Suds With Seidl: “Railroad Happy Hour”

Written by Jason Seidl, TD Cowen, Wall Street Contributing Editor
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We hosted rail industry experts in our third Suds with Seidl event. The overall mood was optimistic. The outlook for 2021 was strong, with one participant noting he was surprised to hear just how bullish his customers were this past week. Class I’s may be missing business opportunities, but there is still hope for greater communication via technology initiatives. We remain positive on the rail group.

Seven rail industry leaders joined our happy hour to discuss the rail industry. Several short line participants stated their companies have adapted well to the pandemic, with one president noting his railroad’s top line was down 9%, but the bottom line remained on plan due to cost-cutting and operational changes. A Class II/III holding company executive stated U.S. business has held up better than its Class I counterparts due to some good end market exposure, but did admit that European operations were “still hurting.”

There was some criticism of Class I operators from some panelists, with a few complaining that business opportunities are being missed. One panelist noted an overall indifference by Class I carriers to the carload business. One participant said the railroads just make changes and tell them to deal with it. The laser-like focus on PSR has left many of the assessorial services decimated, including sales and customer service, according to our lone shipper on the panel. He noted that while his service is better now than two or even four years ago, it is about the same as a decade ago.

“If Dominos can tell you how
quickly it can get a pizza to your
doorstep, we should be able to tell
you where your railcar is located.”

Everyone on the call seemed optimistic about the outlook for 2021. After talking to more than 30 customers this past week, one of the participants said he was very surprised to hear just how bullish their outlook was for the next year. Many hoped Class I service would improve as well, and optimism was expressed for improved cross-railroad communication. Indeed, the fairly recent announcement of Rail Pulse (a joint venture between Norfolk Southern and several of its partners that aims to facilitate the adoption of GPS and telematics across the railcar fleet) was looked at by some as having great potential for the industry. One panelist quipped, “If Dominos can tell you how quickly it can get a pizza to your doorstep, we should be able to tell you where your railcar is located.”

On the equipment front, the improvements in rail traffic and railcar industry utilization have been driving inquiries. However, the extent and timing of translation into orders remain a little difficult to predict for the builders. If the rail volume recovery persists, scrap prices increase and some rail service hiccups occur, a somewhat abrupt resurgence in railcar demand cannot be ruled out in 2021. Initial positive signs were seen in 3Q20, when railcar lease rates appeared to bottom, or even improve sequentially in some cases.

Primary Rail Investment Risks

• Risk of economic downturns and their impact on rail traffic and pricing.
• Regulatory risk posing a threat to the railroads’ ability to achieve sufficient returns on their investments.
• The possibility of high-speed passenger rail encroachment.
• Litigation risk stemming from accidents and fatalities.
• Competitive threat posed by other modes of freight transportation such as trucking.
• High capital spending required to build and maintain railroad networks and to replace cars and locomotives.
• Risk of severe weather disrupting railroad networks.
• Rising fuel costs and the lag effect of fuel surcharge recovery.

Primary Transportation OEM Risks

• The transportation OEM industry is highly cyclical; the timing of the cyclicality may be difficult to predict; and down cycles could weigh on the top and bottom lines of companies in the sector.
• The industry is highly dependent on the North American and global economies. Economic downturns could pose a threat to the companies’ earnings power.
• Fluctuations in the price of steel and other materials used in the manufacture of equipment could be unfavorable at times.
• Currency fluctuations could negatively impact production costs and demand for finished products.
• Potentially unfavorable shifts in freight among transportation modes, such as between rail and trucking, could impact demand for certain types of transportation equipment.
• Relatively high capital expenditure requirements.
• Relatively high fixed cost structure.
• Regulatory risk.
• Litigation risk.

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