Shippers, intermodal rail operators heading into uncharted territory as prospect of mega-merger looms

It seems everyone in the shipping and supply chain communities has an opinion on the proposed merger of the Union Pacific (UP) and Norfolk Southern (NS) railroads. Whether it’s a shipper or industry organization, labor union, local community advocate, politician, or another Class 1 railroad, questions of competition, capacity, safety, job protection, increased costs, and potentially reduced services loom large in the discussions—and will certainly factor into deliberations by the Surface Transportation Board (STB), the federal agency that has the ultimate thumbs-up or thumbs-down decision-making role on the matter.

Rail unions vividly recall what in their view were the “adverse” consequences of rail merger activity in the 1990s. That saw the Union Pacific swallow up the Chicago & Northwestern Railway, the creation of the Burlington Northern Santa Fe railway, and the CSX/NS-Conrail transaction. Ultimately, rail employment was reduced by some 20%, according to union figures.

Shippers and their industry advocacy organizations also have voiced concerns over the merger. The National Industrial Transportation League (NITL) “has consistently been on the record as opposing further consolidation in the rail industry,” said Nancy O’Liddy, NITL’s executive director, in a news release. She also cited the impact of prior mergers that “drastically reduced” rail competition and left NITL members “captive to only a single railroad. Despite past promises that rail customers would benefit from mergers through more efficient service, today, captive rail customers pay increasingly higher prices for unreliable and inadequate services,” she added.

She has called for more information and transparency regarding how the combined UP-NS organization will 1) meet the public good; 2) enhance rail-to-rail competition; 3) mitigate anti-competitive practices involving gateway access and pricing, and joint asset ownership; and 4) be held accountable for service failures and increased fees.

BIGGEST RAIL DECISION IN THE LAST 100 YEARS

Jason Seidl, managing director, industrials – airfreight and surface transportation at investment firm TD Cowen, has been in the transportation business in one form or another for some three decades. He is unequivocal in his view of the impact of the UP-NS merger. “This is the most important decision being made in the rail space in the last 100 years,” he says.

“If you are an intermodal shipper, you love the deal, automotive shippers too,” he opines. “If you are in the bulk commodities market, it probably depends.” Seidl notes there are a large number of shippers who have long memories and recall some of the disruptions from previous mergers, “so they are cautious,” he says.

He does point out that unlike previous combinations, where rails that shared territories had to integrate their networks, the UP-NS deal is an end-to-end merger. He says that’s not nearly as complex as earlier mergers or breakups, “so it should not be that bad.” Shippers, however, “still have some fear of disruption. The onus is on UP to soothe some of those fears.”

He believes the STB will ultimately approve the deal, but not without some concessions from the UP and NS. “Will those be too onerous for the UP to accept; that’s to be decided,” he says. Nevertheless, he does think ultimately there will be advantages. “When you look at a true, integrated transcontinental offering versus a marketing agreement for coast-to-coast service, it is very hard for anyone to argue that such an offering would not be better service-wise.”

For its part, UP says much the same thing. In a commentary published on the UP website last month titled “If This Railroad Merger Isn’t Approved, It Hurts America,” Eric Gehringer, Union Pacific’s executive vice president of operations, wrote that since the pandemic, changes the railroad has made have improved service, increased resiliency, and helped customers better respond to changing market demands.

That foundation will support and enable future benefits shippers could gain from the merger, he argues. “Those experiences reinforced a simple lesson: Supply chains work better when unnecessary complexity is removed. That’s why Union Pacific and Norfolk Southern are working to create America’s first transcontinental railroad,” he wrote. “In a global economy where speed and reliability matter, those advantages can be the difference between winning and losing.”

He points out that today, freight moving across the country often transfers railroads simply because the current system requires it. That “adds unnecessary time, cost, and complexity,” he said. Gehringer defended the merger, adding that the combined railroad can reduce transportation costs through the opportunity to shift more freight from higher-cost truck to lower-cost rail, which he estimates will save shippers “$3.5 billion annually, helping lower costs for consumers.” Finally, Gehringer says the combined railroads “will allow parts, raw materials, and finished goods to move coast to coast faster and more reliably. That will help manufacturers reduce inventory costs and lower the risk of production disruptions.”

The UP and NS currently invest about $5.6 billion annually in infrastructure and innovation, Gehringer wrote, and they’re prepared to invest even more. “If our merger is approved, we will invest an additional $2 billion in new track, terminal capacity, rail yards, and technology.”

The flip side of the argument comes from the Burlington Northern Santa Fe Railway (BNSF). “We believe the proposed merger is costly and unnecessary in an otherwise thriving industry while being harmful to customers, communities, the entire supply chain, and the U.S. economy,” said Zak Andersen, chief of staff and vice president of communications for the BNSF, in a statement. “A transaction of this size would give around 50% market share to one company, which greatly reduces competition, eliminates customers’ choices, and [would] eventually result in increased prices for the American consumer.”

Andersen says “the standard set by the STB for this merger to be approved is [that] it must not only maintain but enhance competition and be in the public interest. On that point alone, this merger doesn’t even come close to passing the test,” he notes. “But it really doesn’t matter what we think. What’s most important is what customers, communities, and consumers think.”

NEW CHOICES, UNDERSTANDING THE TRADE-OFFS

One thing is for sure, choices that shippers have today will change. A possible outcome of the merger would be shippers who today have three options for rail service could see those reduced to two. And shippers who today might have two options for rail service could end up with one.

In a recent commentary in the trade publication Railway Age, Bob Granatelli, an industry consultant who advises on railroad competition and transportation economics, explained the competitive issues facing the “two-to-one” customer. “These are locations where UP and NS both provide direct rail service today,” he noted. “Combining the two railroads would leave the customer with one of those two independent carriers.”

He notes the applicants (UP and NS) have proposed access by another railroad to address those locations.

Physical overlap at the shipper’s facility isn’t the only way the shipper could go from two choices to one. “Consider a customer shipping from an origin served only by UP” where UP does not serve the destination, he notes. In this pre-merger example, the UP can interchange traffic with either NS or CSX, which would then complete the route to the open destination served by both carriers. In this case, the shipper can choose NS or CSX, who are “bridge carriers” providing two independent, interline routing possibilities.

In a post-merger world, that structure changes. “The expanded UP would serve the origin, and, through the former NS network, the destination,” he explains. “The UP-NS interline movement becomes a single system UP movement.”

The first form of two-to-one “results from combining two railroads that directly serve the same facility,” Granatelli adds. “The second results from combining the origin carrier with one of the two independent destination carriers, thereby changing the rail buyer’s ability to use the other.” He emphasizes that rail customers should carefully evaluate their own traffic, how the merger could potentially change those movements and the choices they have, and what combination of mainline and short-line rail services best meets their supply chain needs in a post-merger environment.

INTERMODAL SURGING

In the midst of all the merger talk, intermodal marketing companies (IMCs)—the middlemen who buy capacity directly from railroads and truck lines to offer shippers seamless, door-to-door freight transportation—and their Class 1 rail partners are quietly experiencing a record surge in traffic. “The first six months of this year, we moved more [intermodal] loads than in any ‘first six months’ in our history,” noted Ian Jefferies, chief executive officer of trade group the Association of American Railroads. That continued through the second half of the year, with week-over-week increases of about 5.7%.

Jefferies cites intermodal’s lower cost as one factor attracting more traffic. “We are cheaper,” he notes. “In the July Producer Price Index, ‘cost of moving goods by rail’ went up 1.2%, well below the rate of inflation. ‘Cost of moving goods by truck’ went up over 10%. We are absolutely taking advantage of that and taking traffic off the highways,” he says.

The rails’ three priorities, Jefferies says, are “safety, service, and affordability. If we are hitting those marks, the traffic should be sticky. Intermodal is premium traffic that requires near 100% on-time performance, so it is incumbent upon us to hit those marks so [freight shippers won’t be tempted] to go back to the highways.”

Shelli Austin, president of intermodal marketing company InTek Logistics, thinks intermodal is at a tipping point and has an opportunity to shift the market perception to one where shippers “level set on intermodal as the first choice, not just a backlash reaction for when truck capacity gets tight.”

And whether one is for or against the merger, “the sheer discussion around whether it happens or not, good or bad, to me has created this wonderful effect, this recognition of intermodal’s role as a fundamental supply chain resource,” she notes. “Everything is competitive by nature. Those [rail operators] not involved in the merger are stepping up their game. It is about competition in the rail space and how current developments are bringing to light new opportunities and services.”

Examples include the Burlington Northern Santa Fe Railroad and initiatives like its “Shortline Select” program. The program, which currently has eight short-line railroad participants and plans to add more, aligns service schedules, improves handoffs, and uses shared data systems “to ensure smoother car movement between BNSF and short-line partners,” the railroad says.

It also points to its service agreements with CSX that provide coast-to-coast service today that, the BNSF says, moves freight with greater reliability. The company also added expedited service from Los Angeles to Houston and is continuing the buildout of its Barstow International Gateway, a 4,500-acre, fully integrated rail, intermodal, and transload facility in Southern California.