The Railroad Week in Review:
Week Ending September 12, 1998

So much for another roller coaster week on Wall Street. The major rails pretty much ran the gamut from down 5% to up 6%, trading in fairly narrow dollar ranges. The big boost this week went to Wisconsin Central (Nasdaq: WCLX), up 11% on no news. Elsewhere, both CSX (NYSE: CSX) and Norfolk Southern (NYSE: NSC) continue to trade at steep discounts from their Jan 1 numbers, and the longer the merger goes without final resolution the longer these worthies will take to rebound.

Recall NSC and CSX opted to create shared asset operations in Detroit, North Jersey, and Philadelphia/South Jersey. The thinking was the Conrail rationalization program had so scrambled these eggs nobody knew what was what any more let alone how to sort them out along the PRR/NYC format of the rest of the merger. Shared Asset Area (SAA, or "new Conrail" ) Chief Operating Officer Elect Don Nelson told the NJ Shortline group on Thursday that the SAAs will have the same field staff they have now. Moreover, most of the T&E and mechanical/engineering crews will remain in place. The fact of the matter is there are a lot of senior people who don't really want to move. This is very good news indeed.

Nelson and company are already into capital programs and plant enhancements that will be needed to serve both masters. Getting back the double track on the Chemical Coast is one big item as it will relieve pressure on NK-Aldene, now the only way west out of Oak Island for both NS and CSX and which is shared with New Jersey Transit. Spiffing up the Chemical coast gets you out south to Port Reading thence west to Bound Brook and Manville to head west on the former Lehigh Valley (NSC) or south on former Reading to Philadelphia and beyond (CSX).

Look for more offshore acquisitions on the part of RailAmerica (Nasdaq: RAIL). CEO Gary Marino told me during a recent visit the overseas rail privatizations will continue to provide access to valuable franchises for some time to come. So far RAIL has purchased a majority interest in Ferronor, a 1,400-mile Chilean railroad, and a minority interest in Australia's Great Southern Railway, operator of the 4,000-mile transcontinental passenger concession. The parallel between the two is a joint venture approach with local partners rather than outright soup-to-nuts acquisition. Marino stresses the need for sensitivity to cultural issues as well as the usual operating and financial ones, and that can only be applauded.

I was particularly interested in Ferronor thanks to some striking parallels with the English, Welsh & Scottish Railway (EWS) run by Wisconsin Central. Recall that EWS is building a business base in short-haul, short train bulk commodities where car cycle time is measured in turns per week or even per day. So is Ferronor.

Both properties have longish north-south lines with a good chunk of the total tonnage running east-west between mine/origin and user/port. Unlike England, Chile has no M-roads for heavy truck traffic, so as EWS wins back share by doing a better job than herds of lorries, growth for Ferronor will come from opening up new industries to wider markets. Less customer money for goods movement means more money for the goods vendor, and that can only be good for the low cost goods mover.

Says Marino, "Mining companies are coming to us because they want to open or expand operations and they need the rail to get their products to market." More than $1 billion worth of new copper, iron ore, limestone and nitrate mines are opening in the Ferronor service area.

Also like EWS, Ferronor has seen headcount decline and tonnage go up. The joint venture was established in early 1997 and there were nearly 400 employees. Today the railroad runs on half that. The 1995 traffic base comprised some 32,000 cars on 1,400 miles of mainline carrying 2 mm tons of cargo, 95 % of which was dry bulk. Iron was 85% with copper and limestone comprising the balance.

New business is being negotiated in long term "Take or Pay" contracts, thus assuring a steady revenue stream and -- assuming service remains up to par -- repeat business, something small railroads typically lack. Marino could point specifically to more than 8 mm tons of new business on the table plus a ten- year 500,000 ton-per year potassium chloride project part of which Ferronor is building 14 KM of new and rehabbed branch line to access.

Investment-wise, RAIL has been trading in the $5-7 range for a year now, hitting its high last November and drifting lower ever since and leaving a 200-day average of right around $6. Last week's blow-out had little effect. For the nonce, RAIL is at 15.5 times 1998 estimates vs. the industry multiple of 13.7. By way of comparison, RailTex (Nasdaq: RTEX) goes for 9.8 times 1998 estimates and Genesee & Wyoming (Nasdaq: GNWR) is down to 9.4.

The two analysts following Rail see 1998 earnings coming in at 48 cents, 59% ahead of last year, and the 1999 estimate from the two analysts putting up those numbers rests at 65 cents where it's been for the last 90 days.

Responding to last week's commentary on Kansas City Southern (NYSE: KSU) A financial analyst friend on the west coast asks, "Roy, regarding the comments you quoted on KSU why is [your Motley Fool correspondent] comparing it to Travelers (NYSE: TRV) or American Express (NYSE: AXP)? I think these 2 are much more complex organizations, while the financial management biz at KSU is essentially just a money management firm, with the DST holding tacked on.

"Wouldn't it be fairer to compare Janus/Berger to say a T. Rowe Price (Nasdaq: TROW) or Franklin Funds (NYSE: BEN) or a host of other money managers? Post- split up of KSU, it would appear Janus/Berger would fall into THAT comparable group, and would deserve a high end of the group valuation, given its track record of asset growth and profitability. Not that KSU didn't deserve a pounding along with the rest of the market, given the nature of Janus' biz."

The same analyst writes, "As for Union Pacific (NYSE: UNP), the buzz seems to be that they've turned the corner, in spite of or because of (?) senior management. But this just means the system is more fluid than it was at their nadir. Now carloadings are well below the prior peak levels, so the question remains can they run it fluid while increasing carloadings?

"Further, the concern I have is, if they increase carloads, will this be incremental "new" biz for the western rails, or will they just be recapturing biz from Burlington Northern Santa Fe (NYSE: BNI) and KSU? I just don't know if they've got their act together enough yet." Nor, actually, do a lot of us.

Which is why it's so good to get out and kick the ties and have a look for oneself. Recall that on the BNI Stampede Pass trip Krebs and Babb made no bones about market share they were picking up at UNP's expense. And as every student of industry knows, share once lost can be mighty tough to regain.

RailTex August 1998 carloadings increased 4% over August 1997 thanks to traffic gains primarily in railroad equipment and, to a lesser extent, minerals and stone, food products and chemicals. These gains were partially offset by decreases in coal, autos, metals, petroleum products and other products. Carloadings include the recently acquired Central Properties, a shortline holding company based in Kokomo IN with ownership and rights from Logansport to Cincinnati. Year-to-date August 1998 carloadings increased 11% to 349,997 from 314,184 in the prior year period.

On a "same railroad'' basis, carloadings were essentially flat August to August. Increases in railroad equipment were primarily the result of a movement of empty coal cars for the Union Pacific from an Arkansas Power & Light plant to Kansas City via the Missouri & Northern Arkansas Railroad. These increases were offset by decreases in coal, where 1997 results included certain short-term spot coal movements not present in 1998, and in automobile traffic, reflecting a decreased level of shipments as a result of the General Motors strike. Revenue figures were not released.

--Roy Blanchard

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