1. Spending $ to Make $ Freight Rail and the Power of Capex
abh consulting
NARS
May, 2019

2. U.S. Freight Railroad Industry in One Chart
(index 1981 = 100)
300
250
Productivity
200
Volume
Staggers Act Passed Oct. 1980
150
100
Revenue 50
Rates
'64 '68 '72 '76 '80 '84 '88 '92 '96 '00 '04 '08 '12 '16
Source: AAR

3. RRs and NAFTA
 U.S. to Canada: intermodal, motor vehicles, chemicals, coal, food
U.S. to Mexico: motor vehicles, intermodal, food, grain, chemicals
Mexico to U.S.: motor vehicles & parts, food, electrical machinery
Canada to U.S.: intermodal, chemicals, lumber & paper, motor vehicles, grains
ASSOCIATION OF AMERICAN RAILROADS

4. Enduring (?) Railroad Competitive Advantages
Labor Advantage (ex: Double-stack LA-Chi)*
Fuel Advantage (4:1 ton/mile; AAR)**
Infrastructure Advantage (after the HIS buildout; user-pay and capex to support changing logistics patterns – ex: transcon)***
ASCE Grade B (includes passenger) versus USA Grade D
AV trucking?
** EV Trucking?
*** Infrastucture Bill? (LOL)

5. So – What is PSR?
Is it new? (car-focus vs train, etc) – components are not
Is it a playbook or an attitude?
Is it “just” cost cutting?
Is it closing humps?
Is it point to point?
Can intermodal survive PSR?
Is it key-man driven? (Change agent)
Does it work? PSR and PHR!
Is it too short term oriented? PSR & PHR!!
Creates a New Shortline “Golden Age”?

6. The “Grand Bargain”
In return for higher prices (& ROI), rails spend, increase capacity & improve service ( ) – The unstated “Grand Bargain”
Rails gain pricing power (~2003) & F/S
Rails (re) Gain Market Share
Rails Spend Cash “Disproportionately” on Capex (~18-20% of revenues)
Promotes “Virtuous Circle” – all stakeholders benefit
Under challenge, perceived and real – Vicious Circle?

7. Higher Railroad Profits Have Boosted Capital Spending
(Billions)
$25
$20
$15
$10 $5 $0
Capital Spending
Net Income
correlation = 76%
'05 '06 '07 '08 '09 '10 '11 '12 '13 '14 '15 '16 '17 '18
Source: AAR 2

8. Railroad Capital Spending
(Billions)
$20
$18
$16
$14
$12
$10 $8 $6
$4 $3.2 $2 $0
$17.4
$12.4
$9.2
$6.1
80 '84 '87 '90 '93 '96 '99 '02 '05 '08 '11 '14 '17
Source: AAR 8

9. Growing Railroad Net Income
(Billions)
$25
$21
$20
$15
$14 $14 $14
$13 $13
$12
$11
$10 $9 $8 $6 $7 $6 $5 $5 $3 $3 $3 $3 $3 $0
'00 '01 '02 '03 '04 '05 '06 '07 '08 '09 '10 '11 '12 '13 '14 '15 '16 '17 '18
Source: AAR

10. Much Improved Operating Ratio
90%
86% 87%
85%
84% 84%
85%
82%
80%
79% 78% 77% 78%
75%
73% 73% 72%
71% 70%
70%
68% 68% 68% 67%
65%
60%
'00 '01 '02 '03 '04 '05 '06 '07 '08 '09 '10 '11 '12 '13 '14 '15 '16 '17 '18
Source: AAR 17

11. Rapid Intermodal Development
(Billions of Dollars and Count at Origination for U.S. RR) 18 16 14 12 10 8 6 4 2
Spending
Containers
Trailers
'90 '92
Source: AAR
'94 '96 '98 '00 '02 '04 '06 '08 '10 '12 '14 '16 '18

13. Close Correlation Between Railroad ROI and Capital Spending
(Billions)
$20
16%
14%
12%
10% 8% 6% 4% 2% 0%
ROI (right scale)
$15
$10
Capital Spending (left scale) $5
correlation = 58% $0
'08 '09 '10 '11 '12 '13 '14
Source: AAR
'15 '16 '17 9
Note: ROI excludes accumulated deferred income tax credits.

14. Rail Industry Now Earns Its Cost of Capital
Railroad Cost of Capital vs. Return on Investment
18%
15%
Cost of Capital
12% 9% 6%
Return on Investment 3% 0%
'81 '84 '87 '90 '93 '96 '99 '02 '05 '08 '11 '14 '17
Source: STB
Note: ROI excludes accumulated deferred income tax credits – and excludes Canadian & Mexican results!
1414

15. Return on Investment is Crucial
 This slide illustrates the real world benefits and consequences of earning or not earning sufficient returns.
If ROI > cost of capital:
• Capital spending
expands
• Stronger physical
plant; more and
better equipment.
• Faster, more
reliable service
• Sustainability
Safety!
If ROI < cost of capital:
• Lower capital
spending
• Weaker physical
plant, equipment
• Slower, less
reliable service
• Disinvestment
ROI
ASSOCIATION OF AMERICAN RAILROADS

16. ABH Consulting/www.abhatchconsulting.com
Anthony B. Hatch
1230 Park Avenue
New York, NY 10128
(917)
Nov 16