OCTOBER 01, 1985 by HENRY W. VANDERLEEST, KAROLINE BOTA
Dr. Vanderleest is a Professor of Marketing at Ball State University, Muncie, Indiana. He Is a noted writer and lecturer on marketing transportation services. Ms. Bota is s free-lance writer and resides in Knoxville, Tennessee.
On February 4, 1887, Congress passed the Act to Regulate Commerce. This legislation also created the Interstate Commerce Commission (ICC) whose job it was to administer and enforce provisions of the Act. The Act to Regulate Commerce, along with several subsequent amendments which sought to strengthen it, placed the railroad industry securely under the control of the federal government. While the original intent of the Act was to abolish the numerous abuses of public trust by the railroads, the long-term effect was the stagnation of the industry. For nearly 100 years, railroads had little or no flexibility in marketing their services to shippers.
Because of government-imposed price, service, and revenue constraints, there generally was little incentive for railroads to increase productivity, to lower costs, or to be innovative in providing services to their customers. Regulation in the railroad industry generally stifled creativity in the marketing area and, for the most part, caused the majority of railroads to turn inward and become operations-oriented rather than marketing-oriented in their approach to doing business with the public. The operations-oriented railroad’s approach to selling its services to shippers typically took the form of, “This is what I can do for you and this is how much it will cost. Take it or leave it.”
On October 14, 1980, Congress enacted the Staggers Rail Act. This Act thrust railroads into a significantly less-regulated environment, one for which most were unprepared. The tables were turned and shippers could now tell railroads, “These are my needs, what’s your best offer?” If the offer was not good enough, shippers were usually able to go to another railroad or switch to competing modes such as trucks or barges. After being shielded for many years from the “real” marketplace with its demand, supply and competitive considerations, railroads quickly recognized that they had to begin successfully marketing their services in order to survive.
This article examines the impact of deregulation in the railroad industry and how it has allowed railroads to develop and implement sound marketing programs in attempting to meet their organizational goals. Although the article is limited to the railroad industry, deregulation in many industries, including aviation, banking and communications appears to be the wave of the future. It is expected that marketing will become a key element in the business plans of many firms in each of these industries as they also strive to compete successfully in a deregulated environment.
Competitive Conditions Prior to 1980
Despite the constraining effects of regulation, railroads remained the dominant form of freight transportation in the U.S. until the emergence of the motor carrier industry in the 1930s. In the 1940s and ‘50s the number of trucks and their acceptance increased rapidly, providing shippers with a viable alternative for moving their merchandise. Railroads, however, made little attempt to meet the challenge motor carriers were providing. As the dominance of railroads continued to dwindle, the causes became increasingly evident.
First, the Act to Regulate Commerce gave railroads virtually no flexibility in rate-making. While the intent of early legislation was to abolish railroad rate discrimination, it made it difficult, if not impossible, for railroads to make rate adjustments which reflected economic as well as competitive conditions. As a result, railroads lost much of the high-value, high-rate traffic—such as manufactured goods, gasoline and produce—to the motor carrier industry. Most remaining rail traffic consisted of low-value, bulk commodities such as coal, grain and timber.
In general, the loss of high-value traffic to the trucking industry was due to service considerations. While it may have been cheaper to ship some goods by rail, the time saved by using motor carriage could be translated into dollars and cents, thus offsetting the higher cost. The speed and reliability of some railroads had also been lessened by deferred maintenance policies which were practiced by most railroads at the time.
Another factor hindering the competitiveness of railroads during nearly ninety years of regulation was the railroads’ inability to abandon unprofitable lines when necessary. Because of the ICC’s restrictions, railroads were often forced to provide unneeded and unprofitable service to some areas for extended periods of time. Railroads were also reluctant to become involved in the costly and time-consuming battles with shippers and local groups when abandonments were proposed.
The extensive amount of redundant track mileage, coupled with the costs of maintaining it, resulted in serious financial difficulties for many railroads. The railroads argued that the elimination of some main-line track would allow them a greater volume of traffic to travel over the remaining lines, thus reducing their operating costs. Permission to abandon was granted very infrequently, however. When abandonments were approved, it was generally only after drawn- out deliberations had been completed, some lasting as long as four or five years.
Because of the problems and inefficiencies resulting from restrictive government regulation, the railroad industry consistently earned a return on investment considered to be far below that necessary to attract new capital for plant and equipment improvements. As a result of inferior railroad service, shippers readily switched their business to motor carriers who, although usually charging higher rates, generally offered higher quality and more dependable service.
Key Elements of the Staggers Act
The Staggers Act of 1980 marked the end of nearly 100 years of restrictive government regulation of the railroad industry. In short, it allows the marketplace to determine price, quality and type of transportation service offered by individual railroads, which gives them greater opportunity to compete successfully against each other as well as against competing modes. A brief overview of the major provisions of the Staggers Act which directly influence the ability of railroads to develop marketing programs, particularly in the areas of pricing and service, is dis cussed here.
General rate flexibility. Rate freedom is the most important result of railroad deregulation. Railroads can now make rate adjustments, subject to certain guidelines, without ICC approval. Currently, for example, nearly two-thirds of all rail rates are entirely free from regulation. The balance are still under some ICC jurisdiction because they apply to specific commodities such as coal being moved between two points where railroads have virtual market dominance, thus leaving the shipper with no alternative carrier choices. In general, however, pricing is now a controllable variable in a railroad’s business plan as price changes can be made in a timely manner in response to changing economic and competitive conditions.
With deregulation, the traditional practice of all railroads collectively seeking approval from the ICC for the same percentage rate adjustment has also been eliminated in favor of individual railroads setting their own rates. As a result, the role of the ICC has been lessened to routinely publishing and filing rates developed by carriers. Because of the large number of rates now available to shippers, some real bargains exist. Regardless of whether rates are increased or decreased, the Act stipulates that individual railroads may determine specific rates for each shipment, depending upon demand and competitive forces. That competitive rates are now very popular is evidenced by the fact that nearly 70 per cent of the freight revenue earned by railroads in 1984 is due to negotiated rates.
Service contracts. The legalization of service contracts in which individual railroads tailor a specific rate and service package to the needs of a particular shipper also resulted from the Staggers Act. The new law encourages railroads to innovate and experiment in developing rate and service packages for individual shippers. Before the Staggers Act, railroads and shippers were hesitant to enter into contracts because they feared antitrust litigation. Although the ICC has no role in the development of contracts, it must approve the final agreement between the railroad and shipper. This rarely poses a problem, however, as most contracts are routinely approved.
The duration of contracts can run from several months to as long as ten years or more. Contracts can take virtually any form as shippers are able to negotiate for specific services needed as well as eliminate any unwanted services. Railroads usually benefit in this situation because they can set rates that more closely reflect their actual costs in handling the shipper’s freight. Some long-term arrangements even specify that railroads make major investments in equipment and facilities. In general, contracts allow railroads to increase efficiency, particularly in the area of better car utilization and long-term revenue projection. Uncertainties in these two areas have contributed largely to the railroad industry’s weak financial condition in the past.
Eased regulatory restraints have also encouraged railroads to offer intermodal transportation services to their customers. Prior to 1980, railroads were generally prohibited from offering service via other modes. This has changed so that railroads may provide shippers “total” transportation service using all modes. This situation is well illustrated by the CSX Corporation which has built a true intermodal transportation company around the traditional rail operation by offering a wide range of transportation services by all modes. It is expected that the popularity of intermodal transportation services will continue to increase as this concept allows railroads to react to competition from other modes and increase revenues by moving traffic from origin to destination over longer distances.
Mergers and abandonments. The Staggers Act has sparked an increased interest in mergers. This is because one of the objectives of deregulation is to encourage railroads to become more self-contained. Because of their high fixed costs, railroads have always been most efficient on long hauls where stopping, starting and the number of interchange points are minimal. With additional mergers, railroads will be able to compete more effectively with other modes and increase revenues by handling the shipment from origin to destination on one system. Increased revenues combined with reduced costs incurred when moving traffic over longer distances should contribute to improved earnings for individual railroads as well as to the general health of the industry.
Abandonment of unprofitable lines was also facilitated with deregulation. Prior to 1980, it was extremely difficult for railroads to withdraw service from areas which do not provide profitable volumes of traffic. This resulted in cross subsidies where shippers on a railroad’s more profitable lines were charged higher rates to cover losses elsewhere. The goal of deregulation is that railroads need only provide service where enough volume of business exists to provide a reasonable return for that service.
Although it is easier to discontinue nonprofitable lines, it is expected that most railroads will attempt to avoid abandonments as long as possible by stepping up their marketing efforts to promote use of the line in question. If and when a line is abandoned for lack of traffic, however, it remains to be seen if the marketplace will offer enough incentive for another carrier to move into the area and provide service. In a situation where an abandoned line remains unattractive to all railroads, the Act makes it easier for the line to be taken over by other parties such as state and local governments. Some states, for example, have enacted legislation that subsidizes a carrier for keeping a marginal route operating.
Railroads “Discover” Marketing
Effective marketing is based upon determining the needs of a market and attempting to meet those needs more efficiently than competitors, with the ultimate goal of making a profit. Before 1980, most railroads were in a position where it was either not possible or not necessary to aggressively seek out business by offering competitive price and service packages.
Railroads are now aggressively attempting to find new freight. Increasing profit potential has encouraged numerous successful efforts such as “Sprint” and “Slingshot” express trains, “Fuel Foilers,” “Tank Trains” and other rail service packages designed to meet the specific needs of rail customers. Marketing-oriented railroads no longer depend exclusively on moving additional bulk cargo to increase business. Instead, they are putting much emphasis on seeking general merchandise freight, with the goal of recapturing some of the high-value traffic that they had previously lost to the motor carrier industry.
Railroads are also intensifying their sales and promotional efforts. In communicating with their customers about available services, for example, many railroads have adopted traditional consumer goods promotional techniques such as prime-time radio and television spots, billboard advertising and direct mail flyers. These methods complement promotional techniques generally used in industrial marketing such as trade shows and personal sales calls. Having satisfied customers should enable railroads to make extensive use of testimonials in future print and television advertising.
Much railroad promotion now includes direct, head-on comparative advertising of rail service compared to that offered by competing modes such as motor and water carriers. A recent Southern Pacific ad in a popular trade publication proclaims that:
Truckers are grinding their teeth these days . . . for a good reason. We’re successfully competing against the trucks now because we have the freedom to exercise our imagination . . . for example, we tailor train schedules to accommodate customers, we add trains, we expedite them, we write on-time delivery guarantees and we offer price incentives . . . our overall package gives us a competitive edge over truckers.
Pricing and service freedoms allowed by the Staggers Act have given railroads the opportunity to learn what marketing is all about. Progressive railroads now recognize that marketing can aid them in reacting to changing market conditions and to competing transportation modes. Marketing-oriented railroads believe that marketing belongs at the top of the organizational chart and are reorganizing to reflect this belief. Many, such as the Illinois Central Gulf and Norfolk Southern are bringing in marketers from the “outside,” meaning nonrailroaders, to head up newly organized marketing divisions. In short, the Staggers Act has created a renewed sense of urgency to accept marketing principles, understand them and put them to use.
On Track to Profitability
Recent data show that railroads now account for nearly 40 per cent of total U.S. freight tonnage hauled in 1984, up from just over 37 per cent in 1980. Although representing only a small increase during the four-year period, it is nonetheless significant because it reversed a downward trend in ton miles hauled that began in the 1940s when railroads, in addition to being saddled with regulatory restraints, were also being faced with new competition from the growing trucking industry. New business freedoms as a result of deregulation are also primarily responsible for the improvement in the rate of return on investment in the rail industry from about 2 per cent to about 5.5 per cent during this four-year period.
In general, earnings and stock prices are up for individual railroads and there have been substantial increases in capital spending throughout the industry. Massive innovation and new construction programs undertaken by many railroads have eliminated considerable deferred maintenance from mainline track. It is also likely that new equipment purchases will provide railroads with a 20 per cent increase in equipment capacity in 1985. It is expected that increased capital spending for improving track and roadbed conditions, modernizing switching yards, upgrading terminal facilities and purchasing additional rolling stock will allow many railroads to provide a higher level of service to their customers in the future. While railroads have traditionally been indifferent to service considerations, their new profitability is encouraging them to look at service as an important aspect of profitable operations.
After years of deferred maintenance, decreasing traffic and inadequate profitability, railroads are making a comeback. Easing of regulatory restraints through deregulation has given railroads the ability to meet changing market and competitive situations as well as the freedom to make business decisions independent of government sanction. In short, railroads have been given the opportunity to succeed or fail based on the strengths and weaknesses of their management decisions in a free marketplace. Railroads no longer have the luxury of operating in a protected environment where they had minimal interest in or incentive to optimize their operations.
Progressive railroads have responded to deregulation by gearing their organizational goals toward making rail service fit shipper needs rather than making shipper usage somehow fit rail service. As a result, each railroad provides its customers with different combinations of price and service, depending upon competitive conditions. Overall, the future of the rail industry is bright. A new spirit is evident which is reflected in new innovation, productivity and improved profitability. After four years of deregulation, evidence shows that the industry’s health has improved and survival seems assured.
It is expected that the same results will be seen in other industries that have been recently deregulated. Deregulation requires that a firm become marketing-oriented as it is no longer shielded from the harsh realities of the free marketplace by government regulation. Marketing and deregulation go hand-in-hand. As evidenced in the railroad industry, without deregulation there is little need for marketing. In a deregulated environment, however, it is crucial that marketing become the key activity in a firm’s business plan. Well-managed firms will thrive in a market-directed, deregulated environment, while those with a managerial focus who continue to bemoan the loss of the regulatory crutch will ultimately fail.
Altrogge, Phyliss D. “Railroad Controls and Competitive Conditions,” Transportation Journal (Winter, 1981).
“Deregulating America,” Business Week (November 28, 1983).
Rakowski, James P., “Regulating Change in Surface Transportation,” Appalachian Business Review (January, 1982).