The Surface Transportation Board opened a series of proposed rulemakings aimed at helping shippers who have been hurt by widespread railroad service failures over the last several years.
But the question is: Will it be enough? The changes recently proposed deal largely with ratemaking procedures but appear to do little in the near term to address the most severe service problems that have been experienced by many rail shippers.
In recent years, shippers have repeatedly called on the board to address widespread disruptions caused by the adoption of an operations model called Precision Scheduled Railroading.
Rail shippers also want reform of rail ratemaking procedures and the adoption of reciprocal switching, which allows the cars of one railroad to run on the tracks of another (AA, 7-31-19, P. 1).
In separate action, a group of shippers sued several major railroads, alleging that they conspired to fix prices when setting fuel surcharges.
On Sept. 12, the STB proposed changes to simplify its procedures for handling of rail rate disputes that had been suggested earlier by an agency staff task force (AA, 8-15-19, P. 5). The rules would reduce the cost and complexity of small rate disputes, and simplify the tests for developing the Stand-Alone Costs used to determine revenue adequacy and whether a railroad enjoys market dominance.
One of STB’s proposed rules would change how it determines the railroad industry’s cost of capital, which is used in approving rates made by the Class 1 railroads and has been controversial since the passage of Staggers Rail Act in 1980.
One persistent irritant to shippers is how rare it has been for the board to find the railroads are “revenue adequate” under the law, making it nearly impossible for shippers to challenge rate increases.
Just last month, the STB declared that only three Class 1 railroads are considered to have been revenue adequate in 2018 — CSX, Union Pacific Railroad and Canadian Pacific’s Soo Line.
During a July 25 House of Representatives listening session, Randy Gordon, president of the National Grain and Feed Association, told the members of Congress present, “There has been one rail rate case that has been filed with the STB since Staggers back in 1980. It took 18 years to resolve it – and the shipper lost.”
In figuring what is a railroad’s cost of capital, the board currently utilizes the weighted average of the cost of debt and the cost of equity. When it came to settling on the right percentage of revenue in 2018, the STB determined that number to be 12.22%. – the exact figure that was suggested to it by the Association of American Railroads.
On Sept. 30, the board also proposed using a new method for costing. “While the cost of debt is observable and readily available, the cost of equity (the expected return that equity investors require) can only be estimated,” the STB explained.
The board currently uses two methods for making this determination, and its proposal would add a third one to the mix.
The proposed change, called Step MSDCF, would combine those two methods with a new one to come up with a weighted average for figuring a railroad’s cost of equity.
One method used by the board is the Capital Asset Pricing Model (CAPM), which describes the relationship between systematic risk and expected return for assets, particularly stocks.
CAPM is widely used by the finance industry for the purpose of pricing risky securities and generating expected returns for assets given the risk of those assets and cost of capital.
This would seem to be an odd method to deploy given the Blue-Chip reputation of Class 1 railroad stocks, especially since CAPDM has been criticized for being too simple and flawed because it assumes that future cash flows can be estimated.
The other method STB has previously relied on is called the Morningstar/Ibbotson multi-stage discounted cash flow (MSDCF) model.
It measures the cost of equity as the discount rate that equates a firm’s market value to the present value of the expected stream of cash flows which allow a company to attain revenue levels that should permit the raising of needed equity capital.
The change proposed by the board would add in the new method it’s calling Step MSDCF. It uses a formula for valuing investments developed by New York University Professor Aswath Damodaran that is included in his textbook: Investment Valuation: Tools and Techniques for Determining the Value of Any Asset.
A detailed explanation of the formula is contained in the STB proposed rulemaking notice. Making direct reference to the adoption of Precision Scheduled Railroading operating model by railroads, the STB said the proposed change “could enhance the robustness of the resulting cost-of-
equity estimate during periods, like the present one, in which certain railroads are undertaking significant operating changes.”
<h3>Chemicals and Fuel Surcharges</h3>
Also on Sept. 30, in a separate proceeding, the board proposed changing its rules governing railroad performance data reporting for chemicals and plastics traffic. Chemical shippers had petitioned the board to obtain the change.
The new requirement would make chemicals and plastics traffic a distinct reporting category in the Class I railroads required weekly reports of the “cars-held metric,” which is derived from tracking the average number of loaded and empty railcars that haven’t moved for 48 hours or longer.
“The board’s proposed reforms are a positive step toward improving how the STB addresses freight rail problems, and we look forward to working with the commissioners and their staff,” commented American Chemistry Council President Cal Dooley.
“Chemical manufacturers across the country have been negatively impacted by excessive freight rail charges and lack of competitive rail service for too long,” he added.
Just three days earlier, shippers were less than happy with another STB decision, when it dropped a proceeding that was looking into railroad fuel surcharges. The board said it was deadlocked over whether it should remove a safe harbor provision under current fuel surcharge rules.
“The board’s statutory responsibility is to regulate and eliminate unreasonable carrier practices, not to arbitrarily brush them aside,” the Freight Rail Customer Alliance and individual utility and coal shippers told the STB, asking it to reopen the decision and adopt rules “to stop (or reduce) carriers’ ongoing fuel surcharge profiteering.”
In a separate action, about 30 major rail shippers filed an antitrust lawsuit against CSX, BNSF, Union Pacific and Norfolk Southern, alleging that they profited unreasonably by conspiring to illegally set fuel surcharges between 2003 and 2008.
The shippers were forced to file this lawsuit as individual plaintiffs after a federal judge rejected an earlier attempt by attorneys to certify a class action suit on behalf of 16,000 rail shippers.