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Generate Maximum Savings Through Optimizing

The blog titled Optimizing to Reduce Shippers Rail Expenses showed the process shippers can use to reduce rail expenses by millions of dollars while, at the same time, increasing railroad profit by millions of dollars. This value is created by optimizing railroads rates during a shippers bid evaluation. Win/Win opportunities are created by understanding the relationship between: 

The Reduction in Spend a Shipper Receives from Reduced Rates 

in Relation to 

the Increase in Profit the Railroad can Receive from Obtaining Additional Volumes 

 

The question that needs to be answered is how does a shipper determine the maximum value it can create through the optimizing process? Determining maximum value from optimizing is important as it brings the rate level of captive movements into rail negotiations. To do this a shipper needs to know the Pivot Point for awarding competitive carloads on each railroad.     

The Pivot Point represents the point where a railroad makes the maximum profit from reducing a shipper’s rates. 

Once the Pivot Point is reached, it becomes less attractive for a railroad to decrease rates to get the award of more competitive carloads. The Pivot Point shows when a rate reduction for the shipper is no longer offset by railroad profit obtained from an increase in carloads.

Illustration 1 demonstrates what goes into determining the Pivot Point. Illustration 1 shows that a 12% decrease in bid rates for a railroad’s competitive traffic is the Pivot Point. This decrease results in a 30% increase in the railroad’s profit resulting from a 20% increase in competitive carloads for the railroad. To get the most out of rail negotiations it is important for shippers to know the Pivot Point for rate reductions on each of their railroads. 

Rail Cost Control Pivot Point

Calculating the Pivot Point is an iterative process that continues to reduce rates on competitive movements for a railroad. With each rate reduction carloads are then re-award based on the lowest bids for competitive movements to determine the impact on both the railroad and the shipper. 

These changes are continually calculated until the Pivot Point is determined. Illustration 2 provides the results of this iterative process for the railroad used in our analysis. This graph shows the dollar savings for the shipper in relation to the change in rail profit for the railroad. These changes result from rate reductions of 1% to 18% in a railroad’s bid rates.

(Note to visually see the impact on rail profit and shipper savings, all dollar values are shown as positive amounts)

A 12% reduction in competitive rates represents the Pivot Point, as this generates the maximum amount of profit the railroad obtains from the award of more carloads. Railroad profit starts decreasing with rate reductions greater than 12%. Shipper’s savings continue to increase with rate reductions but by a 16% reduction the benefit to the shipper is greater than to the railroad. The source for Illustration 2 is the Rail Cost Control Program (RCC).

Rail Cost Control Pivot Point Optimized

Initially, the Pivot Point normally generates greater value for railroads than shippers.

This is because it represents the maximum increase in profit a railroad can get from reducing its rates. The table below demonstrates this as it summarizes the results for the rail bids used in this article.

 

Table 1

Summary Results for a 12% Rate Reduction on a Railroads Competitive Rates  

Shipper Savings 

$6.7 million 

Increase in Railroad Profit 

$12.5 million 

Increase in Railroad Revenue 

$23.0 million 

Increase in Railroad Carloads 

5,100 

**Table 1 Source: Output Table from the RCC – Cost Optimizer**

Table 1 shows that the railroad makes out much better than the shipper. The railroad makes $12.5 million in additional profit, while the shipper receives savings of $6.7 million. This difference brings rate reductions for captive movements into the optimizing process. Rates for captive movements become part of an iterative process that determines the best split of the benefits between the shipper and railroad through the optimizing process. The source for Table 1 is the Rail Cost Control Program.

Table 2 provides the results from optimizing after rate reductions for captive rates are included in the optimization process. This table shows the shippers expense is reduced by $9.6 million while the railroads profit is increased by $9.6 million. This is a good deal for the railroad as it makes $9.6 million more in profit and $20 million more in rail revenue than it would receive based on its initial bid rates. This is also a good deal for the shipper as its rail expenses are reduced by $9.6 million.

Table 2

Change from Bid Rates Summary Results After Captive Rates are Included in the Optimizing Process

Shipper Competitive Spend Saving

-$6,814,188

Shipper Captive Spend Savings

-$2,826,917

Shipper Total Savings

-$9,641,105

Railroad Competitive Profit

$12,556,031

Railroad Captive Profit

-$2,904,317

Increase in Total Railroad Profit

$9,651,714

Increase in Railroad Spend

$20,135,460

Increase in Railroad Carloads

$5,100

**Table 2 Source – Output Table from the RCC – Cost Optimizer**

When shippers are armed with opportunities created by optimizing rail expenses, they create value for themselves and their railroads. Shippers reduce the rate structure for their movements, while substantially improving profit and carloads for railroads.

The best negotiations are win/win negotiations and optimizing creates this type of negotiation. Therefore, the question is, why haven’t more shippers used optimization to reduce their rail expenses?  The answer is complexity and time constraints. This was the reason for the development of the Rail Cost Control (RCC) Program. The algorithms in the RCC’s Cost Optimizer automatically determine the Pivot Point for each railroad and the results to expect from the optimizing process, for both the shipper and railroad. This is a game changer for many companies.

 

For more information on optimizing rail expenses, check out the Rail Cost Optimizer. 

Escalation Consultants, Inc. developed Rail Cost Control (“RCC”)  to help shippers reduce rail expenses by managing costs and empowering negotiations. Furthermore, for more information about RCC and other related articles, visit the RCC Blog.

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Rail Cost Control Blog Article 11

The Cost of Being Captive to a Railroad

Traffic that’s captive to one major railroad is priced significantly higher than traffic where railroads must compete for movements. The difference between Captive Traffic and Competitive Traffic rail rates is very large.

Captive Traffic rates are, on average, 107% greater than Competitive Traffic rates 

Table demonstrates this rate difference. It illustrates profitability for both captive and competitive movements on the six largest Class I railroads. The table contains the average Revenue to Variable Cost Ratios (RVC) for captive and competitive traffic on each railroad. RVC’s in the table are calculated from the cost and revenue data provided by the Surface Transportation Board (STB) for captive and competitive moves on each railroad. 

Rail Rates for Captive vs Competitive Rail Movements

An RVC measures railroad profitability for movements. It is calculated by dividing the rate for a move by the railroads long term Variable Cost (Cost) for the move. Table 1 shows that the 185.9% RVC for Union Pacific (UP) is the highest average RVC. An RVC of 185.9% means that rates are on average 85.9% greater than UP’s Cost for moving its traffic.  

The breakdown of UP RVC’s is 248.9% for Captive Traffic and 135.4% for Competitive Traffic. This makes captive rates for UP 83.8% greater than competitive rates ((2.489 – 1.354) ÷ 1.354). The average increase in captive rates on all six railroads is 107.2%.  

The largest increases in captive rates over competitive rates are on CSXT 142.9%, CN (US) 140.8% and NS 103.6%.   

To convert RVC’s in Table to rates, assume that the railroads average variable cost of moving captive and competitive carloads is $2,000. Table 2 shows that the average dollar per car increase for all railroads is $2,616.  

The average $2,616 captive rate increase, by itself, is greater than the total rate of $2,478 for railroads Competitive Traffic. 

Average Dollar Per Car Increase: Captive vs Competitive Rail Rates

The most significant captive rate increases, as compared to competitive rates, were observed on CSXT ($3,205) and CN (US) ($3,228). These are by far the largest dollar increase in captive rates. 

In order to obtain large rate reductions, shippers must make railroads compete for more of their traffic. There are several ways to accomplish this. With this in mind, Escalation Consultants’ next blog will address: Five Ways to Make Railroads Compete for Your Captive Traffic. 

Note – The US railroad industry is regulated by the STB. An RVC of 180% represents the Jurisdictional Threshold for rail movements. This is because the STB has no authority over rates with RVC’s below 180%. Moves with RVC’s above 180% have high levels of profit and are therefore considered captive by the STB. Rail moves with RVC’s below 180% have lower profit levels, and therefore, considered competitive.  

 

Rail Cost Control (“RCC”) is a program developed by Escalation Consultants, Inc. to help shippers reduce rail expenses by managing costs and empowering negotiations. Furthermore, for more information about RCC and other related articles, visit the RCC Blog.

Rail Cost Control

Rail Rate Benchmarking

Use Competitor Rates to Reduce Your Rates

Railroads do not mind a shipper saying they have high rates. What does have an impact is showing that a railroad’s rates are putting you at a competitive disadvantage in your markets.

What this means is, in order for a shipper to have reasonable rates, it needs to know something about its competitors’ rates.

Fortunately, obtaining information on competitors’ rail rates is easier than many shippers realize. Railroads are required to submit a large amount of data on their moves to the Surface Transportation Board (STB). This data contains costs, rates, volumes, and profit which helps shippers become more knowledgeable about the rates they compete against in their markets.

Two primary methods for benchmarking a shipper’s rates against competitors:

1) Public Use Carload Waybill Statistics (Waybill)

The Waybill is a large database, containing information on over 700,000 rail movements with detail down to the five-digit STCC. The Waybill provides information on where volumes going into a market originate. It also provides the rate levels moving the volumes.

2) Cost and Profit Benchmark Rates

Benchmarking shows the rate that gives the railroad the average profit received from all movements of your commodity on the whole rail system. No shipper wants to have above average rates which make this an important benchmark to understand. This benchmark rate is calculated using data railroads submit to the STB and is determined separately for captive and competitive moves as they have different levels of profit.

To get reasonable rates you first need to know what reasonable rates are. Railroads thrive on a lack of rate transparency which means it is up to the shipper to provide that transparency. Rate benchmarking provides ammunition that helps protect rail shippers from excessive rates from railroads that hold monopoly power over their traffic.

Railroads react differently to you saying you have high rates than they do to you showing that their rates are putting you at a competitive disadvantage in markets. If you can show railroads where their rates are putting you at a competitive disadvantage you will have much better success in rail negotiations. In addition, if you can show that high rates are causing both you and your railroad to lose volume in markets, you can accomplish a lot with your railroads. This all starts with rate benchmarking.

The types of rate benchmarks described above are automatically calculated for individual moves or on a macro basis in the Rail Cost Control program (RCC). Click on the link to learn more about the RCC.

 

Rail Cost Control (“RCC”) is a program developed by Escalation Consultants, Inc. to help shippers reduce rail expenses by managing costs and empowering negotiations. For more information about RCC and other related articles, visit the RCC Blog.

 

Rail Cost Control

Railroad Strategic Alliances

Creating Effective Alliances with Railroads

Develop Strategic Alliances to Create Greater Value for You and Your Railroads

The term partnering is overused. Many rail shippers refer to any contractual agreement with a railroad as a partnership. The term partnering is even used in agreements with high rail rates for moving shippers’ commodities with thin profit margins. To obtain a better rate structure from railroads, shippers should focus on creating strategic alliances with railroads.

Strategic Alliances establish a process with defined goals for improving revenue and profits for both shippers and railroads.

The alliance needs to detail what is expected from each party and the outcome (goals) each party will receive from the process. Strategic alliances that impact rail rates normally have little to do with the captive or competitive nature of movements. A strategic alliance starts by first identifying common goals between shippers and railroads. An effective alliance then works to better accomplish these goals.

Some alliances are simple while others are complex. A prime example of a complex alliance involves foreign imports. Greater value can frequently be obtained by working together than apart on import issues. This makes imports a prime candidate for a strategic alliance between shippers and railroads.

When imported products become a threat to a company’s domestic production, the shipper and railroad have the same goal – STOP THE BLEEDING.

Imports cause both shippers and railroads to lose volumes and revenue when they impact a company’s domestic production. Railroads have a lot to lose with imported products, as they:

  • Lose all inbound movements needed for domestic production
  • Miss out on outbound movements to customers
  • May not move imported products from the port

Consider the impact of each additional container of imported paper. The railroad loses inbound moves of wood chips, slurry, chemicals, and potentially, coal to the paper mill. This loss of business has a big impact on railroads, suppliers to paper companies, and of course the paper company on outbound moves. This scenario demands a strategic alliance amongst impacted companies, because everyone loses if the paper company can’t compete with imports. All impacted companies need to reduce their costs to stop the bleeding. It doesn’t matter whether a railroads moves are captive when high rates only lead to a loss of revenue. To protect the vested interest in the output of the paper company, rates are determined through the alliance, and not the competitive status of rail movements.

Dealing more effectively with imports is an example of a complex strategic alliance. There are, however, many less-complex types of basic agreements struck between shippers and railroads that accomplish a common objective. A shipper’s capital investment to maintain or improve plant output frequently results in an alliance with its railroad. Capital Investment that also benefits a railroad, should not be made without first receiving an incentive from the railroad to make the investment. This is best accomplished through a strategic alliance which details what is needed from each party.

Not all leverage with railroads stems from the operational parameters of a movement.

With smart people on both sides of an opportunity creating value, great things can be accomplished. Rail shippers need to identify these opportunities because they will determine the best rates and contract terms for moving rail traffic.

The path to a more reasonable rate structure frequently starts by understanding common goals you have with railroads. This process leads to more productive rail negotiations and the creation of greater value for shippers and their railroads.

 

Rail Cost Control (“RCC”) is a program developed by Escalation Consultants, Inc. to help shippers reduce rail expenses by managing costs and empowering negotiations. For more information about RCC and other related articles, visit the RCC Blog.”

Rail Cost Optimizer

Rail Negotiation Wheel

Obtaining the Rail Cost Reductions that Shippers’ Management Needs

“If YOU don’t change what YOU do, it will be difficult to get railroads to change what THEY do.”

Escalation Consultants, Inc. is regularly involved in assisting shippers in reducing their cost of rail freight. Furthermore, we frequently receive inquiries from companies asking how they can best achieve the cost reductions that management is demanding. This article provides some direction for transportation and logistics departments looking to reduce rail costs for their rail movements.

To start out the process of reducing rail expenses, there are two basic issues to keep in mind in getting a better rate structure from railroads:

  • You must do something different than what you are currently doing with … you guessed it… railroads! This is a pretty logical rule that people frequently try to ignore because of a resistance to change. To change your rate structure, you must change how you negotiate with railroads. If you don’t change what YOU do, it will be difficult to get railroads to change what THEY do.
  • Every company has a unique situation. Therefore, the specific process for reducing rail expenses for one company, will be different from what is most effective at another. However, the analysis of fundamental issues to determine the best path to reducing and better controlling rail expenses, are similar.

A number of the fundament issues that need to be analyzed and incorporated as part of a negotiation strategy that will create different dynamics in a rail negotiation are included in the illustration below.

Rail Negotiation Wheel

**Please note that many of the action items on the outside of the Rail Negotiation Wheel have been left blank. A review of ALL actions would be too large a topic for one article.**

These issues in the Rail Negotiation Wheel form the building blocks for strategic planning, designed to obtain better rates for rail movements.

Many things need to be considered in an effective rail negotiation. Not all of the issues that are analyzed, have the same objective. The Rail Negotiating Wheel demonstrates this. The outside of the Rail Negotiation Wheel has analysis that can be performed and actions that can be taken, and the results achieved are on the inside. 

For example, when you benchmark your rates (Position 2 “P2” on the wheel), you determine reasonable rates for your movements. If this analysis shows that your rates are higher than competitors’ rates in a market (P3), then these rates must be reduced as they are putting you at a competitive disadvantage in the marketplace. The results in the middle of the wheel demonstrate why rates must be reduced.

When multiple issues on the outside of the wheel support the same result, this increases your leverage for obtaining better rates for your traffic.

For example, if your rates are higher than your competitors’ (P3), your negotiation position gets even stronger if your rates impact your business in the following ways:

  • Loss of business to competitors’ (P5)
  • Loss of business to imports (P6)
  • Where you invest capital to maintain and increase capacity, and where you don’t invest capital (P7)

All of these types of issues demonstrate why rates must be reduced and increase a shippers’ leverage in negotiations with railroads. The more action items you can use to support your negotiation, the greater your chance of success in obtaining the rates you need for your traffic.

As a shipper, you have the strongest position when you can bring all of the items on the inside of the Rail Negotiation Wheel into your negotiation position with railroads. Those who have attended Escalation Consultants’: Rail Negotiation Seminar know that we are big on shippers developing their rail negotiation “Story.” The story contains a shippers’ position for why it needs rates at a specific level. It also needs to provide the reasons why a railroad should agree to those rates. The Rail Negotiation Wheel provides the roadmap for developing that story.

Effective negotiation positions address issues that support each of the results on the inside of the Rail Negotiation Wheel.

When shippers can demonstrate some or all of the following issues, they will have more effective negotiations with railroads.

  • The rates you need
  • Why you need these rates
  • Why the railroads should give these rates to you

Make your moves more important to railroads.

When your moves become more important to railroads your chances of success increase dramatically (P15 & P16) . If you have the ear of people that are important to railroads, you become more important to railroads. This makes it imperative for a railroad to act promptly on your problems.

These are the types of issues that are analyzed and acted upon in strategic planning. When the Rail Negotiation Wheel is used effectively, a shipper has more productive negotiations with railroads. As a result, a shipper increases its potential for obtaining a rate structure that will keep it competitive in its markets.

Addressing the actions and results included in the Rail Negotiating Wheel is an important concept for every shipper to understand.

The success of a rail negotiation hinges on shippers obtaining the results on the inside of the Rail Negotiation Wheel. Using the leverage you obtain from the Rail Negotiation Wheel is especially important, due to the drop in bulk rail volumes and employment. These changes are providing shippers with significant leverage. Moreover, the Rail Negotiation Wheel helps shippers utilize this leverage in a proactive process for establishing reasonable rates for their movements.

 

Rail Cost Control (“RCC”) is a program developed by Escalation Consultants, Inc. to help shippers reduce rail expenses by managing costs and empowering negotiations. For more information about RCC and other related articles, visit the RCC Blog.”

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