300 million plan to acquire the sparsely used EJ&E from U.S. Steel Corp.
In the EJ&E, CN sees a route around Chicago rather than through it.
Rail congestion in Chicago, where six of the nation’s seven largest lines converge, “is just a huge nightmare,” according to Andy Cummings, associate editor of Trains Magazine. More than 37,000 railcars crawl through the city’s 2,800 miles of track each day, usually no faster than 9 m.p.h. Some days, it can take trains longer to pass through Chicago than to travel the 2000 miles from California to Illinois.
“I think the more we talk about and the more we learn and the more we look at that transaction . . . I see more upside opportunity than we initially saw in the transaction,” Harrison said about the EJ&E during a January earnings call.
However, opponents such as Barrington Village president Karen Darch say the plan would increase traffic at the more than 130 street crossings along the EJ&E, slowing down first responders. In Barrington alone, Darch said, the number of trains passing through each day would increase to more than 20 from around five. CN has admitted that some locales may see an increase of between 15 and 26 trains per day. Yet with CN trains diverted to the EJ&E, several communities, including some inside the city, would see less rail traffic.
Darch, who keeps a CN Calendar in her office as a reminder of the deal, also said it would be unfair for towns to have to contribute toward any of the costs associated with building grade separations were the U.S. Surface Transportation Board to approve the acquisition. The federal government typically covers the bulk of costs for most crossing projects, but local communities can still end up having to pay between $5 million and $50 million.
To grease the skids, CN promises it will invest more than $100 million to improve EJ&E rails, and will contribute $40 million for underpasses, crossing gates, and sound-proofing and safety measures. Opponents are not appeased, though. They want the company to foot any and all “mitigation” expenses.
On the other hand, support for the deal comes from communities in the city and just outside that would see less rail traffic as result of the acquisition. Endorsements have also come from local business leaders and transportation experts.
In an April column in the Southtown Star newspaper, for example, Doug Whitley, the president and chief executive officer of the Illinois Chamber of Commerce, wrote that opposition to the EJ&E deal is “at best, not helpful, and at worst, a threat to the $22 billion in annual economic value and 38,000 jobs the rail industry generates in the Chicago region.”
Joseph DiJohn, a professor of urban planning and policy at the University of Illinois at Chicago, said the regional benefits “would be less congestion, cleaner air and a better commute.”
Whatever the outcome, DiJohn said the region must address rail congestion soon because container traffic is expected to double by 2020.
The increase in container volume “could have a devastating effect on the region unless there are some actions taken,” according to DiJohn.
The U.S. Surface Transportation Board, which has labeled the EJ&E purchase a “minor transaction,” is expected to rule on the acquisition by the end of the year.