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6 takeaways from CSX’s hearing on Pan Am Railways

Passenger-vs.-freight-rail tension, questions about market access transcend proposed acquisition

A Pan Am Railways heads to its next destination. (Photo: Shutterstock/Jonelle DeFelice)

The official focus of CSX’s recent hearing before the Surface Transportation Board was the company’s proposed acquisition of New England short-line railroad Pan Am Railways. But the dominant issues that surfaced — among them, passenger rail versus freight rail and competitive access to new markets — impact the freight rail industry as a whole as it seeks to position itself for more robust competition with trucking.

The following six themes, which played out at the two-day hearing, reflect broader challenges that the industry is facing.

Ensuring passenger rail access to freight rail network

President Joe Biden has sought to expand the U.S. passenger rail network, including Amtrak. But that raises challenges for freight railroads because Amtrak runs its trains on freight rail tracks for some of its lines. Freight rail and passenger rail also need to coordinate schedules at some locations.

CSX (NASDAQ: CSX) noted that many of those who have expressed reservations about the acquisition represent passenger rail interests as opposed to shippers.

According to Jamie Boychuk, executive vice president of operations, CSX has a dedicated passenger rail team that works 24/7 to resolve passenger rail issues. Passenger rail runs about 112 trains per day on CSX’s network, with Amtrak running 40 trains per day on CSX track.

“We recognize the importance of passenger rail to these railroads and their communities. We treat passenger trains as a top priority across our network,” Boychuk said.

Amtrak has raised concerns about the acquisition, but a number of those concerns have been addressed by CSX, according to both Amtrak and CSX President and CEO Jim Foote.

“We submitted a letter to the board reporting that we have agreed to begin hosting the Berkshire Flyer service. And we have also accepted all of Amtrak’s remaining requests for conditions,” Foote said at the hearing. “This is a significant commitment by CSX that puts teeth behind our assurances that we will continue to work collaboratively with Amtrak and other passenger rail stakeholders.”

Amtrak in a statement last Thursday welcomed CSX’s acceptance of six of the seven conditions Amtrak requested to ensure the performance and expansion of Amtrak service.

The seventh condition — CSX’s proposal to begin hosting Berkshire Flyer service on the weekend and seasonally between Albany, New York, and Pittsfield, Massachusetts — is awaiting review by Amtrak and its state partner, the Massachusetts Department of Transportation.

As Amtrak, CSX and STB hash out the details for Amtrak service in New England, the issue of scheduling passenger rail service on the freight rail network looms large.

Amtrak’s request to restore Gulf Coast service between Mobile, Alabama, and New Orleans came up several times during the hearing. The board will hold a hearing on the issue in February.

“Do I have concerns about commingling passenger trains with freight trains? Yes, that’s why it needs to be done correctly. … That’s why there needs to be the appropriate amount of analysis to make sure that that gets done,” Foote said.

He continued, CSX is “not opposed to putting passenger service in the Gulf Coast … but it has to be done properly with the appropriate level of infrastructure so that it’s safe, so that it can be done safely. That line down there is a single line piece of railroad that’s extremely busy … . The Port of Mobile has spent billions of dollars on developing in order to put more freight traffic on it. And [Amtrak] want[s] to start up a train without an analysis, without a study. … Do I have concerns about that? Absolutely.”

Dennis Newman, Amtrak executive vice president of strategy and planning, responded, “We were surprised to hear Mr. Foote raise safety as a major concern in the Gulf Coast matter,

but we will address that contention in more detail in the Gulf Coast proceeding.”

CSX seeks to be an impartial part-owner of Pan Am Southern

CSX has proposed 50-50 ownership of Pan Am Southern (PAS), part of the broader Pan Am Railways system, with Norfolk Southern. NS (NYSE: NSC) and Pan Am have been joint owners of the PAS line.

One concern about that idea, as expressed by STB members and others, is whether CSX would continue to invest in Pan Am Southern’s upkeep because it would have a competing line that runs parallel to Pan Am Southern’s route. 

That competing interest is why the U.S. Department of Justice has recommended divestiture of the line, while Canadian Pacific wants assurances that the line would be maintained (see below).

CSX said last week it would continue to maintain the line, which would include ensuring the upkeep of the 4.75-mile Hoosac Tunnel in western Massachusetts, as well as support efforts to enable double stacking at points along PAS’ Patriot Line, which runs from Ayer, Massachusetts, to Mechanicville, New York. 

“We have agreed to support any kind of public funding proposals that Pan Am Southern agrees is in the best interest of Pan Am Southern to put forward to that specific point,” said Sean Pelkey, CSX acting CFO. Pelkey confirmed that Berkshire & Eastern Railroad, a subsidiary of short-line operator Genesee & Wyoming, would operate the line for CSX and NS. 

Hub Group advocated for maintaining the Hoosac Tunnel and making capital investments to the PAS to allow for double stacking.

“My understanding is an agreement reached between CSX and Norfolk Southern will preserve competitive rail options [and] will increase fluidity of rail operations in New England. In particular, CSX and NS stated they’ll invest capital to open the route to double stack, and this investment will expand capacity, reduce manual workflow, lower operating expense, and lead to improved service and reliability,” said Vince Paperiello, president of intermodal and chief solutions officer for Hub Group (NASDAQ: HUBG), which handles logistics for retail CPG and durable goods shippers.

However, CSX warned that divesting PAS would not only threaten the deal but also set up operational challenges in the future for shippers on the line. 

“In a forced divestiture, there’s going to be a buyer, right? It’s a matter of at what price and … [if] there’s a fire sale going on, you may end up with a financial party that steps in, that doesn’t have the same interest that we do in preserving the viability of that line long term,” Pelkey said. “It could be a very challenging scenario that would not necessarily result in that line getting the attention that it’s going to get under this structure.”

CP wants assurances on access

As Class I railroads and short-line operators seek or propose M&A, the question for rivals is how a given deal will affect their ability to compete for customers.

Canadian Pacific wants CSX to ensure commercial access over PAS and to Pan Am Railways in both directions on the lines.  

CP (NYSE: CP) views PAS as CP’s access to the New England markets and the Boston area, handling “several thousand” carloads a year in non-COVID pandemic times, according to James Clements, CP senior vice president of strategic planning and technology transformation. 

“I just want to be very clear — we are not supportive of the idea of divestiture. We’re not advocating for the idea of divestiture,” Clements said. “When we look at the conditioning powers that the board has, we believe that there are appropriate conditions that can be put on this transaction in order to allow the public benefits on things like the double stack, competitive service … . What we’re seeking is the board to use their conditioning powers to effectively protect the competitive alternatives in the market.”

CP added that its concerns were over PAS and not with CSX’s takeover of Pan Am Railways’ broader network.

“We’re not looking for a condition that freezes rates or requires that Pan Am Southern treat every condition in an equalized way,” said David Meyer, an attorney representing CP. “We’re not trying to rigidify the way in which Pan Am Southern operates in the market and approaches the market. We’re just trying to preserve the incentives that exist today for Pan Am Southern to cooperate, in an effective and interested way, in building traffic interchange with Canadian Pacific.”

Foote responded: “We share the board’s preference to have these concerns worked out between the parties, so that the board doesn’t need to impose conditions. And we’ve attempted to do that here. CSX and NS are in agreement on nearly all the conditions outlined by CP today. And CP knows that. Yet CP won’t come to an agreement with us. It seems to me that there’s something else that is driving their position in this case.”

Motives behind CSX’s desire to spend $100M on Pan Am

The Class I railroads spend billions of dollars on infrastructure improvements every year, and investors expect those investments to translate into not only operational returns but financial ones.

Should the acquisition of Pan Am proceed, CSX has said it would invest in Pan Am’s infrastructure to improve the quality of the track and the assets. If CSX can improve track quality, then service metrics should also improve, executives said.

CSX plans to invest more than $100 million in infrastructure improvements on the Pan Am network over the next three years, with $50 million of that coming in the first year if the transaction is approved. The cost of the overall transaction has not been disclosed.

“One of the biggest reasons that we have delays, that customers don’t get their goods, is because there’s a mechanical breakdown. There’s an engineering defect in the rail. It causes the rest of the railroad to slow down,” Foote said. “And the reason they got the real slow track speeds is based upon the quality of that track. That’s what determines how fast you can go. So when we make the investments, we will improve the quality of the service and the reliability.” 

At the hearing, the board questioned why CSX was pursuing significant capital investments since it might not see immediate returns, especially considering CSX’s forecasts for Pan Am lines. CSX responded that the acquisition will be worth its price tag once CSX makes capital improvements to Pan Am’s infrastructure.

Said Boychuk: “This is a 100-year asset. We’re purchasing something that is going to be with us, that we’re bolting on to our network a lot longer than [multiple] generations. … We believe that there may be opportunities further years down the road. I mentioned to you the connection for us to be able to compete with the two Canadian Class Is up in New Brunswick. We’re hoping that over a period of time, we’re going to be able to grow business up in that area as well, whether that’s five years from now or 10 years from now.”

“We’re doing this not necessarily for the next two or three years. We’re doing this because it’s the right thing to do. And we’re doing it because we believe that the business over 50, 100 years is going to be providing more than enough to continue to pay for any of the capital that we’ve been putting up there.”

Pelkey said: “We’ve got a rigorous financial model that we put in place as we went through this transaction. That financial model included the investments that Jamie just talked about. It also included the traffic projections that we provided to the Surface Transportation Board. In addition to that, it included the fact that we expect to run a much more efficient railroad than what the Pan Am is able to run today, simply because of the infrastructure that’s in place.”

In Pan Am’s current condition, Pan Am would be unable to reach the kind of profitability that CSX seeks, and that is why CSX needs to make the capital improvements, Pelkey said. 

“Do we expect growth above and beyond the projections that we set forward in the transaction? We are going to fight vigorously to try to win new business over from the trucks. And the investments that we’re making in the rail infrastructure give us confidence in our ability to beat those projections,” Pelkey said.

CSX touts lack of shipper pushback

Shippers at times are critical of the performance of Class I railroads, and an M&A — especially one involving a Class I railroad — has the potential for shipper pushback.

But CSX noted that most of the concerns raised about the proposed acquisition came not from shippers but from local and state officials seeking assurances that CSX would maintain passenger rail access, as well as from CP and DOJ.

“We have put a tremendous, tremendous amount of effort into this transaction. We have looked at every detail to make sure that this transaction is successful. It is good for all of the constituents. And I believe — I could be wrong — I believe this is probably the first time ever that the STB has ever looked at a major railroad consolidation where there were no shippers complaining,” Foote said.

Indeed, shippers who testified before STB last week spoke in favor of the acquisition.

“One of the things that CSX should bring with this acquisition is some stability and operational consistency, which is what we need if we’re going to grow our business in the New England area,” said Steve DiCarlo, vice president of fuel management for Javelin Global Commodities. “In dealing with the CSX for many years, we truly understand how they operate. They are a first-class operation, and they do have the funds to invest in Pan Am and bring it up to what we think will be very successful.”

Kevin Boone, CSX executive vice president of sales and marketing, said shippers involved in moving commodities such as forest products and lumber could benefit from the acquisition.

“Pan Am customers will have access to a larger fleet of railcar equipment, like boxcars and center beams, which will allow them to grow their rail business. We believe there is significant opportunity to convert these movements to single line rail into the New York area,” Boone said. 

“Another example is liquid propane gas or LPG opportunities. The New England region is heavily reliant on propane for home heating during the colder months. The CSX-Pan Am combination will link low-cost sources of propane in the Appalachian region and Sarnia [Ontario] with large New England consumption areas on the Pan Am. This will provide a competitive alternative to overseas imports and western Canadian sources.”

Considering M&A in light of headcount reductions and PSR

As if to serve as a backdrop for the hearing, STB Chairman Marty Oberman at the start of the hearing expressed concerns over how CSX expects to achieve favorable service metrics given recent service challenges and falling headcount totals in recent years following CSX’s deployment of precision scheduled railroading (PSR).

“It really does raise a question in my mind that you’re planning to take over the operation of some 1,200 more miles of railroad. How is your team going to manage all of that and continue to improve the service you have,” Oberman said. “It is a problem which seems to stand out at this point in the history of CSXT [CSX Transportation]. You’re taking on a big new challenge of railroad that you acknowledge needs a lot of work. How can we have confidence that you really are going to be able to get your service levels back to where you say they should be so we can stop hearing about it from your customers?”

Foote acknowledged that the pandemic had exacerbated service issues, with about 800 CSX employees out sick in recent weeks. To address this and other service challenges, CSX has hired over 1,000 train and engine employees in the past 15 months. 

“The principal reason why we are having service delays across our network — even though we did a fantastic job as the economy switched to e-commerce and we performed extremely well during the peak season holiday rush, making sure that all the kids got their toys this year — the reason we’re having problems is because of the pandemic,” Foote said.

He also said CSX would seek to retain every employee already working for Pan Am.

And he defended CSX’s actions to eliminate “significant amounts of excess work throughout the railroad” that were the result of not properly realigning CSX’s operations with what the network had become through past acquisitions and mergers. The work that CSX had failed to do before PSR was reducing unnecessary “touches,” or instances when trains interchange at classification yards. Reducing these touches improved transit times, Foote said.

“We’re not going to go back and put in unnecessary work into the rail network when I think we have a fiduciary responsibility to our customers; we have an obligation to try and run the rail network in the best way we can.”

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Joanna Marsh

Joanna is a Washington, DC-based writer covering the freight railroad industry. She has worked for Argus Media as a contributing reporter for Argus Rail Business and as a market reporter for Argus Coal Daily.