Update of the Freight Rail Bottom Line Report: Continuing Study of Freight Rail Supply Meeting Demand Briefing for AASHTO Joseph Bryan WSP | Parsons Brinckerhoff Boston, MA November 13, 2016

Revisit Premises of 2002 AASHTO Freight Rail Bottom Line Report, Examine New Issues AASHTO Premises Private railroads are not responsible for solving national capacity issues. Railroads respond to market forces, which may not necessarily provide an incentive to add capacity at a pace to meet demand. Rationing of capacity will impact some shippers worse than others Public private partnerships are valuable capacity enhancing tools State DOT’s can further develop and implement performance measures to ensure effective PPP’s Conclusions of the 2002 Freight Rail Bottom Line Report are basically true, namely that relatively small additional investments in the freight rail system can be levered to provide relatively large public benefits

AASHTO Study Tasks and Status Work Item 1: Critique of SCORT Study Proposal Work Item 2: Review of the 2002 Freight Rail Bottom Line Report Work Item 3: Analysis of Railroad Share of Freight Movement Work Item 4: Impacts of Expected Railroad Share of Transport Market Work Item 5: Industries most impacted by Rail Capacity Work Item 6: Parameters for State-Railroad PPPs for Capacity Projects Work Items 7 and 8: Draft and Final Report We’re Here Began June 2015 End in 2017

Themes: Improved Class I Profitability Class I Railroad Combined Operating Ratio (Operating Expense / Operating Revenue) Source: Analysis of AAR Ten Year Trends

Railroads Covering Regulatory Cost of Capital Class I Railroad Industry Rate of Return on Net Investment and STB Cost of Capital Source: AAR Ten Year Trends

Railroad Investment More Than Doubles to 2013 Class I Railroad Capital Expenditure (Millions 2011 Dollars) Source: AAR Ten Year Trends

Short Line Financial Growth Not as Strong Results from American Short Line and Regional Railroad Association Survey 2002 2010 % Change Carloads 9.4 7.8 -17% Revenue (Millions) $2,815 $3,289 17% Revenue (2011$ Millions) $3,461 $3,359 -3% Miles 47,889 43,003 -10% Carloads per Mile 195 181 -7% Revenue per Mile $58,782 $76,483 30% Revenue per Mile (2011$) $72,263 $78,114 8% Railroad Cost Recover Index - Fuel 212.5 636.2 199% Source: American Short Line and Regional Railroad Association

2015/2016 Brings a Chill Wind, But no Return to 2002 Capacity Constraints BNSF: “While this year’s overall plan is $1.5 billion less than we spent in 2015…” UP: “Total volumes decreased 9 percent in the quarter, more than offsetting another quarter of solid core pricing gains…” NS: “Railroad operating revenues declined 12 percent compared with fourth-quarter 2014…” CSX: “With negative global and industrial market trends projected for 2016, full-year earnings per share are expected to be down compared to 2015” These are excerpts from recent railroad news releases and earnings announcements. In general, volumes are down, but railroad pricing is still strong. Railroad financial performance is not as strong as it was in 2014 but is still much better than when the last Freight Rail Bottom Line Report was prepared

Continued Railroad Specialization – Larger Shipments Sizes Source: Analysis of STB Public Use Waybill Sample

Unspectacular Growth in Markets Traditionally Served by Manifest Freight Millions of Tons Moved by Rail – General Freight Products Other commodities not shown also follow this trend. For example, shipments of chemicals outside of ethanol do not appear to have increased. Beyond sand, many categories of non metallic minerals are also flat or declining. Unfortunately, we don’t have detail beyond 2 digit STCC for what is shown. Source: AAR Ten Year Trends

Ups and Downs of Unit Train Traffic Millions of Tons Moved by Rail – Commodities often Shipped in Unit Trains The economics of unit train are favorable to rail. If you can load a whole train and deliver it somewhere a reasonable distance, chances are that rail will be preferable. Because of the favorable economics of rail, modal competition is lower, and there can be potential to earn a higher return. The railroad mode creates more economic value, so there is more value available for the railroad to take for itself. Here, the performance of rail is more a function of the demand for the underlying commodity.

Strong Intermodal Growth Helped by Investment Changes in Intermodal Tonnage In general, intermodal has been a success story, growing faster than other types of rail traffic. This has been made possible by significant investment by railroads and the public sector. These three examples are all in the East. They have been provided because we can quantify them. But western improvements have also enabled major increases in intermodal traffic. ===== If [Orig Name]="New York-No. New Jersey-Long Island, NY-NJ-CT-PA-MA-VT" or [Dest Name]="New York-No. New Jersey-Long Island, NY-NJ-CT-PA-MA-VT" THEN "PANYNJ“ IF ([Orig Name]="Norfolk-Virginia Beach-Newport News, VA-NC" or [Orig Name]="Columbus, OH" or [Orig Name]="Roanoke, VA-NC-WV" or [Orig Name]="Chicago-Gary-Kenosha, IL-IN-WI" or [Orig Name]="Detroit-Ann Arbor-Flint, MI" or [Orig Name]="Cincinnati-Hamilton, OH-KY-IN") and ([Dest Name]="Norfolk-Virginia Beach-Newport News, VA-NC") THEN "HC" ELSEIF ([Orig Name]="Norfolk-Virginia Beach-Newport News, VA-NC") and ([Dest Name]="Norfolk-Virginia Beach-Newport News, VA-NC" or [Dest Name]="Columbus, OH" or [Dest Name]="Roanoke, VA-NC-WV" or [Dest Name]="Chicago-Gary-Kenosha, IL-IN-WI" or [Dest Name]="Detroit-Ann Arbor-Flint, MI" or [Dest Name]="Cincinnati-Hamilton, OH-KY-IN") THEN “heartland corridor“ IF ([F33_Originating Territory]=1 and [F44_Destination Territory]=2) or ([F33_Originating Territory]=2 and [F44_Destination Territory]=1) THEN “crecent corridor related" Source: Analysis of STB Public Use Waybill Sample

Forecasts: Loss of Rail Share Due Slow Growth of Underlying Commodities Rail Percent Modal Share by Tonnage Ton-Mile Growth 2013 2019 2025 Rail Intermodal 1.2 1.4 1.8 Rail Non Intermodal 13.3 12.5 12.1 Total Rail 14.5 13.9 13.8 Total Truck 69.1 70.9 71.4 Source: American Trucking Associations Forecast, 2015 The table on the left is from TRANSEARCH, while the chart on the right is from FAF. Both generally have the same source, IHS Global Insight. Generally, these sources show rail losing market share to trucking as demand for the underlying commodities grows more slowly than that for commodities traditionally shipped by truck. Not, though that the trucking line follows the historic trend line, but the rail bends downward. Source: USDOT Draft National Freight Strategic Plan

Mode Shift Scenarios This is not a result of an analysis, but rather an input and assumption. These scenarios are the main variable driving the changes in the other variables.

30 Year Savings – Discounted at 7%   1% Mode-shift (Million $ in 2015) 3% Mode-shift 5% Mode-shift Shipper Savings $8,573 $25,720 $42,867 Pavement maintenance savings $3,000 $9,000 $15,000 Marginal congestion savings $1,073 $3,219 $5,366 Emissions savings - CO2 emissions savings $2,345 $7,034 $11,723 - NOX emissions savings $14 $43 $71 - PM emissions savings $520 $1,560 $2,600 - VOC emissions savings $0 Emissions subtotal $2,879 $8,637 $14,394 Safety savings - Injury crash savings $888 $2,664 $4,439 - Fatality crash savings $2,286 $6,859 $11,432 - Property damage only crash savings $103 $308 $514 Safety subtotal $3,277 $9,831 $16,385 Total Discounted Benefits $18,802 $56,406 $94,011 Total Undiscounted Benefits $55,488 $166,465 $277,442

Main Points To Date & What’s Next The railroad renaissance: Over the past decade, Class I’s have been better able to invest Rail mode share is driven by performance of rail service Slow growth in manifest Ups and downs of unit train Investment helps intermodal Freight rail yields significant benefits What’s Next: Reboot central message of the 2002 Report Freight rail projects can be good public investments Going beyond Help states be smarter about public/private partnerships As we shift this project to the question of when public/private partnerships are appropriate and the role of state agencies in freight rail investments, several directions occur to us. One is that maybe the role of state agencies should not be a generic “let’s promote rail.” Rather, let’s promote specific rail services that the railroads, investments for which the railroads would not have funded or not have funded any time soon. There may be a difference in the need for state agencies to fund projects to promote bulk unit train v. intermodal v. manifest freight projects.

Next Steps Reflect Changes Since 2002 Freight Rail Bottom Line Report Then Now Concept that small public investments in freight rail could yield large public benefits was new Public benefits of freight rail are well established Public investments in rail were primarily limited to corridor preservation A range of investments (Intermodal, operational, port-related) Freight traffic was growing rapidly Traffic was just beginning to recover from the recession, when coal, other factors caused a decline Capacity appeared to be a major issue Short term capacity problems, but not as consistent a story Railroad revenue per ton-mile was drifting downward, didn’t seem that industry earned enough to reinvest Not as consistent a story

Next: Issues for Work Item 5 Which industries most likely to be impacted by rail issues/benefit most from resolving rail issues Purpose Provide guidance of industries that would benefit from public investment in rail infrastructure Help states to communicate industry rail needs with stakeholders Understand better the dynamics of rail service, what drives the level of service shippers receive in order to inform state decisions

Work Item 5 – Likely Hypotheses Size matters – better service for larger shippers Ease of serving matters Unit train/big blocks of car require less cost/effort Consistency of service matters – easier to be a conveyor belt than constantly reacting to surges The future matters Growing source of business Stable/predictable Direction of US trade and energy policy Location matters Underutilized portions of networks vs. mainline Competition matters How much is always a question

Approach to Evaluation Interviewees Trade associations Shippers Agriculture Chemical Intermodal marketing Materials handling Steel Forest products Automotive Food Oil and Gas Short line industry Types of Questions Rail service issues Shifts in the nature of rail service Criteria for rail service Railcar ownership Determinants of rail service within industry Usage of rail/truck modes, truck alternatives Short haul intermodal usage Volume shipped per shipper Result: Matrix of Industries and Rail Issues, Differences between Industries in Terms Resource Intensity of Rail Service, Likely Parameters of Service

Defining the Parameters Public/ Private Partnership Work Item 6: Parameters of State – Railroad Public/Private Partnerships Defining the Parameters What the public sector would invest in What the private sector would invest in Public/ Private Partnership Opportunities

What the Public Sector Would Invest In Drivers of Benefits Volume of freight impacted Likelihood of modal shift without project Level of modal shift attributable to project Drivers of Economic Impacts Job creation Number of businesses Land development, tax revenues, local economic health Other DOT strategic plan, development strategy Impacts on general public

What the Private Sector Would Invest in Return on Investment Revenue Costs of service Growth prospects Cost reduction Other Factors Risks Competing opportunities Fit with existing service Fit with corporate growth strategy Corporate governance

Indications Railroads Might Invest Without Public Involvement Size of project relative to volume of freight impacted Risks of traffic not materializing Likely outcome if project is not completed, i.e. extent to which project is on “core” network or part of long-term strategy Additional maintenance burden from project Typical hurdle rate Relative balance of public and private benefits Financial context Other factors such as competing investment needs, limited funds , which create uncertainty

Closing Consideration Railroads have system-wide network strategies that move markets and drive their investment States programs mainly focus on their own back yards Would public sector programs be more effective in supporting the right projects and generating benefits if we used regional network strategies?

Questions/Comments BryanJG@pbworld.com