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Railroad Restructuring
National Railroad Restructuring
Recent Rail Merger Activity In Texas
Effects Of The UP-SP Merger On Texas
Shippers Concerns
Other Alternatives
Rail Access To Mexico
Findings and Recommendations
Status of the ICC (sidebar)
Texas Rail Links (sidebar)
Texas' UP-SP Merger Response (sidebar)
Endnotes
Map 1 (Southern Pacific and Union Rail Operations)
Map 2 (Proposed Texas Rail Link Plan)
Map 3 (Texas Counties with Reduced Competition under UP-SP Merger


Railroad Restructuring

Texas' and the nation's rail industry continues to evolve as a result of forces set in motion in the 1970s and 1980s. Most recently, the proposed merger of the Union Pacific and Southern Pacific railroads is but the latest manifestation of this evolution. Because of this changing economic milieu, and since Texas' rail system is vital to maintaining a strong economy, the Comptroller's office has undertaken this review of recent and historical changes in the state's railroad industry in hopes of furthering the debate over alternative future developments.

In particular, it is of most importance to focus the current debate on what is best for Texas, not what is best for any particular carrier. If the proposed merger occurs, Texas has the greatest amount of traffic which could suffer from decreased competition. As a remedy, the carriers involved have proposed a form of "competition sharing" which is, at best, untried at the levels envisioned. Given what is at stake for Texas, the test of this novel arrangement should not be whether it could, in theory, provide a substitute for true competition, but if it will, in practice, provide a competitive rail service environment.

But preserving the status quo is also probably not a reasonable long-term solution. The financial performance of the Southern Pacific (SP), one of Texas' remaining major rail competitors, does not bode well for long term quality service. Indeed, a customer survey conducted by the Comptroller's office underscores the need to shore-up service levels on the SP.

While the UP-SP merger may ultimately prove the best choice, alternatives to the merger are available. Accordingly, in light of the possible anti-competitive problems raised by this merger, every effort should be made to evaluate these alternatives to ensure that shippers in Texas receive the most efficient rail service possible.

National Railroad Restructuring1

The reverberations of the Penn Central railroad's bankruptcy in the 1970s continue to be felt in Texas two decades later. Following the severe financial crisis of the 1970s, during which the railroad industry experienced multiple bankruptcies and deteriorating service, the nation's rail system financially limped through the late 1970s and into the early 1980s.

It was apparent that the greatest challenge facing the nation's rail system at that time was to earn sufficient revenues to return to profitability while simultaneously improving shipper service. Moreover, this had to be done without raising rates, which would have only served to divert even more traffic from the rail system to the nation's highways.

The only solution was to significantly restructure the nation's rail system, starting with the federal regulatory mechanisms. Accordingly, Congress crafted and passed the Staggers Act of 1980 partially deregulating rail rates and services, which afforded railroads considerably more flexibility and incentive to improve efficiencies, restructure rates and operations and aggressively compete for traffic with other modes. Allowing the railroads the ability to quickly respond to changing market conditions is generally credited with helping the industry weather the national recession of 1982. But over the longer term, these changes alone were not sufficient to ensure continued financial viability.

In particular, rail carriers saw mergers and consolidations as one key to their long-term financial stability and growth. Mergers help minimize total logistical costs by minimizing shipping distances, time spent in transit and inventory holdings. In 1980, Burlington Northern merged with St. Louis-San Francisco to form the nation's largest railroad of the time with over 23,000 miles of track. Subsequently, the Chessie System merged with the Seaboard System to form CSX Transportation. In 1982, the Norfolk and Western merged with the Southern Railway to form the Norfolk Southern while the Union Pacific, Missouri Pacific and the Western Pacific combined to form the Union Pacific System which, after UP's 1988 acquisition of the Missouri-Kansas-Texas Railroad, reached a total length of 22,000 miles. Moreover, in 1988, the Interstate Commerce Commission (ICC) approved the application of Rio Grande Industries (RGI) to control the Southern Pacific Transportation Company (SPTC) creating the fifth largest rail system with more than 15,000 miles of line.

But these mergers have not always occurred as a matter of course. The ICC, under existing statutes, can approve a merger between two or more Class 1 railroads (defined as those railroads having annual operating revenues in excess of $250 million) only if the merger would not be anticompetitive. If anticompetitive conditions are found, these must either be outweighed by other public benefits or mitigated by modifications or conditions placed on the merger.

In July 1986, the ICC rejected the proposed merger of the Santa Fe (SF) with the SPTC, indicating that the anticompetitive problems posed by the merger more than outweighed any other public benefits. In August 1987, the ICC reconfirmed this ruling by denying the applicants' petition to reopen the proceedings.

While the torrid pace of merger activity has slowed in recent years, those that have occurred in the 1990s, or are proposed, to a greater degree involve railroads in the Western U.S., including Texas. Moreover, the status of the Interstate Commerce Commission, the watchdog agency for such mergers has recently changed (see sidebar on the status of the ICC).

Recent Rail Merger Activity In Texas

In 1995, the Burlington Northern, Santa Fe, Union Pacific and Southern Pacific railroad companies- four of the nation's ten remaining Class 1 railroads- began positioning themselves to establish transcontinental and transnational railroad systems. Rail industry analysts note that recent rail merger activity by the predominantly western railroads is aimed at providing improved and more efficient access, in part, to the established Texas Gulf Coast petrochemical markets and the emerging Mexican freight business.

The Burlington Northern and Santa Fe railroads took the first steps. In July 1995, the Interstate Commerce Commission (ICC) approved the $3.85 billion merger of the Burlington Northern (BN) and Atchison Topeka & Santa Fe (ATSF) railroads, resulting in the Burlington Northern-Santa Fe (BNSF). The Fort Worth, Texas-based railroad now has more than 31,000 route miles stretching over 27 states.7

According to BNSF officials, one of the merger's advantages is that it combines Santa Fe's intermodal fleet assets with Burlington Northern's agricultural and coal markets.8 Acquisition of the intermodal fleet will help BNSF compete against trucks, while diversification of cargo business will forestall the effect of decreases in agriculture or coal business. According to Texas rail officials and other industry analysts, the ICC approved the BNSF merger plan primarily because of the end-to-end nature of the two systems which resulted in very few markets in which the number of competitors was reduced because of the merger.9

In Texas, the BNSF merger affected rail lines in the Panhandle and Plains regions combining parallel railroads providing service through Texas, from Amarillo and Lubbock through Dallas and Temple to Houston and Galveston.

Soon after the ICC's approval of the BNSF merger, in September 1995, the Union Pacific (UP) and Southern Pacific (SP) railroads announced their plan to merge. The $5.4 billion UP-SP merger plan would create a railroad serving 25 states, Mexico and Canada.10 The merger would join 31,000 miles of operating rail; almost 6,900 miles, or 22 percent of the total, are located in Texas (see Map 1).11 To be historically correct, it should be noted that this is actually the second attempt by UP to acquire SP. The first attempt, in 1903, was declared unconstitutional by the U.S. Supreme Court as violating the Sherman Anti-trust Act.

Criticism of the proposed UP-SP merger from shippers, railroad and state officials quickly surfaced. At the heart of much of this debate lies the amount of existing traffic that currently can choose from either the UP or SP, but under a merged system would only be served by one carrier. Studies by the Kansas City Southern Railway Corporation indicate that as much as $1.65 billion in annual traffic revenues were generated in markets which, after the merger, would be served by only the combined UP-SP system. In comparison, the SP-SF merger which was denied by the ICC impacted only $921 million of traffic and the approved BNSF merger affected only $165 million.12

In response to these charges that the merger was anticompetitive, UP and SP officials granted trackage rights to BNSF to 3,000 miles of track and also sold BNSF 335 miles of track.13 This proposed arrangement represents the largest use of trackage rights in history and would, in theory, allow the Burlington Northern to compete for customers along these lines thereby retaining the competitive environment that existed before the merger. But in practice, the viability of such arrangements, even on a much smaller scale, has been called into question with regard to the Union Pacific's handling of grain cargo for the Kansas City Southern in some Midwestern states.14 Even Burlington Northern Santa Fe Chairman Gerald Grinstein, whose railroad stands to gain considerable clout if the trackage rights agreement is approved as part of the UP-SP merger, describes such arrangements as "service with some disability."15

Finally, UP-SP plans to spend about $1.3 billion on new construction and upgrade projects related to the merger.16 New construction, expansion and renovation projects planned in Texas total $194 million, or 15 percent of the total.17

Two additional areas of concern over the proposed merger stem from the permanence of some of the changes proposed. According to a Texas Railroad Commission rail industry specialist, although UP-SP has granted BNSF trackage rights18 along the Gulf Coast and to certain border gateways, UP-SP can pull out of these agreements with sufficient notice. Furthermore, while the ICC may place certain obligations on the UP-SP as part of the merger process, such obligations do not usually extend to proposed capital improvement projects submitted as part of the merger application.19

Effects Of The UP-SP Merger On Texas

The merger has several objectives, including the creation of shorter, faster and more efficient east-west and north-south routes from the major markets and upgrading and improving equipment and routes serving the west, northwest and Texas and Mexico.20

Currently, railroad service to Texas cities and counties is provided by four Class 1 railroad companies directly, and through trackage rights agreements. UP and SP provide service to the Texas Gulf Coast's petrochemicals plants through Brownsville, Corpus Christi, Houston and Beaumont. In addition, UP and SP serve the Texas-Mexico border and the border ports of El Paso, Laredo and Brownsville through Dallas, San Antonio and Houston.21

Based on 1994 statistics which pre-dated the BNSF merger, had the two lines been combined in 1994 this carrier would have been the largest Class 1 railroad in the state accounting for nearly 35 percent of the total traffic carried in the state (Table 1). Separately, the Union Pacific and Southern Pacific rank as the state's second and third largest Class I carriers accounting for 29.6 percent and 26.9 percent of traffic respectively. Together, the UP and SP would not only become the largest carrier in the state, but, had the merger been in effect then, they would have carried the majority of traffic within Texas in 1994, accounting for 56.5 percent of all traffic carried by Class 1 railroads in the state.

Table 1
Freight Carried within Texas 1994

Railroad Company Total Tons % Total Class I
ATSF and BN 107,034,266 34.9%
UP 90,967,942 29.6%
SP 82,542,588 26.9%
KCS 26,537,434 8.6%
SP and UP Combined 173,510,530 56.5%
Total 307,082,230 100.0%

Source: Railroad Carrier Annual Report Form SC-941, filed with the Texas Railroad Commission, 1994.

By commodity, this dominance of a combined UP-SP system becomes even more pronounced in most cases (Table 2). A merged UP-SP system would account for 76.8 percent of Texas traffic in nonmetallic minerals, 70.2 percent of chemicals and allied products, 56.7 percent of food and kindred products and 50.3 percent of agricultural commodities. Only in carrying lignite coal and forest products would the combined UP-SP system not be the dominant carrier in Texas based on 1994 figures.

Table 2
Freight Carried Within Texas by Class 1 Railroads by Commodity 1994

Railroad Company Agriculture (tons) % Total Lignite Coal (tons) % Total Forest Products (tons) % Total Nonmetallic Minerals (tons) % Total Food and Kindred Products (tons) % Total Chemicals and Allied Products (tons) % Total
ATSF and BN 12,267,035 42.3% 30,953,362 58.3% 31,692 38.9% 5,085,382 16.9% 9,165,162 39.1% 13,705,070 23.0%
UP 8,124,774 28.0% 12,063,219 22.7% 20,942 25.7% 14,751,107 48.9% 6,354,371 27.1% 22,889,320 38.5%
SP 6,466,630 22.3% 2,592,292 4.9% 578 0.7% 8,390,670 27.8% 6,925,541 29.6% 18,833,607 31.7%
KCS 2,171,705 7.5% 7,470,862 14.1% 28,214 34.6% 1,915,066 6.4% 977,476 4.2% 4,044,248 6.8%
SP and UP Combined 14,591,404 50.3% 14,655,511 27.6% 21,520 26.4% 23,141,777 76.8% 13,279,912 56.7% 41,722,927 70.2%
Total 29,030,144 100.0% 53,079,735 100.0% 81,426 100.0% 30,142,225 100.0% 23,422,550 100.0% 59,472,245 100.0%

Source: Railroad Carrier Annual Report Form SC-941, filed with the Texas Railroad Commission, 1994.

To further identify areas in which the merged UP-SP system could create the conditions through which the resulting rail system would be able to exploit its market power, a key measure is the degree to which the number of competing railroads is reduced below that felt necessary to preserve a competitive railroad environment. While the exact determination of whether such conditions exist is a more complicated process, central to identifying potential problem sites is determining the areas in which the number of post-merger competitors would be reduced from three down to two or from two down to one. This is the same criteria used by the U.S. Justice Department to review past railroad mergers.28

Under this criteria, and excluding the proposed extension of trackage rights by the UP-SP system to the BNSF, the merged UP-SP would reduce the number of railroad service providers below levels considered sufficient to maintain adequate competition in 33 Texas counties (Map 3). Seven counties will be served by two railroads instead of three, and twenty-six counties will be served by only one railroad.

These counties impacted by the merger are home to a significant amount of economic activity in the state. As is shown in table 3, the counties slated to be reduced from 2 carriers to one as a result of the merger contain 29.5 percent of the state's coal-fired electricity generation capacity. More than half of Texas' employment in the chemical industry is found in counties facing service reductions under the merger from three carriers down to two, and another 13.7 percent is found in counties facing reductions from two carriers down to one.

Table 3
Concentration of Economic Activity in Texas Counties Facing a Reduction in Carriers due to the UP-SP Merger

Counties Facing Reduction in Competition of: Share of 1994 Manufacturing Employment Share of 1994 Chemical Employment 1994 Share of State Gross Megawatts of Coal-fired Electricity Generation Capacity 1994 Share of State Grain Production
2 Carriers to 1 15.2% 13.7% 29.5% 17.8%
3 Carriers to 2 39.7% 51.0% 0.0% 1.5%
Total Impact 54.9% 64.7% 29.5% 19.2%

Clearly, the potential anti-competitive effects of the UP-SP merger affect a significant part of the Texas economy. By other measures, of the 21 states potentially affected by the UP-SP merger, Texas has the largest amount of traffic ($850 million in 1994) that would suffer from a reduction of competition from two carriers down to one, excluding the possible effects of trackage rights agreements.29

Finally, the merger would reduce the number of carriers serving eight Texas cities (Dallas, Fort Worth, San Antonio, Houston, El Paso, Brownsville, Beaumont, Galveston).

But, inasmuch as the proposed UP-SP merger offers to extend trackage rights to the Burlington Northern/Santa Fe wherever competition is reduced from two carriers down to one as a result of the merger, it may appear curious that this proposed arrangement is not considered here in determining sites in which potential competitive problems may be present. This reflects the concern, as expressed by the Justice Department in previous cases about the ability of such arrangements to provide an adequate remedy for possible anticompetitive impacts.30

As pointed out by Peter A. Woodward, an economist with the Antitrust Division of the U.S. Department of Commerce, trackage rights establish a tenant-landlord relationship that will only be sufficient to replicate the impacts of competition if the landlord charges a fee equal only to the landlord's cost of providing track resources, and nothing higher. If fees for trackage rights are set higher than such costs, clearly the tenant would be placed at a competitive disadvantage with respect to the landlord against whom the tenant is expected to compete. On the other hand, should the trackage fees be set below costs, the tenant would certainly be able to be an effective competitor, but the landlord would have little incentive to maintain the tracks in good repair, since this would be a money-losing proposition.

While it is not clear in this case how the trackage fees are to be determined, there is little to indicate that such fees would be established according to this principle. Until such information is provided, the presumption must be that such remedies are not appropriate solutions to the loss of competition. Moreover, this offer to extend trackage rights is not drawn to also meet the decline in carriers from three down to two.

A key reason for the entire merger process is to gain more efficiencies in transporting goods. But achieving such efficiencies usually entails downsizing the workforce of the systems merged. Such is the case in the proposed merger of the UP and SP.

The proposed merger between the UP and SP could result in a net job loss of 742 during the three years following the merger.31 This reflects the projected gain of 301 new jobs created by the merger, 114 jobs relocated in to or within the state, and 1,157 jobs abolished or relocated. This net loss could be as small as 497 jobs because exactly where 245 Texas jobs will be relocated to has yet to be negotiated. But, according to John Bromley, Director of Public Affairs for Union Pacific, a "substantial number" of these 245 jobs will be relocated within Texas.32

These losses will be spread unevenly across the state. Indeed, some areas of Texas will actually gain jobs as a result of the merger. Most notable in this regard is an expected gain of 119 jobs in El Paso, 63 jobs in Sweetwater, 34 jobs in Dalhart and 31 jobs in Del Rio (see Table 4). The bulk of the net job losses will be incurred in Houston which is expected to absorb the loss of 460 jobs over the three years following the merger. Significant job losses are also expected in Palestine, San Antonio and Smithville (see Table 5).

Table 4
Texas Communities Gaining Jobs Due to UP-SP Merger

New Jobs Created Relocation Gains Jobs Abolished or Relocated New Job Change
El Paso 85 78 44 119
Sweetwater 63 0 0 63
Dalhart 35 0 1 34
Del Rio 31 0 0 31
Laredo 0 13 2 11
Fort Worth 39 3 37 5
Longview 1 3 0 4
Denison 2 1 0 3
Kingsville 2 0 0 2
Austin 0 1 0 1

Source: Labor Impact Exhibit, Finance Docket No. 32760, UP-SP Rail Merger Plan,pp 407 - 422.

Table 5
Texas Communities Losing Jobs Due to UP-SP Merger

New Jobs Created Relocation Gains Jobs Abolished or Relocated New Job Change
Houston 14 5 479 -460
Palestine 0 1 147 -146
San Antonio 1 6 103 -96
Smithville 0 0 60 -60
Big Spring 0 0 44 -44
Victoria 0 0 25 -25
Spring 0 0 22 -22
Amelia 0 0 18 -18
Texarkana 0 2 19 -17
Tyler 1 0 17 -16
Galveston 0 0 12 -12
Mineola 0 0 12 -12
Alpine 0 0 10 -10
Beaumont 0 0 10 -10
Dallas 27 0 37 -10
Harlingen 0 0 9 -9
Taylor 0 0 9 -9
Corpus Christi 0 0 7 -7
Hearne 0 0 7 -7
Eagle Pass 0 0 4 -4
Dayton 0 0 3 -3
Troup 0 0 3 -3
Waco 0 0 3 -3
Brownsville 0 1 3 -2
Lufkin 0 0 2 -2
Strang 0 0 2 -2
Amarillo 0 0 1 -1
Edinburg 0 0 1 -1
Flatonia 0 0 1 -1
Grand Prairie 0 0 1 -1
Gregory 0 0 1 -1
Mesquite 0 0 1 -1

Source: Labor Impact Exhibit, Finance Docket No. 32760, UP-SP Rail Merger Plan, pp 407 - 422.

Shippers Concerns

To identify the level of concern about the proposed UP-SP merger, the Comptroller's office conducted a telephone survey of 120 shippers in various industries in Texas during the first week in December 1995. The list of possible respondents was drawn from sources known to be likely rail transportation users, so that the survey result should not be interpreted to represent a cross section of all Texas firms.33

Perhaps the one most astonishing result of the survey is the extremely high level of interest in the proposed merger. More than 88 percent of the respondents to the survey indicated they were aware of the merger. For those familiar with opinion research, such awareness levels of public issues is indeed rare.

Overall, there is a considerable difference of opinion about how the merger could impact Texas' rail shippers. Table 6 indicates that 34.2 percent of the respondents felt that the merger was a positive development as opposed to only 18.3 percent seeing the change negatively. This sort of positive/negative split was surprisingly constant across numerous tabulations of the results with a few important exceptions.

Table 6
Shipper Assessment of the Impact of the UP-SP Merger

Number of Respondents Percent
Positive Impact 41 34.2%
Negative Impact 22 18.3%
No Difference 41 34.2%
Don't Know/No Answer 16 13.3%
Total 120 100.0%

Source: Comptroller of Public Accounts telephone survey December 1995.

In one question, respondents were asked to indicate how sensitive their firms are to possible service and rate changes resulting from the merger. The respondents were asked to indicate if they thought their firms would have to undergo major changes to cope with the merger, only some adjustments or very little change. In contrast to the overall average of 18.3 percent, 43.7 percent of the respondents that indicated their firms could experience major changes as a result of the merger also saw the merger negatively. Moreover, this same group overwhelmingly (68 percent) said that they expected the merger to result in increased freight rates. Finally, twice as many respondents from this group felt that service would deteriorate as a result of the merger than felt service would improve.

In contrast to this "high rail impact" group, a much larger proportion of respondents saw the merger more positively. But these firms also believed they could deal with any impacts of the merger with relatively few adjustments from their current operations. Almost 36 percent of this moderate-to-low merger impact group felt that the merger would be a positive development, slightly above the 34 percent average for all respondents. Moreover, 32 percent of this group expected rail service to improve as a result of the merger, above the survey average of 29 percent.

Other small subgroups of the survey sample appeared to have perceptions about the merger that differ significantly from the total survey sample. For example, shippers that are currently served by the Southern Pacific, but not by the Union Pacific, see the merger quite positively. Fifty percent of this group see the merger as a positive development with the remaining fifty percent seeing it a making no difference to their firm. This sentiment that virtually any alternative to "SP-only" service represents an improvement, probably reflects on the long-term economic viability of the SP and their ability to translate economic strength into good service. In this regard it should be noted that SP has had a negative operating cash flow in 14 of the last 17 years, undoubtedly making significant service improvements during this time difficult.34 At another extreme in the responses to the survey, more respondents from utilities saw the merger as negative than viewed it as positive.

The results of this survey seem to support two conclusions. First, the UP-SP merger is being strongly watched by shippers and clearly is a concern to them. Secondly, there is a small, but not insignificant group of Texas shippers that feel they will be harmed by this merger. While it may be tempting to say that this should be weighed against a larger group that views the merger as a positive development, it should also be remembered that should the merger not occur, these firms would be in no worse position than they were before the merger surfaced. On the other hand, some firms do feel they would be worse off should the merger be approved.

Other Alternatives

In addition to the Texas Rail Link plan put forward as an alternative to preserving rail competition in Texas, other rail companies have expressed an interest in owning and operating at least part of the Southern Pacific.

Shortly after the UP-SP merger was announced, Conrail offered to buy from UP the SP lines from Chicago to Galveston and Brownsville as well as the lines from New Orleans to El Paso, with connections to Mexico (this section of SP became known as "SP East". After Conrail made its offer, UP announced its trackage rights proposal with the BNSF that they believed addressed and solved the competitive issue raised by shippers. Conrail's offer was subsequently rejected by UP.

Kansas City Southern (KCS) and Illinois Central (IC) also submitted proposals to the ICC to buy portions of SP track. KCS has offered to buy SP's "cotton belt" lines from St. Louis to Houston, and from Houston to Corpus Christi. Meanwhile, IC wants to buy SP lines from Memphis, Tenn., to Houston and from New Orleans to Houston. Neither railroad company disclosed a proposed price, nor the amount of track miles involved.35

Rail Access To Mexico

Since 1986, when the Mexican economy started to recover, and with the passage of the North American Free Trade Agreement (NAFTA), Texas has been the major land transportation trade gateway into Mexico. U.S exporters delivered $43.3 billion worth of merchandise to Mexico by truck and rail in 1994. Trucks are the dominant mode of transport, carrying 90 percent of the value of U.S. exports to Mexico and 83 percent of the value of goods imported from Mexico in 1994.36

While transportation of trade by rail accounted for $4.2 billion, or 10 percent of total land transportation U.S. trade with Mexico, nearly 97 percent of the goods shipped by rail passed through Texas ports.37 In turn, Mexico exported $42.1 billion worth of goods to the U.S. by truck and rail, nearly 70 percent through Texas ports. Transportation of Mexican goods by rail accounted for $7.2 billion of the total with $4.8 billion, or two-thirds, passing through Texas ports.

Currently, five railroads serve the border area between Texas and Mexico. Three Class 1 railroads- the BNSF, Southern Pacific and Union Pacific- serve El Paso, Eagle Pass, Laredo, McAllen and Brownsville. The Texas-Mexico Railway, a Class 2 railroad, provides service between Laredo and Corpus Christi, and one Class 3, the South Orient, provides service from Presidio to San Angelo. As a result of the merger of the UP and SP, the number of Class 1 railroads serving all border crossings in Texas will be reduced from three to two, below the threshold held by the Justice Department as providing a competitive rail environment.

Another possible change in the international railroad system involves the Mexican government's plans to privatize its state-run railroad by dividing it into regional railroad companies, each with a different operator. According to news reports, the right to run each company will be put up for bids in late 1996. Mexico will retain ownership of the system, but the winning bidders will receive a 50-year concession to control operations on each portion of the railroad.38

According to preliminary reports, the regional railroad companies will be the Northeast, the Pacific North and the Southern. The major regional companies will be those connecting with U.S.-Mexico border crossings- particularly those with Texas' border crossings.

The Northeast region contains the best rail crossing between Mexico and the US (at Laredo) and also claims the highest volume of traffic. Mexican officials plan to combine the Laredo corridor with the border crossing at Brownsville. The Pacific North region will include two corridors: one running along Mexico's west coast and then east to Mexico City, and the other running through the middle of Mexico and intersecting with a coastal route outside of Mexico City. El Paso and Eagle Pass, Texas are the important points of entry to the Pacific North region of the Mexican railroad system. Should the proposed UP-SP merger be approved, this would effectively reduce the number of alternative partners from which a Mexican railroad would have to choose a partner.

Findings and Recommendations

The overriding conclusion of this review of railroad merger activity in Texas is that the proposed merger of the SP and UP systems is of great significance to the state. Shippers have demonstrated a significant level of awareness of this issue. There is substantial disagreement among shippers as to whether this merger will be beneficial or not.

Some of the facts surrounding the proposed merger also merit cause for concern. If such a merger were to occur, the UP-SP system would by far be the dominant carrier in the state. While it does not necessarily follow that such market power could or would be exploited, as established by the U.S. Justice Department, the pre-conditions for the wielding of market power would exist in several important markets in the state.

Most certainly, the key question is whether or not the trackage rights agreement between a merged UP-SP system and BNSF truly creates a competitive environment for shippers in Texas facing a reduction in competition. In determining the answer to this question, the unprecedented size of this trackage rights agreement, the past record of carriers in performing under similar agreements and the candid assessments of the parties themselves about the viability or these agreements must be taken into account. On all three counts there is considerable cause for concern that these agreements can provide the necessary long-term substitute for true competition. Given the importance of the state's rail system to the economic health of our firms, there should be little weight given to the ability of such trackage agreements to provide a substitute for competition "in theory". It should be the burden of the merger participants to provide firm evidence of the likely success of such arrangements in practice.

If there were no alternatives to a UP-SP merger, such issues could well be moot, or at least out-weighed by the need to find a long-term solution to improving service on the existing SP lines in the state. But responsible groups both within and outside of Texas have put forward suggestions for alternative approaches. These possibilities should be examined in light of what is best for Texas shippers, not rail carriers operating in the state.

In light of these findings, the Texas Railroad Commission is well justified in conducting hearings on the proposed merger. These hearings should:

  • Ensure that all parties have a chance to make their views known and that all alternatives receive adequate consideration, including the Texas Rail Link plan.

  • Firmly establish what evidence exists to support the assertion that the trackage rights agreements truly constitute a practical alternative to the anti-competitive questions raised by the UP-SP merger.

  • Weigh the evidence in support of the trackage rights agreements against alternative proposals for service in Texas which could better serve shippers in the state, particularly those now served by only the SP.

  • Elicit some assurances from the merger participants that, should the merger be approved, the capital construction program envisioned will go forward.

  • Establish a record of sentiments expressed at the hearings for transmittal to the Surface Transportation Board.

Status of the ICC

The federal agency originally charged with the responsibility of overseeing railroad consolidations, mergers and acquisitions was abolished effective January 1, 1996. The Interstate Commerce Commission (ICC), created in 1887, regulated "carriers engaged in transportation of interstate commerce and in foreign commerce to the extent that it takes place in the United States".2 The ICC ruled on applications for consolidations, mergers and acquisitions by railroads, preventing unlawful discrimination and destructive competition.3

The ICC has been under threat of abolishment by Congress for some time. In 1994, the House voted to eliminate funding for the ICC, only to be saved by the Senate.4 It was not as lucky this time around. The House and Senate both approved legislation abolishing the transportation agency. HR 2539, the ICC Termination Act of 1995, was signed by the President on December 29, 1995. The Act creates the Surface Transportation Board within the U.S. Department of Transportation. The three-member board is appointed by the President with the advice and consent of the Senate.

The Surface Transportation Board will oversee consolidations, mergers and acquisition of control. The Board may impose conditions on any merger approved, including "the divestiture of parallel tracks or requiring the granting of trackage rights and access to other facilities".5 The Board may also "require the inclusion of other rail carriers located in the area ...(if) the Board finds their inclusion to be consistent with the public interest."6

The Union Pacific-Southern Pacific merger application was filed with the ICC on November 30, 1995. The new act requires the Board to publish a notice of the application by the end of the 30th day after the application is filed. Written comments may be filed with the board within 45 days after the notice is filed. The Board may determine whether it is in the public's interest to hold public hearings. The Board must conclude evidentiary proceedings by the end of one year after the first publication notice and a final decision must be issued by the board 90 days after the conclusion of the evidentiary proceedings. Based on the schedule in the ICC Termination Act, a final decision on the Union Pacific-Southern Pacific merger should be made by April 1, 1997.

Texas Rail Links

A group of Texas business leaders feel they have the answer to the lack of competitiveness that may result from the latest proposed railroad merger in Texas. The owners of the South Orient (SO), a shortline railroad, are proposing to form Texas Rail Link (TRL), an intrastate rail system providing Texas shippers with a third 'in-state' shipping option and access to the Mexican gateways and the Eastern US (Map 2). TRL, currently in the planning stages, would be a switching railroad, moving cargo between Texas shippers and an interchange point. TRL would combine the SO line, formerly a Santa Fe line purchased in 1991 with $3 million in state funds,22 with the tracks and trackage rights acquired by TRL to provide shippers access to Illinois Central (IC), Norfolk Southern (NS), CSX and Kansas City Southern (KCS)--all Class 1 railroads.

Roy Coffee, part owner of the South Orient and one of TRL's founders proposes to "purchase duplicate lines that come out of the UP-SP merger and ...get some trackage rights to connect with four or five Class Ones"23 With trackage rights, TRL could access and provide services over the tracks owned by UP-SP; however, UP-SP would continue to own and maintain the tracks. According to Coffee, with only 450 miles of purchased lines TRL would be able to serve New Orleans, El Paso and Texarkana and would also be able to provide passenger service connecting Dallas, Houston and San Antonio.24 TRL would also provide valuable access to the Mexican gateway25 and a Mexican rail system expected to undergo privatization by late 1996.

UP has rejected TRL's plan to purchase tracks and trackage rights. UP entered into an agreement with Burlington Northern/Santa Fe (BNSF) to "provide shippers with a rail alternative for shippers who would lose service...as a result of a UP-SP merger".26 According to Coffee, the UP has rejected TRL's proposal because the UP-BNSF agreement prevents UP from discussing alternatives until the Interstate Commerce Commission (ICC) rejects their existing agreement.27

Texas' UP-SP Merger Response

Governor George W. Bush requested that the Texas Railroad Commission (RRC) evaluate the merger and respond on behalf of the state. State Representative Hugo Berlanga requested that the RRC hold state-wide public hearings regarding the merger. The RRC has scheduled hearings on January 9, 10 and 11 in Fort Worth, Corpus Christi and Houston and are expected to ask for testimony regarding competitive, labor, economic and environmental impacts. Another hearing may be scheduled in Austin. The staff is currently in the process of reviewing the merger application filed by the UP-SP on November 30, 1995.

State Representative Rob Junell has also been a vocal opponent of the proposed UP-SP merger. In a November 8, 1995 press conference, Rep. Junell said, "Union Pacific's plan to take over Southern Pacific poses a serious threat to competition in this State." Joining Rep. Junell at the press conference were Rep. Saunders, Rep. Wooley and Rep. Coleman. Other organizations expressing concern over the proposed merger and its effects on competition include the Texas Farm Bureau, the Texas Chemical Council and the Texas Cattlemen's Association.


Endnotes

1
Much of the discussion for the historical developments in the rail industry is drawn from the 1990, 1993 and 1994 issues of the U.S. Industrial Outlook, published by the U.S. Department of Commerce.

2
The Office of the Federal Register, National Archives and Records Administration, The United States Government Manual 1994/95 (Washington, D.C., July 1, 1994), p. 631.

3
The Office of the Federal Register, p. 631.

4
David Barnes, "House votes to kill ICC, protect labor," Traffic World (November 20, 1995), p. 8.

5
H.R. 2539, 104th Congress, Subtitle IV, Part A, Chapter 113, Sec. 11324(c).

6
Ibid.

7
"BN Completes Merger with SF,"US Rail News, September 1995.

8
Paul Lamonica, "From Sea to Shining Sea," Financial World (December 1995), p. 44.

9
Interview with Michael Jones, Rail industry specialist, Texas Railroad Commission, December 1, 1995. See also Russell W. Pittman, "Railroads and Competition: The Santa Fe/Southern Pacific Merger Proposal," The Journal of Industrial Economics, Volume XXXIX, No. 1, September 1990, pp. 25-46.

10
"500 SP Jobs May Be Lost But Denver Could win in Long Run," The Denver Post (December 1, 1995), p. D-01.

11
Annual Reports of the Union Pacific Railroad and Southern Pacific Transportation Company. (1994).

12
The Kansas City Southern Railway Company, "Competitive Concerns with the Proposed Union Pacific/Southern Pacific Merger," monograph dated October 16, 1995 (114 West Eleventh Street, Kansas City, Missouri).

13
"Railroads Reach Trackage Pact," United Press International (September 26, 1995).

14
Christopher Palmeri and Ann Marsh, "Can Drew Lewis Drive the Golden Nail?", Forbes, December 18, 1995, p. 60.

15
Palmeri and Marsh, p 64.

16
Railroad Merger Application, Vol. 3, p. 216.

17
Railroad Merger Application, Vol. 3, pp. 216-229

18
An agreement through which a railroad obtains access and provides service over tracks owned by another railroad.

19
Interview with Michael Jones, December 7, 1995.

20
Railroad Merger Application, Vol. 1, p. 17.

21
Interview with Michael Jones, December 1, 1995.

22
Interview with James R. Craig, December 7, 1995.

23
Jack Burke, "Details of UP-BNSF trackage agreement will be unveiled in merger application," Traffic World (November 20, 1995), p. 22.

24
"Details of UP-BNSF trackage agreement will be unveiled in merger application," p. 23.

25
Texas Rail Link, Texas Rail Link: A Report for the Railroad Commission of Texas, October 9, 1995, p. 1.

26
"Details of UP-BNSF trackage agreement will be unveiled in merger application,"p. 22.

27
"Details of UP-BNSF trackage agreement will be unveiled in merger application,"p. 22.

28
See, for example:

Russell W. Pittman, "Railroads and Competition: The Santa Fe/Southern Pacific Merger Proposal,"The Journal of Industrial Economics, Vol. XXXIX, No. 1, September 1990, pp. 25-46.

Redacted and verified statement of Peter A Woodward before the Interstate Commerce Commission, Washington, D.C. on the Burlington Northern, Inc. and Burlington Northern Railroad Company - Control and Merger Santa Fe Pacific Corporation and the Atchison, Topeka and Santa Fe Railway Company. Finance Docket No. 32549, June 9, 1995.

29
Appendix to letter from Richard P. Bruening, Senior Vice President and General Counsel, Kansas City Southern Railway Company to the Railroad Commission of Texas, dated October 10, 1995.

30
In particular, see the discussion by Peter A. Woodward in his statement to the ICC of June 9, 1995.

31
Labor Impact Exhibit from Finance Docket No. 32760, UP-SP Railroad Merger Application, Vol. III, pp. 407-422.

32
Telephone conversation with John Bromley, Director of Public Affairs for the Union Pacific Railroad, December 18, 1995.

33
The 120 responses were generated from a sample of 182 industry contacts for a response rate of 66 percent.

34
Letter from Joseph R. Bateman, Jr., Assistant Vice President of Government Affairs, Union Pacific Railroad Company to the Research Division of the Comptroller of Public Accounts dated December 18, 1995.

35
Telephone conversation with Ab Reef, Chief Operations Officer, Kansas City Southern Railroad and Dave Kelly, Illinois Central Railroad, December 20, 1995.

36
Texas Comptroller of Public Accounts, Economic Indicators Database.

_________. "Texas Trade Routes." Fiscal Notes, October 1995, p. 1. (Newsletter)

37
U.S. Department of Transportation, Transborder Data Project, 1994.

38
Matt Kelley, "Railroads Eye Prized Routes Mexico to Sell Rail System in Sections," Omaha World Herald (September 24, 1995), p. 1M.