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With this background in mind, I would like to turn to the Commission's recent decision in Docket No. 37063.3 This proceeding began on September 28, 1978, when the L&N and its connecting railroads filed requests for a 22 percent increase in rates on coal movements originating on the L&N. In its decisions served October 30, 1978, and later, the Commission allowed the rate increases to become effective and instituted an investigation into all issues relating to the lawfulness of the schedules. In allowing the rate increases to become effective, the Commission imposted the following conditions:

(1) All funds derived as a result of this increase are to be segregated into a special account.

(2) Funds accruing in this account (less applicable income taxes) may be used only for (a) capital improvement and maintenance projects set forth by the L&N in their justification statement, and (b) such other use as the Commission orders, either on its own motion or after petition by the L&N or other interested person, to insure that adequate service be provided to affected shippers.

(3) Details of all expenditures from this special account shall be fully reported in the carrier's Annual Report filed with the Commission. Addditional reports may be ordered if necessary to insure adequate service to affected shippers.

(4) on or before November 10, 1978, the L&N shall in accordance with its representations, provide a verified statement from an authorized officer of each Family Line carrier, stating that the carrier has agreed to adjust its divisional basis so that the L&N will receive all of the revenues generated by this increase.

Subsequently, in Ex Parte No. 357, Increased Freight Rates, Nationwide-8 Percent, L&N and its connections proposed to increase L&N's rates by 13 percent on coal movements in the South (different percentage increases were applied to movements other than movements in the South). The Commission suspended the proposed 13 percent increase on the remainder of the South, but permitted the railroads to implement an interim increase of 5.5 percent on L&N's originated coal which was intended to cover increases which occurred since the previous general increase, Ex Parte No. 349. The Commission instituted an investigation of the proposed 13 percent increase on the L&N-originated coal.

The two proceedings were consolidated for procedural purposes to determine the issue of whether the rates on L&N's originated coal as increased by 22 percent and further proposed increase of 13 percent (aproximately 38 percent in total, due to compounding) would exceed the level of maximum reasonableness.

The L&N based its justification of the proposed rate increases in large part on its need for additional revenues needed to cover operating expenses and provide earnings which will produce a fair return on invested capital and enable it to raise debt and equity capital in the private financial market. The increases on the L&N's coal traffic should provide the road with the revenues necessary to make the capital investments deemed essential if it is to meet increasing demands of its coal shippers.

That L&N proceeding presented a number of issues, including: (1) whether the proposed rates are justified by the cost of providing the service; and (2) whether the L&N rate increase will disturb the competitive balance among Eastern coal mines, resulting in a serious competitive disadvantage to eastern Kentucky coal shippers served by the L&N. That proceeding also presented revenue adequacy issues similar to those considered in recent Western coal cases. For example, (1) should coal contribute to L&N's system revenue need above and beyond transportation costs? If so, how much? (2) has the L&N demonstrated efficient and economic management? and (3) will the proposed increase impair the country's effort to convert from oil and gas to coal as a fuel for generating electricity?

This brief discussion, we feel, illustrates the complexity of the coal proceedings which have come before the Commission recently. All parties' arguments appear to have some validity, and we must balance the competing interests within the confines of the Act.

In our recent decision, we blanced the competing interests, and determined that, subject to specified exceptions, the L&N's need for additional revenues to pay for transportation costs and to improve its financial condition outweighed other considerations. In reaching this determination, we weighed various factors such as the impact of the increase on consumers, on inflation, on the Nation's energy policy

3 This decision is presently on appeal in the U.S. Court of Appeals for the District of Columbia Circuit in No. 79-2001, Seaboard Coast Line Railroad Co. v. United States and Interstate Commerce Commission, No. 79-2002, Louisville & Nashville Railroad Co. v. United States and Interstate Commerce Commission, and No. 79-2090, Alabama Power Co., et al. v. United States and Interstate Commerce Commission, and Dayton Power & Light Company v. United States and Interstate Commerce Commission, No. 79-2088.

goals, on geographic regions of the country, as well as whether the L&N is operating under honest, economic, and efficient management.

As you know, the decision we issued was, although administratively final, quite brief. We will issue a complete discussion of this decision in the near future, hopefully by mid-October. In this discussion we will provide a more detailed analysis of our reasons for reaching the decision we made.

We should note that after the approved increase (including holddowns) L&N coal traffic will earn approximately cost plus a reasonable profit. Following the 38percent increase, and after the holddowns, revenue to variable cost ratios on L&N coal traffic should approximate 169 percent (calculated at embedded interest rates). Based upon the Commission's experience in Western coal rate proceedings, we calculate that carriers should earn approximately 165 percent of variable costs to cover the railroad's full costs plus a reasonable profit. Moreover, it is possible there will be further holddowns. This is because we encouraged protestants, which did not present individual movement cost evidence, to file petitions to reopen. If further holddowns are granted, this will have a downward effect on the revenue to variable cost ratio. Overall, the approved rate increase is somewhat less than other recently approved coal rate increases."

We should also note that several other major commodities move at rates in excess of 170 percent of variable cost. We have appended a chart which indicates that rates on steam coal correspond with those charged on a number of other commodities. We should further note that the Department of Energy and the Department of Transportation often present conflicting viewpoints in coal cases. In Ex Parte No. 347, for example, DOT urges that coal rates should be allowed to rise so long as the delivered price of coal per BTU of energy does not exceed the delivered price of oil or other alternative fuels per BTU."

The Department of Energy, on the other hand, takes the position that rail rates should be held down to avoid an adverse impact on the National Energy Policy. It seeks consideration of the rate of return on the incremental costs associated with new coal movements. DOE further states that it knows of no precise formula by which to balance energy considerations, monopoly regulation, and the need to establish adequate revenue levels for railroads in individual cases, and that the Commission will have to balance these considerations.

We cannot, of course, accurately predict the effects of the authorized increases. However, it is likely that relatively small increases in the monthly bills of electricity customers will result. For example, Electric Fuels Corporation estimated that the increases would raise residential customer rates approximately $.16 monthly or $1.90 annually. L&N estimated that monthly bills for residential customers would increase by a low of one cent to a high of ninety cents. Also, the President's Council on Wage and Price Stability stated that the approved increase complies with the President's inflation guidelines.

Likewise, we cannot accurately predict the effect of the increase on the competitiveness of Kentucky coal mines with other mines. We believe that in the short-run,

The 169-percent figure is calculated in the following manner: Expected revenues, $314,977,990 minus holddowns, $8,621,733 equals revenue after holddowns, $306,356,260. Revenues after holddowns, $306,356,260 divided by variable costs (at embedded debt rates), $181,804,577 1.685 percent.


5 The 165-percent figure is calculated in the following manner: In recent Western coal rate proceedings, the Commission has calculated fully allocated costs at the current cost of capital for several coal movements. Variable costs at embedded interest rates were also calculated for these same movements. Ratios of fully-allocated costs at current cost of capital to variable cost of embedded interest rates were calculated for each of these movements. An average of these ratios was taken. On average 165 percent of variable costs for a movement approximates full costs at current cost of capital. Moreover, in recent Western coal rate proceedings, we have authorized a seven percent increment justified not on the basis of a need to provide the service at issue, but rather as a contribution to the overall revenue need of the carriers. The increment frequently has raised the ratio of revenue to variable costs to over 170 percent.

"In recent cases the Commission has approved rate increases which reflect ratios of rate to variable cost ranging from 170 percent (Docket No. 36790, "Annual Volume Rates on CoalWyoming to Flint Creek, Arkansas," served May 25, 1979) to 203 percent (Docket No. 36936, "Incentive Rates on Coal-Hayden," Colorado "to Kings Mill, Texas," served Jan. 17, 1979. Other recent coal cases include: I&S No. 9199, "Unit Train Rates on Coal-Burlington Northern, Inc.," served July 13, 1979, where Commission approved a Council Bluffs rate which reflected a 180-percent rate to variable cost ratio and a Sargeant Bluff rate which reflected a 171-percent rate to variable cost ratio; and Docket No. 36180, San Antonio City Public Service Board v. Burlington Northern, Inc., decided May 23, 1979, where Commission approved a rate which reflected a 176-percent rate to variable cost ratio.

For your information, I am attaching a chart to this statement showing that in 1978 the average dollar cost per million BTU's for coal used in steam generating plants was generally below the similar cost of oil and natural gas.

some mines in Kentucky may experience difficulty in competing in some markets. In the long-run, however, we feel the Kentucky mines will be better off because they will be served by a financially and operationally stronger railroad. A stronger L&N should be able to transport expected future increases in coal traffic.

This concludes my prepared statement. I will be pleased to try to answer any questions you may have at this time.

Commissioner Gaskins did not participate in the disposition of this proceeding.


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Note. Preliminary 1978 figures prepared by the National Coal Association (these statistics do not take into account the coal cases decided by the Commission in 1979).

Representative SPC commodity groups with a large percentage of the traffic (carloads) in excess of 180 percent of variable cost1

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Glass Continers...

Manufactured Iron or Steel

101 Iron/Steel Pipe, Tubing/Fitting.
104 Primary Copper Products....
106 Primary Aluminum Products..
111 Heavy Machinery.

117 Locomotive/Railway Car Parts

1 Based on A. T. Kearney analysis of 1977 1 percent waybill file.

Source: Exhibit V-6 Interim Report II dated April 10, 1979-"A Study to Perform an In-Depth Analysis of Market Dominance and its Relationship to Other Provisions of the 4R Act.”

[The following information was subsequently received for the record:]


Question 1. During the course of your testimony, there was discussion of a car service order entered by the Commission in September of 1978. You offered to provide the Committee with additional information on this matter. What is the result of your further study? Was there full compliance with this order? Please provide supporting details.

Answer. On September 22, 1978, the Commission issued Service Order No. 1340 (copy attached), which ordered other members of the Family Lines collectively to deliver to the L. & N. a total of 100 serviceable locomotives. The Family Lines was required to furnish 50 locomotives by October 15, 1978, 75 by November 15, 1978, and 100 by December 15, 1978. There were 26 SCL locomotives leased to L. & N. when the order became effective, and these 26 were to be considered as locomotives leased from the Family Lines to SCL in fulfilling the requirements of the order.

Paragraph (b) of the order provided that the L. & N. should not return to railroads, other than Family Lines members, locomotives which it had previously leased unless such locomotives were recalled by the owner or unless such locomotives became unserviceable.

On the effective date of the order, the L. & N. was using the following foreign line locomotives:

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In addition, L. & N. owned 1,079 locomotives which gave them a total of 1,999 locomotives when the order became effective.

Shortly after the issuance of the service order, DTI, Conrail, and NW requested that their locomotives then in use by the L. & N. be returned to them. Thus, as the next chart illustrates, the L. & N. actually had less total locomotives available to it on October 15 then when the order was issued. However, it seems likely that this total would have been even lower had the Commission not issued the order, because there is no certainty that SCL would have voluntarily leased additional locomotives to the L. & N..

On October 15, 1978, the situation was as follows:

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The SCL leased the SP locomotives and then sub-leased them to the L. & N. to comply with the November 15 requirements. Thus, although the locomotives were actually owned by the SP, they were leased by the SCL to the L. & N. When these SP-owned but SCL leased locomotives were combined with the 50 SCL owned and leased locomotives, the SCL was in compliance with the Commission's order. Additional SP locomotives were leased and sub-leased in the same manner to comply with the December 15 requirements.

The situation on December 15, 1978, was as follows:

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On January 31, 1979, the order was amended to permit L. & N. to return to the SCL, subject to recall, 50 SCL locomotives with the stipulation that these locomotives must be returned to the L. & N. no later than Wednesday of the week immediately following any week during which the L. & N. furnished less than 40 percent of the cars ordered by single-car shippers in Eastern Kentucky and Tennes


The L. & N., leased, and SCL locomotives from January 2, 1979, until April 30, 1979, were as follows:

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The service order was permitted to expire on April 30, 1979.

We believe the above-listed figures illustrate that the Family Lines did comply with the service order. On October 15 there were 50 SCL locomotives available to the L. & N., as the order required. On November 15, the SCL had 87 locomotives leased to the L. & N., while the order only required 75. Again, on December 15, the

















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