(Dow Jones Newswires circulated the following on July 9, 2009.)
NEW YORK — The pricing power maintained by U.S. railroad operators amid a withering slide in freight volumes may well be the next casualty of the ongoing economic downturn.
New signs of a pushback from shippers are emerging, as railroads have raised rates even though rail freight volumes fell by more than a fifth in the second quarter.
The railroads’ pricing leverage has stood out in the battered freight sector, based largely on the perceived cost-effectiveness of shipping by rail.
Trucking companies have been discounting to stay in business amid industry overcapacity and multiple bankruptcies. Barge operators and air-freight companies have been wrestling with customers clamoring for lower prices and eschewing high-margin premium shipping products.
But the largest U.S. railroads have repeatedly said they expect average core prices to climb 4% to 6% this year, with upwards of 80% of the gains locked in contractually. The increases are off a bit – from closer to 7% in 2008 – but remain a bright spot.
Rail customers say the extended decline in demand for everything from chemicals to lumber and consumer goods is going to factor into contract renewals, many of which are slated to be negotiated this fall for enactment in 2010.
Some shippers recently have managed to reduce rate increases on existing rail contracts, a sign that the pricing power already is waning.
“My experience is that (railroads) are becoming more flexible,” said Curt Warfel, logistics manager at Eka Chemicals Inc. in Marietta, Ga. “I am guessing that the longer and the deeper this recession continues, the more flexible they will become.”
Warfel said a previously negotiated 7% rail price increase for his company slated to take effect July 1 was trimmed to 4% after Eka asked for concessions. Another railroad maintained Eka’s existing rates when it negotiated two contract renewals in the first quarter, he said.
Warfel declined to name the specific railroads involved, but said Eka ships chemicals on the four largest Class 1 railroads: Burlington Northern Santa Fe Corp. (BNI), Union Pacific Corp. (UNP), CSX Corp. (CSX) and Norfolk Southern Corp. (NSC).
Railroad representatives wouldn’t comment on pricing this week, citing proximity to second-quarter earnings releases.
CSX – which has forecast 5% to 6% core price increases this year – kicks off the sector’s reports Monday.
Freight transport trends, considered a barometer of business activity, are showing scant signs of improvement even though evidence for “green shoots” in the economy has been much sought after.
U.S. railroad car-load volumes dropped 22.4% in the second quarter from the year-ago period, according to the Association of American Railroads, after falling 16.3% in the first quarter. The drop in transport demand has left 25% or more of the U.S. rail-car fleet sitting idle.
Linda Turner, manager of fuel transportation strategies at Ohio-based utility FirstEnergy Corp. (FE), said such statistics will provide shippers with plenty of talking points when they sit down to renew rail contracts.
Shippers “have got a good case to make” that the pace of rate increases at least should slow, said Turner, who declined to discuss her company’s own rail negotiations. “Hopefully, (railroads and shippers) will come up with some kind of compromise.”
Longbow Research analyst Lee Klaskow noted that proposed new federal legislation, backed by some shippers, eventually could make it easier for rail customers to challenge certain rate increases, further eroding 2010 pricing power.
But Klaskow said he’s optimistic railroads will be able to push through small average rate increases for 2010, albeit below 2009 levels. Combined with cost- cuts and the potential for a slow economic recovery to start boosting freight volumes, he contends the rail sector remains a good bet.
“Longer term, in our view, the rails are very compelling investments,” Klaskow said, citing enduring trends such as increasing highway congestion and fuel- efficiency concerns that he views as favoring rail.
U.S. railroad stocks have had a mixed 2009 performance, with the Dow Jones Transportation Average off 13.4% through Wednesday. Also through Wednesday, Union Pacific shares have climbed about 2.3% in that period, although Norfolk Southern and Burlington Northern have fallen 23% and 10%, respectively, while CSX has slipped 3.2%.