EUR 850.00 For Business Accounts Only

Morningstar | UP Announces Shift to Precision Railroading, but Scant Details Lend Little Incremental Optimism

On an analyst call, Union Pacific has announced plans to adopt precision scheduled railroading, but few details and improvement targets unchanged from the investor meeting four months ago temper our expectations for its successful near-term radical adoption of precision scheduled railroading principles. Accordingly, we retain our projected operating ratio improvement over the next five years. We already model improvement from a 61.8% OR in 2017 to 58% in 2022, based on our assumption of more effective use of manpower. Management reiterated its goal of a 60% OR by 2020, and a 55% OR longer term. We think the market demands grander changes than management shared today to garner a share price that reflects conviction in more rapid OR improvement.

What we found lacking was communication of a real boldness of action. The precision scheduled railroad is the brainchild of the late Hunter Harrison, who employed it when turning around the Illinois Central, Canadian National, Canadian Pacific, and CSX--the latter two in remarkably short order (less than a year at CSX). Elements of this system include focus on car velocity and relentless emphasis on asset utilization, including rightsizing human assets, rail yards, real estate, the locomotive fleet, rolling stock, and operating divisions. When Harrison improved CP and CSX, he quickly changed leadership and reduced the employee count 20%-25%. To date, UP looks less aggressive. Management indicated plans to shift focus from train-based measures to car-based metrics (such as car velocity), to use more general-purpose trains by blending existing trains, and to better balance train movements to improve crew and rail asset utilization.

Management’s preservation of existing OR targets, announcement of no yard changes or closures, and no escalation of real estate sales all sound rather status quo, even if the car-based focus will indeed improve utilization. All in, we feel this announcement was premature given the lack of detail.

Moreover, without installing new leadership with precision scheduling railroading experience, we’re skeptical the market will reward UP shares in advance of putting up performance numbers that prove it can implement this new operating system. The firm did install a new COO about a month ago, but Tom Lischer is a 23-year UP insider, not a precision railroading veteran.

The first changes begin in October in the eastern North/South corridor (Wisconsin to Texas), and management plans for the full network to be converted by 2020. UP is an immense railroad. Phase one is larger than either of the Canadian railroads, so this is a huge task. However, given that management has had detailed operational information for years, the likes of which Harrison did not have until he was hired by CP, then CSX, we expected to see greater detail than what Harrison shared early in the recent turnarounds he conducted.