Serving Two (Station) Masters

More spending may assuage Burlington Northern's customers, but not Wall Street

These are boom times for railroads, and it's perhaps most pronounced at Burlington Northern Santa Fe Corp. The nation's second-largest railway, based in Fort Worth, smartly targeted the fast-growing business of shipping international cargo containers by rail. At the same time, demand for traditional cargo such as coal, chemicals, and agriculture has surged.

Burlington Northern has enjoyed nearly unmitigated pricing power, using fuel surcharges to pass on rising energy costs and raising rates substantially on top of that. It competes with trucking, but that method costs at least 15% more, and some goods simply can't be shipped that way. Since 2001, the company's profits have doubled, to $1.5 billion, on $13 billion in revenue, helping land it the No. 12 spot on the BusinessWeek 50 list of top corporate performers. With a full head of steam, Burlington Northern Chief Executive Officer Matthew K. Rose is focusing on massive infrastructure upgrades -- capital spending is expected to rise 15% this year, to $2.5 billion. For his customers, more capacity can't come soon enough. But investors, wary of a cyclical downturn, have already begun to punish the stock.

Customers are getting tired of swallowing Burlington Northern's price increases, especially as demand causes service to slip. Left with little choice in how to ship their goods, however, they've been at the railroad's mercy. At the Laramie River Station, a coal-fired power plant in Wheatland, Wyo., Burlington Northern trains are running an average of 10 hours behind, says station spokesman Floyd Robb, while the station's shipping costs are double 2001 levels. The frustration is so intense that several shipper groups are pressing Congress to rein in railroads' pricing power.

Rose thinks that more investment will help quell his critics. "You'll see the noise go away," he says. In fact, some of Rose's bets have already paid off. A logistics center in Joliet, Ill., housed in a former Army munitions plant, was built in 2002 to speed delivery of shipments flowing through nearby Chicago. Wal-Mart Stores Inc. (WMT ) just opened a 3 million-square-foot distribution center on site. Originally planned to move 1,000 cargo containers a day between trains and trucks, it'll be up to 2,700 next year.

Burlington Northern also outflanked rival Union Pacific Corp. by laying double track on most of the 2,200-mile Chicago-Los Angeles route, so that trains won't have to wait on a sidetrack for those coming the other way. That shaves a day off the typical five-day journey in each direction. "They've really made a big push to reach out to importers," says Wayne Thompson, director of global logistics at Madison (Wis.)-based Pacific Cycle Inc., which imports Schwinn bicycles from China. Burlington Northern now gets more than a third of its business from container traffic, vs. just 19% for Union Pacific.


As the peak summer shipping season draws near, Rose is also pushing his workers, launching a productivity drive that he has dubbed "velocity." Burlington Northern now ties 30% of employee bonuses to improvements in the number of railcars shipped per mile. In Los Angeles, terminal superintendent Charles J. Potempa used to send trains out to Memphis with 180 cars, figuring they could pick up a few more along the way. Now he'll hold the train until he can come up with a full load of 250 cars; a full load can then run nonstop to its destination, saving time.

But analysts have taken a dim view of the spending. Burlington Northern shares rose 250% in five years, but have slid 13% in the past three months. If the economy turns down, railroads will suffer -- and that investment will have been wasted. Donald Broughton, a transportation analyst at A.G. Edwards Inc. (AGE ), told his clients to sell train stocks earlier this year. He says: "If they were behaving like rational duopolists, they wouldn't invest a dime."

By Christopher Palmeri

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