Railroad Regulation; D. Vanderleest and K. Bota

Dr. Vanderleest is a Professor of Marketing at Ball State University, Muncie, Indiana. He is a noted writer and lecturer on marketing transportation services. Ms. Bota is a freelance writer and resides in Knox ville, Tennessee. 610 Because of government-imposed price, service, and revenue con straints, there generally was little incentive for railroads to increase productivity, to lower costs, or to be innovative in providing services to their customers. Regulation in the railroad industry generally stifled creativity in the marketing area and, for the most part, caused the major ity of railroads to turn inward and become operations-oriented rather than marketing-oriented in their ap proach to doing business with the public. The operations-oriented rail road's approach to selling its ser vices to shippers typically took the form of, "This is what I can do for you and this is how much it will cost.

Take it or leave it." On October 14, 1980, Congress en acted the Staggers Rail Act. This Act thrust railroads into a significantly less-regulated environment, one for RAILROAD DEREGULATION 611 which mos~ were unprepared. The tables were turned and shippers could now tell railroads, "These are my needs, what's your best offer?" If the offer was not good enough, ship pers were usually able to go to an other railroad or switch to compet ing modes such as trucks or barges. After being shielded for many years from the "real" marketplace with its demand, supply and competitive considerations, railroads quickly recognized that they had to begin successfully marketing their ser vices in order to survive. This article examines the impact of deregulation in the railroad in dustry and how it has allowed rail roads to develop and implement sound marketing programs in at tempting to meet their organiza tional goals. Although the article is limited to the railroad industry, de regulation in many industries, in cluding aviation, banking and com munications appears to be the wave of the future. It is expected that mar keting will become a key element in the business plans of many firms in each of these industries as they also strive to compete successfully in a deregulated environment.

Competitive Conditions Prior to 1980 Despite the constraining effects of regulation, railroads remained the dominant form of freight transpor tation in the U .8. until the emergence of the motor carrier industry in the 1930s. In the 1940s and '50s the number of trucks and their ac ceptance increased rapidly, provid ing shippers with a viable alterna tive for moving their merchandise. Railroads, however, made little at tempt to meet the challenge motor carriers were providing. As the dom inance of railroads continued to dwindle, the causes became increas ingly evident. First, the Act to Regulate Com merce gave railroads virtually no flexibility in rate-making. While the intent of early legislation was to abolish railroad rate discrimination, it made it difficult, if not impossible, for railroads to make rate adjust ments which reflected economic as well as competitive conditions. As a result, railroads lost much of the high-value, high-rate traffic-such as manufactured goods, gasoline and produce-to the motor carrier indus try. Most remaining rail traffic con sisted of low-value, bulk commodi ties such as coal, grain and timber.

In general, the loss of high-value traffic to the trucking industry was due to service considerations. While it may have been cheaper to ship some goods by rail, the time saved by using motor carriage could be translated into dollars and cents, thus offsetting the higher cost. The speed and reliability of some rail roads had also been lessened by de ferred maintenance policies which 612 THE FREEMAN October were practiced by most railroads at the time. Another factor hindering the com petitiveness of railroads during nearly ninety years of regulation was the railroads' inability to aban don unprofitable lines when neces sary. Because of the ICC's restric tions, railroads were often forced to provide unneeded and unprofitable service to some areas for extended periods of time. Railroads were also reluctant to become involved in the costly and time-consuming battles with shippers and local groups when abandonments were proposed.

The extensive amount of redun dant track mileage, coupled with the costs of maintaining it, resulted in serious financial difficulties for many railroads. The railroads ar gued that the elimination of some mainline track would allow them a greater volume of traffic to travel over the remaining lines, thus re ducing their operating costs. Per mission to abandon was granted very infrequently, however. When aban donments were approved, it was gen erally only after drawn-out deliber ations had been completed, some lasting as long as four or five years. Because of the problems and inef ficiencies resulting from restrictive government regulation, the railroad industry consistently earned a re turn on investment considered to be far below that necessary to attract new capital for plant and equipment improvements. As a result of infe rior railroad service, shippers read ily switched their business to motor carriers who, although usually charging higher rates, generally of fered higher quality and more de pendable service.

Key Elements of the Staggers Act The Staggers Act of 1980 marked the end of nearly 100 years of re strictive government regulation of the railroad industry.l In short, it al lows the marketplace to determine price, quality and type of transpor tation service offered by individual railroads, which gives them greater opportunity to compete successfully against each other as well as against competing modes. A brief overview of the major provisions of the Stag gers Act which directly influence the ability of railroads to develop mar keting programs, particularly in the areas of pricing and service, is dis cussed here. General rate flexibility. Rate free dom is the most important result of railroad deregulation. Railroads can now make rate adjustments, subject to certain guidelines, without ICC approval. Currently, for example, nearly two-thirds of all rail rates are entirely free from regulation. 2 The balance are still under some ICC ju risdiction because they apply to spe cific commodities such as coal being moved between two points where 1985 RAILROAD DEREGULATION 613 railroads have virtual market dom inance, thus leaving the shipper with no alternative carrier choices. In general, however, pricing is now a controllable variable in a railroad's business plan as price changes can be made in a timely manner in re sponse to changing economic and competitive conditions.

With deregulation, the traditional practice of all railroads collectively seeking approval from the ICC for the same percentage rate adjust ment has also been eliminated in fa vor of individual railroads setting their own rates. As a result, the role of the ICC has been lessened to rou tinely publishing and filing rates de veloped by carriers. Because of the large number of rates now available to shippers, some real bargains ex ist. Regardless of whether rates are increased or decreased, the Act stip ulates that individual railroads may determine specific rates for each shipment, depending upon demand and competitive forces. That com petitive rates are now very popular is evidenced by the fact that nearly 70 per cent of the freight revenue earned by railroads in 1984 is due to negotiated rates. 3 Service contracts. The legalization of service contracts in which indi vidual railroads tailor a specific rate and service package to the needs of a particular shipper also resulted from the Staggers Act. The new law encourages railroads to innovate and experiment in developing rate and service packages for individual ship pers. Before the Staggers Act, rail roads and shippers were hesitant to enter into contracts because they feared antitrust litigation. Although the ICC has no role in the develop ment of contracts, it must approve the final agreement between the railroad and shipper. This rarely poses a problem, however, as most contracts are routinely approved.

The duration of contracts can run from several months to as long as ten years or more. Contracts can take virtually any form as shippers are able to negotiate for specific services needed as well as eliminate any un wanted services. Railroads usually benefit in this situation because they can set rates that more closely re flect their actual costs in handling the shipper's freight. Some long term arrangements even specify that railroads make major investments in equipment and facilities. In gen eral, contracts allow railroads to in crease efficiency, particularly in the area of better car utilization and longterm revenue projection. Un certainties in these two areas have contributed largely to the railroad industry's weak financial condition in the past. Eased regulatory restraints have also encouraged railroads to offer in termodal transportation services to their customers. Prior to 1980, rail614 THE FREEMAN October roads were generally prohibited from offering service via other modes.

This has changed so that railroads may provide shippers "total" trans portation service using all modes. This situation is well illustrated by the CSX Corporation which has built a true intermodal transportation company around the traditional rail operation by offering a wide range of transportation services by all modes. 4 It is expected that the pop ularity of intermodal transportation services will continue to increase as this concept allows railroads to react to competition from other modes and increase revenues by moving traffic from origin to destination over longer distances. Mergers and abandonments. The Staggers Act has sparked an in creased interest in mergers. This is because one of the objectives of de regulation is to encourage railroads to become more self-contained. Be cause of their high fixed costs, rail roads have always been most effi cient on long hauls where stopping, starting and the number of inter change points are minimal. With ad ditional mergers, railroads will be able to compete more effectively with other modes and increase revenues by handling the shipment from ori gin to destination on one system. In creased revenues combined with re duced costs incurred when moving traffic over longer distances should contribute to improved earnings for individual railroads as well as to the general health of the industry.

Abandonment of unprofitable lines was also facilitated with deregula tion. Prior to 1980, it was extremely difficult for railroads to withdraw service from areas which do not pro vide profitable volumes of traffic. This resulted in cross subsidies where shippers on a railroad's more profitable lines were charged higher rates to cover losses elsewhere. The goal of deregulation is that railroads need only provide service where enough volume of business exists to provide a reasonable return for that service. Although it is easier to discon tinue nonprofitable lines, it is ex pected that most railroads will at tempt to avoid abandonments as long as possible by stepping up their marketing efforts to promote use of the line in question. If and when a line is abandoned for lack of traffic, however, it remains to be seen if the marketplace will offer enough incen tive for another carrier to move into the area and provide service. In a sit uation where an abandoned line re mains unattractive to all railroads, the Act makes it easier for the line to be taken over by other parties such as state and local governments.

Some states, for example, have en acted legislation that subsidizes a carrier for keeping a marginal route operating.

1985 RAILROAD DEREGULATION 615 Railroads' 'Discover" Marketing Effective marketing is based upon determining the needs of a market and attempting to meet those needs more efficiently than competitors, with the ultimate goal of making a profit. Before 1980, most railroads were in a position where it was either not possible or not necessary to aggressively seek out business by offering competitive price and ser vice packages. Railroads are now aggressively at tempting to find new freight. In creasing profit potential has encour aged numerous successful efforts such as "Sprint" and "Slingshot" express trains, "Fuel Foilers," "Tank Trains" and other rail service pack ages designed to meet the specific needs of rail customers. 5 Marketing oriented railroads no longer depend exclusively on moving additional bulk cargo to increase business. In stead, they are putting much em phasis on seeking general merchan dise freight, with the goal of re capturing some of the high-value traffic that they had previously lost to the motor carrier industry.

Railroads are also intensifying their sales and promotional efforts. In communicating with their cus tomers about available services, for example, many railroads have adopted traditional consumer goods promotional techniques such as prime-time radio and television spots, billboard advertising and direct mail flyers. These methods com plement promotional techniques generally used in industrial mar keting such as trade shows and per sonal sales calls. Having satisfied customers should enable railroads to make extensive use of testimonials in future print and television advertising. Much railroad promotion now in cludes direct, head-on comparative advertising of rail service compared to that offered by competing modes such as motor and water carriers. A recent Southern Pacific ad in a pop ular trade publication proclaims that: Truckers are grinding their teeth these days ... for a good reason. We're suc cessfully competing against the trucks now because we have the freedom to ex ercise our imagination ... for example, we tailor train schedules to accommodate customers, we add trains, we expedite them, we write on-time delivery guar antees and we offer price incentives ...

our overall package gives us a competi tive edge over truckers. 6 Pricing and service freedoms al lowed by the Staggers Act have given railroads the opportunity to learn what marketing is all about. Progressive railroads now recognize that marketing can aid them in re acting to changing market condi tions and to competing transporta tion modes. Marketing-oriented rail roads believe that marketing be longs at the top of the organizational 616 THE FREEMAN October chart and are reorganizing to reflect this belief. Many, such as the Illinois Central Gulf and Norfolk Southern are bringing in marketers from the "outside," meaning nonrailroaders, to head up newly organized market ing divisions. 7 In short, the Staggers Act has created a renewed sense of urgency to accept marketing prin ciples' understand them and put them to use. On Track to Profitability Recent data show that railroads now account for nearly 40 per cent of total U.S. freight tonnage hauled in 1984, up from just over 37 per cent in 1980.8 Although representing only a small increase during the four-year period, it is l).onetheless significant because it reversed a downward trend in ton miles hauled that began in the 1940s when railroads, in ad dition to being saddled with regu latory restraints, were also being faced with new competition from the growing trucking industry. New business freedoms as a result of de regulation are also primarily respon sible for the improvement in the rate of return on investment in the rail industry from about 2 per cent to about 5.5 per cent during this four year period. 9 In general, earnings and stock prices are up for individual railroads and there have been substantial in creases in capital spending through out the industry. Massive innovation and new construction programs undertaken by many railroads have eliminated considerable deferred maintenance from mainline track. It is also likely that new equipment purchases will provide railroads with a 20 per cent increase in equip ment capacity in 1985. 10 It is ex pected that increased capital spend ing for improving track and roadbed conditions, modernizing switching yards, upgrading terminal facilities and purchasing additional rolling stock will allow many railroads to provide a higher level of service to their customers in the future. While railroads have traditionally been in different to service considerations, their new profitability is encour aging them to look at service as an important aspect of profitable operations.

Conclusions After years of deferred mainte nance, decreasing traffic and inad equate profitability, railroads are making a comeback. Easing of reg ulatory restraints through deregu lation has given railroads the ability to meet changing market and com petitive situations as well as the freedom to make business decisions independent of government sanc tion. In short, railroads have been given the opportunity to succeed or fail based on the strengths and weaknesses of their management decisions in a free marketplace.

1985 RAILROAD DEREGULATION 617 Railroads no longer have the luxury of operating in a protected environ ment where they had minimal in terest in or incentive to optimize their operations. Progressive railroads have re sponded to deregulation by gearing their organizational goals toward making rail service fit shipper needs rather than making shipper usage somehow fit rail service. As a result, each railroad provides its customers with different combinations of price and service, depending upon com petitive conditions. Overall, the fu ture of the rail industry is bright. A new spirit is evident which is re flected in new innovation, productiv ity and improved profitability. After four years of deregulation, evidence shows that the industry's health has improved and survival seems assured. It is expected that the same results will be seen in other industries that have been recently deregulated.

Deregulation requires that a firm become marketing-oriented as it is no longer shielded from the harsh realities of the free marketplace by government regulation. Marketing and deregulation go hand-in-hand. As evidenced in the railroad indus try, without deregulation there is lit tle need for marketing. In a dereg ulated environment, however, it is crucial that marketing become the key activity in a firm's business plan. Well-managed firms will thrive in a market-directed, deregulated environment, while those with a managerial focus who continue to bemoan the loss of the regulatory crutch will ultimately fail. @ -FOOTNOTESIFor a good. summary of the Staggers Act see Ernest W. Williams, "A Critique of the Stag gers Rail Act," Transportation Journal (Spring, 1982), pp. 5-15. 2Yearbook of Railroad Facts, 1984 edition (Washington, D.C.: Association of American Railroads, 1984), p. 15. aYearbook of Railroad Facts, 1984 edition, p.31.

4"CSX: Railroading For Fun and Profit," Business Week (November 30, 1983), p. l00ff. 5"Staggers Rail Act and Its Impact on Ship pers," Dun's Business Month (January, 1984), p.l000. 6See Dun's Business Month (October, 1984), pp.84-85. ""The Railroads Rise Again," Fortune (No vember 26, 1984), p. 29. SYearbook of Railroad Facts, 1984 edition, p.6-7. 9Frank Malone, "Rate of Return Reaches 5.5% as Earnings Soar," Railroad Age (Novem ber 1984), p. 21. lO"Industry Groups Speak Out for Deregu lation," Dun's Business Month (January, 1984), p.97. -REFERENCESAltrogge, Phyliss D. "Railroad Controls and Competitive Conditions," Transportation Journal (Winter, 1981). "Deregulating America," Business Week (No vember 28, 1983). Rakowski, James P., "Regulating Change in Surface Transportation," Appalachian Busi ness Review (January, 1982).