Real-time Rate-making for Real-time Customers Comes to Short Lines
Railway Age, April 2011

Short lines proposing new moves or trying to renegotiate rate divisions on old moves can be at a competitive disadvantage with their Class I counterparts.  The Class I market managers are armed with legacy costs for just about every commodity-origin-destination pair, they know what the competition is charging for the same move, and they can tell with one click of a computer mouse whether the ratio between potential revenue and legacy costs meets muster. 

Moreover, accounting rules say short lines have to be paid out of revenue and their fees do not belong under operating expense. As a result, a marketing manager evaluating a proposed move with thin margins may see the shortline fee cutting into the desired revenue-cost ratio and give it a thumbs-down. It was pretty much take it or leave it for the short lines. Until now.
 
As a general rule, the short line manager never sees the Class I cost basis for the proposed rate. The best approximation was always the STB’s Uniform Railroad Costing System (URCS) that the Board uses to estimate variable and total unit costs for Class I railroads. But not any more. Two tools that shippers and Class Is have used to monitor current costs are now available to short lines as well. First, some background.

The URCS numbers are derived from each Class I’s annual report (the “R-1” submitted to the STB) as adjusted by certain movement data. The R-1s due March 1 reflect the prior year’s costs and it takes the STB until the fourth quarter to build the URCS data. Thus the URCS data in use, say in June, 2011, is based on the 2009 reports and is 18 months old.

In order to address some of this time lag, the STB has developed an indexing system to calculate more up-to-date cost estimates. The Board adjusts the URCS per-car data in hand with publicly available indices from sources such as the Association of American Railroads and the Bureau of Labor Statistics. But the STB data still lags real-time data by six months or so.

To get an idea of just how much URCS data can lag the present case, compare Union Pacific operating expense for 2009 with the 2010 numbers as well as their 2011 projections. Total 2010 operating expense increased just 11 percent over 2009 while revenue units increased 13 percent, lowering the per-unit expense. The 2010 operating ratio was 70.6, down nearly six points from 2009, and UP says it expects to do even better in 2011.

The outlook is the same across the entire Class I community: revenues up by double-digit percentages, operating incomes up by multiples of that and lower cost per revenue unit. The Class Is are getting better every day at making fixed costs variable and matching variable costs to the volume at hand and real-time costs are replacing legacy costs.

This is where the first new tool, USRail.desktop, comes in.  Desktop, as it’s colloquially known, is a computer program that gives users the power to see actual railroad costs and margins by commodity OD pairs, car type, whether unit train or single car, transit times, the best routing options and the commodity carloads already moving in each lane. All one need to is enter the usual movement data and the software returns a cost breakdown -- car hire, fuel, etc. -- that includes the shortline costs.

The shortline manager looks at the market data section to see what’s moving in the lane under consideration and at what revenue per unit. Desktop has already provided the costs, so determining an appropriate revenue-cost ratio is easily done. The next step is sitting down with the customer to design the service: annual carloads of what in and out, car type, leased or railroad-owned, service frequency, and so on.

Enter the EyeProfit (R) solution from Eyeris, Inc., that shows how each operating activity affects a specific financial outcome. In other words, Eyeris provides the means to allocate the right amount of expense (car hire, diesel fuel, labor, track and equipment maintenance, etc.) to each  specific customer-related task. Armed with the actual service-design costs, it’s time to go back to the Desktop model, refine the shortline costs, and come up with a target rate.  Now when the Class I prices the move, the short line has a way of sanity-checking the rate and knowing instantly whether the shortline rate division will yield the desired profit level.

Using these two tools in combination gives the short line owner a competitive advantage by understanding current Class I costs by commodity OD pair, what it costs his short line to provide the service the customer wants, and a starting point for negotiating Class I rate divisions.  The desired outcome in any event is making customers smile. With short lines using Desktop and Eyeris, everybody -- shipper, short line and Class I -- can smile. And make money doing it.

 

 

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