Commission) could result in increases to one utility alone of about $40 to $80 million over the next seven years. Have there been changes in the situation which would cause you to repudiate that estimate?

Hon. HOWARD W. CANNON,

DEPARTMENT OF ENERGY, Washington, D.C., November 5, 1979.

Chairman, Committee on Commerce, Science, and Transportation, U.S. Senate, Washington, D.C.

DEAR MR. CHAIRMAN: This letter responds to your recent inquiry in regard to testimony filed by the Department of Energy before the Interstate Commerce Commission in Docket No. 37063 concerning the Louisville and Nashville Railroad (“L&N”). As you noted in your letter, that evidence indicated that a 38 percent increase in tariffs for L&N originated coal would result in $80 million of additional charges to consumers of the Florida Power Corporation (FPC) over the next seven years. If the tariff increase were reduced to 16 percent, FPC customers would be subjected to $40 million in additional costs for electricity over the next seven years. One of the most important assumptions underlying the analysis which produced these results is the price of oil. The analysis in part utilized those oil prices which were forecasted by FPC on the basis of its existing fuel contracts. In light of the recent OPEC oil price increases, FPC is now forecasting increased oil prices, and we have reassessed the impact of the 38 percent tariff increase on the basis of those increases.

We have determined that the recent increases in the price of oil will not significantly effect the results of our analysis. Although these increases will further encourage FPC to run its coal-fired units more intensively, our original analysis had concluded that the utility would run its coal plants at close to their maximum physical output even with the lower oil prices assumed in that analysis.

Furthermore, because of insufficient lead time, FPC will be unable to construct any additional coal-fired capability in the near-term beyond that already scheduled. If higher oil prices significantly increased the cost of electricity to FPC customers, FPC customers could respond by reducing their electricity demand; and this reduced demand could be less than the customer demand that we assumed in our original analysis. Because oil-fired units are more expensive to operate than coal-fired units, this reduced customer demand would translate into reduced oil use rather than reduced coal utilization.

With the exception of the factors discussed above, we know of no other circumstances which would likely to impact significantly on the results of our analysis. Consequently, we would continue to regard the results as set forth in our L&N verified evidence to be quite valid.

We trust that this information will be sufficient for your purposes. Please advise us if we may be of any further assistance.

Sincerely,

LYNN R. COLEMAN,

General Counsel.

[Whereupon, at 12:09 p.m., the hearing was adjourned.] [The following information was subsequently received for the record:]

REPORT ON RAILROAD DEREGULATION AND EASTERN KENTUCKY COAL-SEPTEMBER

1979

DEPARTMENT OF TRANSPORTATION, FEDERAL RAILROAD ADMINISTRATION,

WASHINGTON, D.C.

DEREGULATION AND EASTERN KENTUCKY COAL

Introduction

Producers and consumers of coal have raised a strong voice in the debate on the Administration's proposed railroad deregulation bill. Their principal concern is the extent of their vulnerability to rate increases and service reductions by railroads. From a recent survey of its members, the National Coal Association concluded: "The survey revealed that the captive shipper problem existed in practically every coal producing region, market, and movement."

The National Coal Association calculated that in 1977 50 percent of the bituminous coal shipped to U.S. destinations moved the entire distance from origin to destination by rail, and 73 percent was handled by the railroads for at least part of the movement. In Kentucky, the percentage of coal shipped at least partly by rail is slightly higher.

Just as actions of the railroads affect coal producers and consumers, trends in the coal industry are important to the railroads. Coal is the single most important commodity carried by the U.S. railroads, at 30 percent of the tonnage originated, 2 percent of the carloadings, and 14 percent of the freight revenue in 1977. In the Eastern states where most of the country's mines as well as industrial and utility users are located, coal accounts for roughly half of the total freight tonnage of a number of major railroads. In the Southern Appalachians, the most important of these are the B&O, C&O and Western Maryland (the Chessie System); the Norfolk and Western (N&W); and the Louisville and Nashville (L&N). These railroads' traffic and revenues fluctuate significantly with changes in the coal market.

Those coal producers in Eastern Kentucky located on the L&N, are especially sensitive to changes in the level of rail rates and services. Through the last five years of increasing coal production, L&N service has declined; in April, 1978, the railroad was providing only 17 percent of the coal cars ordered. Coal producers report considerable improvement in L&N service since that time, but new concerns have been raised by L&N's proposal for a 22 percent coal rate increase, which the ICC allowed to go into effect last fall while it conducts an investigation. These events have taken place within the existing regulatory system. Eastern Kentucky coal producers are now concerned about railroad actions in the absence of Federal control.

The sections that follow describe the Eastern Kentucky coal industry (served largely by the Louisville and Nashville Railroad), analyze the causes of the coal producers' recent experiences with that railroad, and outline the likely relationship between coal producers and railroads under deregulation.

The Eastern Kentucky Coal Industry

The majority of Eastern Kentucky coal mines are small operations which open or close or adjust their level of production year by year depending on demand. More than three quarters of the active coal mines in Eastern Kentucky produce less than 50,000 tons annually, approximately one third produce less than 10,000 tons, and a substantial number produce only 1,000 tons or the equivalent of 10 to 12 rail carloads a year. The small volume mines generally are owned by independent operators who sell on the spot market, meeting one-time orders from utilities, filling two to three year contracts with non-utility industrial users, or selling to brokers. The market for coal has varied substantially over the years, changing with the phases of the business cycle, the price of alternative fuels, domestic consumption of electricity, and strikes in the mining, transportation, and manufacturing industries. Fluctuations in demand have been reflected both in the number of active mines and the volume of coal produced. Eastern Kentucky coal production declined from 57 million tons in 1950 to 37 million tons in 1960, then rose to 72.5 million tons in 1970 and almost 94 million tons in 1977.

The 1978 total was somewhat lower, at 92.5 million tons, and 1979 production again is below the record levels of 1977. Most of the variation has been accounted for by surface mines, while the production of underground mines has been relatively stable, at 40 million tons.

Coal Transportation in Eastern Kentucky

Most of the small mines in Eastern Kentucky truck coal to a "tipple" or rail loading facility. Approximately 80 percent of Eastern Kentucky coal is trucked to a railroad, on public or private (off-road) rights-of-way, for an average distance of 9 miles. The L&N alone serves almost 250 originating points in its coal divisions, including 206 in Eastern Kentucky and contiguous parts of Virginia; 41 of the loading facilities are built for rapid handling of unit trains, while 200 are only single car tipples. Even where the volume of taffic is sufficient to fill a train load, the narrow valleys and steep slopes of the coal producing regions of Eastern Kentucky often prevent construction of long sidings, so trains must be loaded in short segments. The large number of loading points and their low capacity mean that the railroad must make a considerable investment of labor and locomotive power to send the cars to each loading facility, switch and assemble the cars into a train. The Department of Transportation is sponsoring a study of the potential for further use of coal consolidation facilities by small mines in the Appalachians.

The "Captive Shipper" question

Most Kentucky mines are served by only one railroad, either the L&N, N&W, C&O, or Illinois Central Gulf (ICG). No waterways directly serve Eastern Kentucky, and the Kentucky Coal Association estimates that trucking the coal now shipped by rail would cost two or three times as much. The Association bases its opinion on the conviction that many Kentucky coal miners are "captive" to the railroads and have to absorb increases in rail rates or stop shipping altogether. Responses to the mail questionnaire circulated in January by the National Coal Association seem to support that conclusion, showing that Appalachian coal producers consider 95 percent of the coal moved from their mines by rail to be "captive". Rail captivity is defined in the questionnaire as existing when both of the following conditions are present:

"(1) a single rail carrier represents the only present transportation alternative for the entire shipment, or a substantial share of the route, for the shipment in question; and

"(2) the "next best" future transportation alternative (other rail carrier, motor or water carrier) is one which would cause injury to the shipper's competitive position if forced to adopt that alternative."

This definition of captivity was designed to address questions of both the degree of market control held by a railroad and the extent of competitive injury that a shift from the present rail carrier would cause. The language, however, allows considerable room for interpretation. Asking coal producers to use these criteria to estimate what portion of their traffic is "captive" is likely to elicit figures higher than would be produced by an outside observer using the same criteria.

The firms that respond to a mail survey also tend to be large, well-organized, and particularly interested in the issue. Nationwide, only 43 producers responded to the survey. The average 1977 production of the 283 Appalachian mines reported by these producers was more than 500,000 tons, while the average for all mines in the region is less than 70,000 tons per year. Only 107 Appalachian mines produced more than 500,000 tons in 1976 and 170 produced from 200,000 to 500,000 tons. Although the responses are important indications of the perceptions of the major coal producers, they are neither objective enough nor representative enough to be taken as an accurate measure of the "captive shipper" problem in the Eastern coal market. The Kentucky Coal Association maintains that significant numbers of Kentucky mines would be priced out of the market by the 7 percent rate increase (above inflation) that the Administration's deregulation bill would allow on each rail rate, each of the five years after enactment. Most producers with contracts to supply coal at specified f.o.b. mine prices regardless of transportation costs could be expected to retain their customers, and some customers not covered by contracts would probably also be willing to pay the higher rates to get coal, but the competitive position of many producers could be affected. The Association asserts that the 22 percent increase in L&N coal rates added to a 5.5 percent general increase (allowed to go into effect last fall while the ICC conducts its investigation) has already forced some mines out of production, particularly small mines selling coal on the spot market. A telephone survey of 52 Eastern Kentucky coal producers who shipped on the L&N in 1978, conducted in January by the Kentucky Department of Commerce, produced similar conclusions. The results showed 27 companies reporting a loss of

customers or reduced volumes, 15 reporting that they were reducing their price to offset the increased freight costs, and several indicating traffic had shifted to truck or other railroads. However, as the report suggested, the coal market was extremely soft in early 1979, so the reported drop in business was not a true test of the effects of the L&N rate increase. The U.S. market for coal still is not strong, "the spot market is dead" according to the report, and the small mines dependent on shortterm or spot orders probably would be suffering with or without an increase in L&N coal rates.

Transportation choices of eastern Kentucky coal producers

ICC rulings that railroads must offer uniform rates and service to all shippers have resulted in rates today that relate only to the costs of the average movement. Within the present rate structure there is therefore little incentive for railroads to serve small volume or spot orders. Because many of the small mines come into production only when demand for coal is greatest, it is not economic for a railroad to purchase equipment to meet their orders at present rates. Small coal operators filling spot orders will continue to face delays and car shortages at peak times, unless they or their customers are willing to pay premium rates for rail service. Because of their route flexibility and their small load size, trucks are better suited to serve this type of traffic than the railroads are. Truckers do not have to make a long-term investment in fixed rights-of-way, but only to purchase coal-carrying trucks. It is possible for a truck operator to make back that entire investment in only a few years. Although for distances greater than about 100 miles, shipping by truck costs more than shipping by rail, the prompt and convenient service offered by truck makes it an attractive alternative.

The Kentucky Department of Transportation reports that registrations for vehicles primarily hauling coal rose from 2890 to 5860 between 1973 and 1975. There are now substantial backlogs in orders for coal trucks to serve the Southern Appalachians. The increase in coal trucking indicates that many Kentucky mines have found trucking a practical alternative and that the railroads will continue to face heavy competition from motor carriers for some segments of the Eastern Kentucky coal market.

In 1977, only 14 percent of the total tonnage of coal produced in Eastern Kentucky was shipped all the way to the destination by truck, but that included the entire output of 55 percent of the 627 mines producing less than 10,000 tons of coal. In the early 1970's, the percentage of the smallest volume mines relying entirely on trucking averaged 45 percent. As Kentucky coal production began to increase in 1973, spurred by the OPEC oil embargo, the number of mines in operation in Kentucky also increased, from 1190 to 1972 to 2219 in 1975. In the low volume categories (up to 50,000 tons per year), the number of mines grew by more than 1,000. Much of the incremental addition to total production has been carried by trucks, primarily because motor carriers have been able to shift and expand capacity to serve the new producers more quickly than the railroads.

The Situation of the Louisville & Nashville Railroad

In recent years, rail customers of the Louisville and Nashville Railroad have experienced serious service problems. Segments of the L&N tracks vital to coal movements are not suitable for high speed or heavy weight traffic, and the number of derailments on the L&N has caused severe disruptions as well as alarm. While shippers on many railroads have faced temporary shortages of rail equipment at peak periods, the L&N coal fleet has consistently fallen short of demand. The railroad was able to provide only 50 percent of the cars requested in February, 1977, and less than 17 percent in April, 1978. The strain on the car fleet was paralleled by a strain on the trackage system; once cars were loaded, some shippers also reported increased delays between pickup and delivery. Since the beginning of 1979, however, according to Thomas Duncan of the Kentucky Coal Association, service has improved and nearly 100 percent of the requests for L&N service in Kentucky have been filled.

L&N territory and physical structure

The L&N is in a unique position among the Eastern coal-carrying railroads. Although coal constitutes approximately the same share of the L&N's total tonnage as it does for N&W and C&O, comparing the L&N to these other railroads can be misleading because of the great difference in territories and markets served and resulting financial health.

In contrast to the N&W and C&O, a small portion of the L&N's coal traffic is metallurgical grade coal. The N&W and C&O serve the bands of mines in Western Maryland, West Virginia, and the Virginia-Kentucky border area which produce

coal suitable for coking and metallurgical uses. Metallurgical coal makes up 60 percent of the N&W's coal tonnage and approximately half of C&O's coal tonnage, whereas nearly all the coal produced by mines served by the L&N is steam coalmedium or high volatile coal used to fire boilers by utilities or other industries. Because metallurgical coal is relatively rare, and the world steel industry has had few alternatives to it, rail rates for metallurgical coal have been 2 to 3 times as high as steam coal rates for the same haul. The high metallurgical rates play an important part in the healthy profit picture of the N&W, and in its ability to attract capital and continue to make investments in plant and equipment.

Within the steam coal market, the L&N's position has also been somewhat different from its competitors. Until very recently, the L&N's largest market for coal was in the industrial centers surrounding the Great Lakes, to the north through the Cincinnati Gateway. The rail rates that now serve as a base for ICC-approved increases were set low enough to keep Eastern Kentucky coal competitive in that market with coal from less distant sources in West Virginia, Pennsylvania or Ohio. The L&N faces competition from water carriers in the Ohio River and connecting systems, from short-haul truckers carrying coal from Midwest mines, from the ICG in Western Kentucky and from other Eastern coal-carrying railroads.

After the 1973 oil embargo, demand for utility coal grew, particularly in the Gulf and South Atlantic states which had been relying on oil and gas. Environmental controls requiring reduced sulfur emissions from steam generating plants and industrial boilers have increased the attractiveness of the low sulfur coal found in some mines in Eastern Kentucky. The L&N, in conjunction with its parent, the Seaboard Coast Line, was well sited to serve the new markets. Between 1973 and 1977, the volume of coal originating on the L&N increased more than 23 percent, from 49 million to 60 million tons. At the same time, originating tonnage of coal was down 7 percent on the N&W and up only 1 percent on the Chessie, and up by only 7.2 million tons on the Southern District lines (Southern Railway, Seaboard Coast Line, L&N, Clinchfield, Illinois Central Gulf, and Georgia Railroad combined).

Much of the increased traffic has been coal moving to the new markets to the south and southeast from Eastern Kentucky. The gross tonnage (locomotives, cars, and freight) moving over each mile of L&N track south from the major coal lines now exceeds the gross tonnage north to Cincinnati. The L&N reports that in the ten years from 1968 to 1977, its southbound coal tonnage increased 148 percent while its northbound tonnage increased only 28 percent. Major portions of the L&N lines south from the Eastern Kentucky coal fields are lighter weight rail than the northbound main line, and lack the double track and centralized traffic control system installed north to Cincinnati.

Because the primary coal-producing areas on the L&N are north of the steep ridge running northeast to southwest through the L&N territory, movements to Southeastern markets involve some indirect routing and additional locomotives. The combination of heavier volumes and physical and geographical factors have made it extremely costly for the L&N to handle the increased traffic. Although it could not plan ahead for the OPEC induced increases in demand, the L&N has purchased 6,000 hopper cars since 1973 and has announced plans to acquire 7,500 more in the next five years to use exclusively for carrying coal. The railroad also has increased the total horsepower of its locomotive fleet by 55 percent and has ordered 110 locomotives, scheduled to begin delivery this year. In the interim, the railroad has leased nearly 100 locomotive units.

The L&N was one of the first railroads to introduce 100-ton automatic-unload coal hoppers. Since 1968, the L&N has increased its number of open top hoppers by 8.6 percent and the capacity of its hopper fleet by 35 percent, while other eastern coal carrying railroads have either reduced or held constant their fleets. The L&N hopper fleet is now on the average newer than the N&W's for example, although the N&W has its own car manufacturing facility and has been steadily adding new

cars.

As traffic volumes have increased over L&N lines, the railroad has also increased the number of maintenance-of-way employees and overall maintenance expenditures, holding maintenance at a constant proportion of total costs despite low revenues. Construction work in progress and investment in road and equipment have tripled since 1973. Between 1978 and 1983, the L&N proposed to undertake $62.2 million in coal-related capital projects, including siding, double track, centralized traffic control, and yard and service facilities in the segments that have

1

1 During the same time period, the N&W's open top hopper fleet declined in number of cars and capacity. Chessie's open top hopper ownership dropped, and capacity increased only 1 percent. The L&N has also increased the total horsepower of its locomotive fleet by 55 percent, compared to decreases of 4 percent and 9 percent on the N&W and Chessie respectively.