Ample car supply drives rental rates down - Brief Article

Railway Age, May, 2000 by Anthony Kruglinski

Each year, Railroad Financial Corporation (of which this writer is president) offers a comprehensive overview of the North American rail equipment landscape at its Rail Equipment Finance conference. This year's three day meeting reviewed fleet statistics on new and used railcars and locomotives and attempted to predict near- and long-term trends for the industry. Present and future residual values and rental rates were profiled and discussed, as was the status of industries served by rail, including the grain, coal, and intermodal shipping segments. In short, the purpose of the conference was to provide information needed to make intelligent equipment decisions now and in the future.

For those Railway Age readers who could not be with RFC and its 200 guests in Phoenix in March (the conferees were forced to deal with 70-degree weather, sunny skies, and a golf course in Kelly green splendor), I would like to use this month's column to highlight some of the trends suggested by the speakers, as well as recent statistics.

* Overbuilding in the railcar segment. Based on statistics provided at the conference, North American railcar manufacturers built almost 75,000 units in 1999. (Consider individual platforms in intermodal articulated sets as individual units.) What will the numbers look like for 2000? A steep drop to 50,000-55,000 units, which seems to be driven primarily by an anticipated reduction in demand for coal and grain cars. Significant numbers of grain cars and brand new aluminum coal cars are parked--unleased--by lessors. Predictions for tankers, specialized covered hoppers, intermodal equipment, and some boxcars seem to be what will support builders in 2000 and 2001.

* A bottoming-out of many railcar rental rates. Not surprisingly, with so many cars parked, short- and medium-term rental rates for cars rented under net or full service operating leases are in the tank. Without being too specific, lessors who have cars coming off lease and who must cope with car surplus are having to tolerate rental rates that are 50% or less than rents available two or three years ago. Full service rents on 4,750s are in the low $200s and rents for aluminum coal cars are in the low $300s. Rental rates for mill gons--another car type that had an unusually high build rate in the last few years--are also down due to disruptions in the steel industry and, perhaps, increased efficiencies in car utilization on the Class I railroads.

* More about increased car utilization. A common theme several prominent industry presenters expressed was that "as weak as the market is for rental rates for certain car types, just imagine how much worse it could get for each 1% or 2% increase in car utilization realized by railroads now in the process of recovering much of their pre-merger operating efficiencies." The picture could be bleak. However, most presenters were evenhanded enough to point out that increased use of Powder River Basin coal or a significant overseas grain sale could have a reverse--and positive effect--for railcar lessors.

* A locomotive market in motion. Electro-Motive Division's lease of 1,000 new 4,000-h.p. diesel-electric locomotives to Union Pacific was an item of particular interest to potential funders of the head lease to General Motors and to owners, investors, and operators of six-axle, high-horsepower locomotives. RFC's role as advisor to EMD for this transaction allowed it to profile the deal basics to potential tax-lease investors in the audience. However, a major topic of conversation was the impact the low initial term rental rate was having, and was likely to have, on the short- to medium-term locomotive rental market.

In any case, while locomotive rental rates to date seem to be driven more by units likely to be returned by recent merger railroads who are getting the operational "bugs" out of their systems, the significance of being able to rent a new SD70 unit for less than a used, 20-year-old SD40-2 was not lost on the conferees.

* The impact of new EPA locomotive rides. The "Power-Power-Power" program on the third day of the conference was widely attended. In addition to hearing a story of generally flat prices for used locomotives in the secondary market, attendees were treated to a nuts and bolts tear down of new EPA rules on locomotive emissions by John Cavanaugh of EMD. Owners and operators of high-horsepower diesel-electrics in linehaul service listened to projections of salvation or doom during discussions of grandfathering and the costs of remediation. Look for more information on locomotive emissions in Railway Age's 2000 Guide to Equipment Leasing in June.

Tony Kruglinski is president of Railroad Financial Corp., a Chicago investment banking concern that facilitates railroad and rail equipment transactions.