Tuesday, March 05, 2013

CSX’s capex strategy

Written by  Roy H. Blanchard, Contributing Editor
CSX’s capex strategy Steve Schmollinger

From intermodal infrastructure to doublestack clearances to new locomotives, CSX continues to invest.

“It starts with the customer.” That’s Core Value No. 1 at CSX, and the capital expenditure plan for 2013 is built precisely to support still greater transportation value for the customer. The core capital plan of $2.3 billion remains at 16%-to-17% of revenue with 54% to infrastructure — track, signals, shops, yards, e.g — to support and sustain the high levels of service and customer satisfaction that have come to characterize CSX over the past few years. Another 12% of the 2013 capex budget (down from 24% in 2012) is for newer, better, more efficient locomotives and cars, continuing a process begun some years ago.

What CSX calls “strategic investments” are chiefly designed to meet the growing demand for truck-competitive intermodal service (in 2012 CSX moved 2.3 million units, up 14% from 2009) such as double-stack clearing the core route in western Pennsylvania and the new intermodal terminals in Ohio. These investments will represent 17% of the 2013 capex budget, up from 12% in 2012.

PTC will take 14% of 2013’s capex dollars, some $325 million, up from 12% of the 2012 capex plan’s $270 million, a year-over-year increase of 20% and the largest percentage increase of any capex category. Chief Financial Officer Frederick Eliasson says another $800 million is slated for PTC beyond 2013, bringing the total PTC investment to $1.7 billion.

Earnings from continuing operations grew at a nominal compound annual growth rate of 38% between 2003 and 2012 even as the number of employees declined at an annual 2% compound rate. Since 2003, the firm has grown faster than the economy and done it while decreasing the number of employees. And there’s no sign of letting up.

CSX has ramped up its capital expense plans by a whopping 64% in the 2009-2013 period. Four years ago, capex was a mere $1.4 billion, slightly more than 15% of revenues, including PTC (what CFO Eliasson calls a “1.7 billion capex overlay.”). At the same time, CSX increased revenue by a third, dropped the operating ratio to 70.6 from 74.9, and has reduced the Personal Injury ratio by 43% to 0.69 injuries per 200,000 hours worked, a record low. Clearly CSX is adding customer value — safely — and Railway Age wanted to know how the trend will continue in 2013.

In an interview at his Jacksonville, Fla., office, CSX President and CEO Michael Ward discussed how the capex program “starts with the customer.”

Railway Age: How does the capital program adds value to the transportation product?

Ward: We’ve been spending consistently on the track structure — some $700 million-to-$800 million a year — as our volumes grow because having good track makes a huge difference in the service you can provide. It’s a fact of life in the railroad business that failures on one place cascade down through the system to cause service failures elsewhere. We have more reliable power, nearly eliminating line-of-road failures. We’re getting a handle on equipment failures, starting with an aggressive wheel-replacement program.

RA: The “One Plan” has now been in place for several years. What’s been learned from the process and how has it help mold your plans for future investments of time and money?

Ward: Implementing the One Plan was the best thing we ever did. It enforces the discipline we need to run the right trains the right way. Before the One Plan, local operating decisions may have helped lower short-term local variable expense but they didn’t always contribute to our overall goal of keeping the system fluid.

You may save a train start but you get power and crews out of position for the next move. It’s another example of how something not done right in one place can cause a cascading effect in other places across the system. We insist our local operating managers Run to Plan. Then we can measure plan compliance and take remedial action. Trains running too short? Then we have a bad plan and we’ll fix it. That’s why we run to the plan — no ad hoc local decisions. And you know what? Critics said One Plan would add cost but we’ve found it actually takes out cost.

RA: How does Running to Plan add customer value?

Ward: Running to Plan gives the customers what they want: be here when you say you’ll be here and tell us if you can’t. You may recall the big push we had for our Total Service Integration (TSI) plan for the intermodal and unit trains. We wanted to get to the ideal train configuration — power, OD pairs, crews, track time and so on. And by doing so we become a more efficient railroad with more tons per car and more cars per train — the Holy Grail of railroading — solving the inherent challenges of the merchandise or batch network.

Now we’re rolling TSI out to the merchandise network. Our VP Transportation, Cindy Sanborn, is heading up the project and is perfect for the job. She’s probably the most customer-focused chief transportation officer I’ve ever seen. She has no qualms about asking the hard questions; they all boil down to, “How do we make that batch network run better?”

RA: The batch network of core trains between serving yards still becomes very truck-like and more custom than batch in the first-mile, last-mile gathering and distribution network. How do you ensure the operating disciplines of the core network make it to the local network?

Ward: To begin with, local crews have a lot of incentive to provide good service. They interact with their customers on the loading docks, in church, on ball fields, and in the community and quite naturally want to be proud of what they’re doing. Having happy customers is best job security they could ever have. So it’s not a matter of convincing train-and-engine crews about anything. Cindy’s approach is to build a strong service culture on their own passion for the work, very much the same way we’ve built a safety culture that’s created the best safety record in the history of CSX.

RA: How do you measure local service performance?

Ward: Our Industrial Switching Excellence (ISE) tool has shown that, properly applied, we can serve more customers more often without increasing the number of assets employed. Just as the One Plan makes core trains run the same way every day — no “audibles,” please — the TSI merchandise model is proving out the same theme. You start out with The Plan, only in local service The Plan is the crew work order, and the ISE metric is really a work order compliance tool. Does the crew do the work on the work order? Yes or no, complete or a service failure.

But what if a car is not on the work order? That’s just as much an ISE failure, so we’re changing the metrics to make sure that cars that are supposed to be on the work order actually are on it. The customer doesn’t like to see cars that are supposed to be at his place still in the yard, and that’s worse than having the road train a day late. Conversely if they load it, release it and we don’t come and get it, it’s a failure.

Some things are harder to get right than others. Take car ordering. One at a time with a day’s notice is easy. But if the customer wants five cars a day, he wants exactly that. Used to be, we’d give him 25 in a sequence like 5-0-10-9-1 and score ourselves as meeting the order. Wrong. Not getting five a day messes up the customer’s supply chain operation and negatively impacts his customers. So the ISE tools measures how well we do what we commit to.

Running to Plan, whether in local merchandise service or in over-the-road core trains, is paying paying big dividends in lower per-unit variable costs and lower fixed costs. Running to Plan gives us a better product to sell, thereby increasing revenue-unit volumes and revenue, thereby lowering the operating ratio.

RA: As you increase revenue-unit volumes, cars-on-line will go up. You’ve said in the past that CSX works best in the 185,000 to 190,000 range. Where are you now and how far can you go without clogging up the railroad?

Ward: We’ve been running comfortably in the 185s late in the 2012 fourth quarter, occasionally pushing the envelope into the 190s. We could begin to get clogged up at the 230-240 range but we have a lot of room between here and there. I have to say that we’ve easily run well in the 220s. The secret is running a high percentage of on-time departures simply because the largest single cause of late arrivals is — wait for it — late departures.

We’re right running at 90% on-time departures, and on-time is on-time. There is no slack: 1,700 hours is 1,700 hours. Back in the day when we measured to a two hour window, people ran to that. And we soon found that making the measure on time plus two adds about ten points to the operating ratio. That’s why on-time is on time. To the minute.

RA: You said during the Q&A following the third quarter 2012 earnings call that spending money in slow times pays off. What did you mean by that?

Ward: Used to be that when business was down you laid off people and cut capex. That’s flat wrong. it’s easier to hire the right people and rebuild your railroad in slow times. There is less competition for the right hires, there is less pressure on suppliers to get the top dollar for everything and there’s less competition for track time.

But if you slack off in bad times it’s tough to play catch-up when business starts coming back and the railroad starts filling up. So we’re doing what we can while we can and that gives us the dollars to fund the needed capex programs the next time volumes head south.

That’s one reason we’re putting something north of $2 billion today into the railroad, up from a mere $900 million not that long ago.

PTC mandate drives C&S investment

Positive Train Control (PTC) largely dominates Communications and Signaling investment as Class I railroads work to meet a federal mandate. Frank Lonegro, vice president-Mechanical at CSX, oversees the company’s implementation of the PTC initiative. It is major in scope: installing PTC on 3,600 locomotives, installing communications systems specifically designed for the PTC platform, making wayside signals of varying vintages PTC-compatible, and assuring interoperability with every other PTC-equipped railroad in North America.

RAILWAY AGE: You’re really having to design the whole thing from scratch because nobody’s ever had anything like this on their systems. Where do you begin?

FRANK LONEGRO: FRA (the Federal Railroad Administration) requires PTC systems to be interoperable, so we’re working as an industry to develop the standards and requirements for the system. We’re really having to establish the standards as we go. There is an interoperable Train Control Committee (ITC) that is charged with developing the system’s specifications. One of the challenges is to get consensus among roads that may have unique aspects to their operations. Having said that, the level of collaboration between roads on PTC is unprecedented for our industry.

The PTC initiative has many components: the pure software and hardware technology on locomotives, along the wayside, and in the office, the supporting geographic information systems (GIS) and the communications networks and devices to make sure it all works together. While we are developing one system, each road’s operations, dispatch systems, locomotives, signal systems, and MIS infrastructures are different. So we’ll be testing the system independently in our own environments, and then testing interoperability with the other roads. We need to make sure our PTC system covers not only our railroad but also can communicate seamlessly with our direct rail connections.

RA: Can you give an example? Locomotives, for example, where we have EMD, GE, Caterpillar, Brookeville, and even Alco as extant brand names, multiplied by the many styles and types from each.

LONEGRO: Locomotives are a good place to start. We’re equipping 90% of the fleet — say 3,600 locomotives — for PTC, as the remaining 10% stay exclusively in yard service and generally won’t get out on our PTC line segments. We partially provisioned 800 units last year, will do another 800 in 2013, and the balance over the next two years.

Last year we had to be nimble because not all the components we needed were available. So we did “provisional installations” that get all the pre-wiring, antennas, and mounting brackets installed. This is the most labor-intensive part. We know what connections the PTC system will have and what it needs to plug into on the loco. We’re working with schematics for some 20 different locomotive classes, and then there are variations within each class.

PTC braking control system, not a throttle-control system. The PTC onboard hardware and software can cost $50,000-to-$100,000 per unit, broadly speaking. Newer microprocessor engines cost slightly less to equip and older non-microprocessor units can easily cost more to retrofit for PTC than the locomotive is worth on the resale market.

RA: What about wayside signals? On CSX you have some older electro-mechanical signal systems installed on predecessor roads maybe 60 or more years ago as well as the latest microprocessor systems. How do you bring that wide spread of technology into the 21st century?

LONEGRO: We have maybe 6,000-to-7,000 track miles with older non-microprocessor systems designed and built way before anything as advanced as PTC was conceived.

Newer is cheaper in terms of hardware and software, installation and testing. For newer equipment, it is plug and play; for older equipment, you have to essentially replace everything: all the wiring, relays and even sometimes the bungalow and connections to the track circuits.. Then of course we have to retrain the signal maintainers on the new technology. Wayside infrastructure improvements will represent more than half the $1.7 billion CSX will invest in PTC. We’ve done more than 25% to date, with the rest to come at an accelerating rate.

RA: Once you get the locomotives and waysides equipped, what’s next?

LONEGRO: Communications is next. The FRA requirement is for all the railroads’ systems to be interoperable, so, for example, CSX locomotives have to be able to talk to Union Pacific PTC wayside systems. The 220 MHz radio will be standard so essentially every Class I road locomotive running in the United States— and every PTC wayside installation - needs one.

The railroad industry is in the process of acquiring the radio spectrum and building out base stations with an element of redundancy. Two companies are taking the lead. PTC 220, LLC, is a new venture owned by the seven Class Is to acquire and allocate radio spectrum. The second company is Meteorcomm, a Seattle-based company, owned by BNSF, CSX, NS, and UP , that is developing the radios and communications system software for railroad interoperability.

RA: OK. You have the plan to get the locos wired, the base stations set up and the waysides all talking to everybody. Tell me more about this new PTC technology.

LONEGRO: Wabtec is designing the hardware and software for the train management computers themselves. There’s also a back office system that acts as a hub and translator between each railroad’s unique dispatching and MIS infrastructure. All of this is unfortunately still in development and we’ve identified new challenges through the development process. For example, seemingly basic operations like dispatching systems must be reconfigured to provide the level of granularity PTC needs — where the requisite levels run into the thousandths of a mile or roughly seven feet.

That’s because, as I mentioned earlier, PTC is a braking control system and as such needs to know nearly exactly where the operating authority runs out and where the train needs to start braking before it encroaches on the next authority. And so we’re remapping the entire railroad to that level of precision and developing processes to keep track of field asset changes going forward.

RA: From what you’ve said, I gather you have four phases of the project running simultaneously: locomotive, wayside and office hardware and software, GIS mapping, the communications component and testing everything as you go. Can you get everything done by the Dec. 31, 2015 deadline set by Congress in the Railway Safety Improvement Act passed in late 2008?

LONEGRO: The FRA published its PTC Final Rule in January 2010, some 15 months after the legislation, and it’s not yet final, to be honest. There have been two additional Notices of Proposed Rule Making, the most recent in December 2012, so we probably won’t see the truly final rule until the end of this year, a full five years after the legislation itself.

At the start of 2012, the industry submitted a PTC Status Paper to FRA that stated the nationwide PTC network would not be completed by 2015. Despite that, we are proceeding with all due haste to get systems developed, tested and installed across our network. We want to ensure that we do this safely and without an undesirable impact on the operation. We have a dedicated team of professionals working on this complicated and challenging project, moving the ball forward.

Infrastructure and asset utilization

CSX Chief Operations Officer Oscar Munoz says the railroad’s capital program for 2013 is, at the foundation, all about the ongoing adjustments to resource allocation necessary to meet the customer’s rail transportation needs.

RAILWAY AGE: You talk about asset utilization, network fluidity, and the dynamic business environment. How do these factors affect the 2013 capex program in terms of locomotives, track structure, and train control?

OSCAR MUNOZ: We must provide the service levels that our customers require and deploy resources commensurate with revenue-unit volumes even as we take out variable costs. A nimble and flexible operation can achieve the balance we need to address customer supply-chain requirements, build on our market strengths, and do what our investors expect of us.

Additionally, the CSX Enterprise Asset Management initiative focuses on improving asset utilization. The more we can use the assets we have, the fewer new ones we need to buy. Keeping the network fluid is essential because consistent, reliable service reduces the number of assets needs, and thus capital demands, of running the railroad. And we’re strengthening our track infrastructure through regular repair augmented by a rigorous inspection and testing program to ensure safe, reliable service delivery.

RA: In other words, a strong service product drives long-term value for customers. Can you provide any specific expenditures that facilitate the “strong service” product?

MUNOZ: Excessive overtime is a killer; root-cause analysis can often suggest a plan or execution defect, as we discovered last year when we exceeded expectations for Operating to Plan. Money spent to maintaining proper resource levels and a safe, reliable track structure is another contributor to a strong service product. Here are four examples of what we’ve done:

1. The Joint Wayside Detection System gets us better asset utilization and train velocity by identifying equipment health issues before they can cause over-the-road service failures.

2. The Intermodal Terminal Operating System that increases terminal capacity by using our wide-span cranes to stack containers not ready for immediate movement beyond.

3. The Advance Planning Tool for track-maintenance windows, giving us better control over MOW crews’ track-time, reducing slow orders and keeping trains moving non-stop through work zones.

4. Our Crew Availability System and Crew Balancing tools that proactively manage T&E crew availability and deployment.

RA: Superior service levels, asset utilization, reduced overtime, and improved fuel efficiency are all interrelated. How have past capex programs made these savings come about and what are your expectations for the 2013 capex program?

MUNOZ: This is, as you know, an asset-intensive business in which investments must be made regularly to accommodate growth and to assure recoverability. Since 2004, CSX has invested consistently to build a premier network. Reliability is a key factor in achieving productivity: trains that run on time consume less fuel, meet budgeted crew expenses and, most important, deliver freight to customers on time.

Higher productivity lets us direct capex investments to building the revenue base rather than acquiring surplus asset levels to account for unplanned needs. At the same time, it’s important to build in proper recoverability levels since weather and other events are always a part of railroad operations.

Finally, we’re investing in new technology that helps sustain higher service levels with fewer resources. The newer locomotives in our fleet are more fuel-efficient and many have on-board technologies that help the engineer optimize the throttle position to match the grade and curvature of the track as well as the makeup of the consist. We’re also moving to higher-capacity rail cars so we can move more tonnage with the same number of train-starts.

RA: Gross ton-miles per gallon on CSX have increased 5% during the past five years even as fuel costs are up 47% in the same period. What locomotive types are your best performers and are any more on your 2013 shopping list?

MUNOZ: Our newest locomotives, regardless of brand name, are the best fuel-efficiency and tractive-effort performers. We have been purchasing new locomotives for several years and those acquisitions will continue. Meanwhile, we’re putting those units that have higher rates of fuel burn and require more maintenance per GTM — mainly older six-axle power — in storage yet deployable on short-notice as business levels dictate.

RA. Over coffee we were talking about how you’re switching customers more frequently and improving car cycle time, yet, in the next breath, you said you’re going to longer trains. Seems contradictory. How is increased customer switch frequency affecting capital spending on rail cars?

MUNOZ: You make a good point, and as you know, railroading can be logically contradictory! Faster rail car turns at the customer create better asset utilization, whether the rail cars are CSX- owned or customer-owned. In either case, more frequent switching can reduce railcar investment capital, improve customer satisfaction and generate growth. Likewise, longer trains operating between serving terminals improve fuel efficiency while at the same time getting us better car, locomotive and crew utilization. It’s actually a logical approach to getting the best efficiencies across the board.

RA. How is increased switching frequency affecting safety? How does the capex program create a safer switching environment even as injury exposure increases?

MUNOZ: Safety is, when you come right down to it, all about doing the work in a prescribed manner. The CSX safety record continues to improve at best-ever levels—the Personal Injury rate in the fourth quarter of 2012 dropped to 0.54 injuries per 200,000 hours worked from 0.70 in the third quarter, an outstanding accomplishment by our employees.

The capital program contributes to a harder infrastructure and to the technology that can help us identify safety issues— rail car, locomotive or track— before they become problems. Recall my previous mention of Joint Wayside Detection System, for example. The bottom line is safety is our number one priority.

RA. Regarding track and signal, where are you adding, taking out, and lengthening passing sidings. and why? Are they being rebuilt with faster turnouts? Are you increasing the number of controlled sidings or leaving them dark? What determines your actions here?

MUNOZ: CSX is adding and lengthening passing sidings in its high-traffic growth areas. The additional siding capacity lets us handle more revenue units and at the same time maintain aggressive service levels. We are also increasing the number of controlled sidings and adding faster turnouts in many key areas for the same reason.

We have reduced slow orders dramatically, a key contributor to our much-improved service metrics. Consistent investments in our infrastructure and regular, planned maintenance all are important factors in keeping slow orders at a minimum. Our goal is to continue to drive down slow orders, which improves asset utilization and customer satisfaction.

We are constantly searching for better solutions, whether they are new products, new services, or new processes. In the case of crossties, we are working to identify and incorporate new products, such as plastic composite ties. We also are evaluating wood ties treated with borate and copper napthenate as alternatives to creosote. We will continue to evaluate those ties to ensure that they have the proper durability and life cycle.