STB issues 2017 revenue adequacy determinations for Class I railroads

Late last month, the Surface Transportation Board (STB) made its annual determination of revenue adequacy for United States-based Class I railroads for calendar year 2017.

STB said that a railroad is revenue adequate if it achieves a rate of return on net investment equal to at least the current cost of capital for the railroad industry for 2017, which the STB said was 10.04%.  

The 10.04% figure, said the STB, is compared by the STB to the 2017 ROI data obtained from the carriers’ Annual Report R-1 Schedule 250 filings, noting that a revenue adequacy figure has been calculated for each of the Class I freight railroads that were in operation as of December 31, 2017

The STB said it was directed by Congress to perform these revenue adequacy determinations annually. And for 2017 it found that four Class I railroads– BNSF Railway Company (10.7%), Norfolk Southern Combined Railroad Subsidiaries (10.05%), Soo Line Corporation (10.71%), and Union Pacific Railroad Company (14.08%) “achieved a rate of return on net investment equal to or greater than the agency’s calculation of the cost of capital for the railroad industry.”

Railroads under the 10.04% revenue adequacy threshold included: CSX (8.84%); Grand Trunk (7.69%); and Kansas City Southern (7.09%).

Wolfe Research analyst Scott Group observed in a research note that while annual revenue adequacy has no near-term regulatory implications, it is still an important metric longer term with future implications for potential rail regulatory reform.

“The rails averaged a 9.9% return on capital in 2017, up from 9.4% in 2016, but still down from a peak of 12% in 2013-2014,” Group wrote. “Additionally, average rail returns of <10% fell below the industry’s cost of capital for the first time in five years. We believe lower returns on capital should reduce pricing power on the STB to implement meaningful rail regulatory reform that could hurt rail pricing power.”

What’s more, Group explained that rail regulatory risk remains low, and that, at some point, the STB will need to define long-term rail revenue adequacy, although a final ruling on revenue adequacy with new rate case rules in place is still likely ten years away. And with the STB currently having only two of five Board members serving, with the possibility it could go down to just one member at the beginning of the year, he said  “any major STB decisions remain on hold right now and believe regulatory risk for the rails remains very low.”