Decision No. 136-R-2011

April 21, 2011

DETERMINATION by the Canadian Transportation Agency of the 2011-2012 volume-related composite price index required for Western Grain Revenue Caps pursuant to Part III, Division VI of the Canada Transportation Act, S.C., 1996, c. 10, as amended.

File No. T6650-2

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Introduction

[1] The Canadian Transportation Agency (Agency) is required to determine by April 30, 2011 the Volume-Related Composite Price Index (VRCPI) for crop year 2011-2012 commencing August 1, 2011 and ending July 31, 2012.

Background

[2] The "revenue cap" program, established August 1, 2000 for the movement of western grain by prescribed railway companies, requires the Agency to annually determine a revenue cap for each railway company and to subsequently determine whether each railway company has exceeded its cap.

[3] Subsection 151(1) of the Canada Transportation Act (CTA) provides the formula that the Agency is to use in determining the revenue caps. One of the inputs to the formula is the VRCPI.

[4] Subsection 151(4) of the CTA states that:

The following rules are applicable to the volume-related composite price index:

1. in the crop year 2000-2001, the index is deemed to be 1.0;
2. the index applies in respect of all of the prescribed railway companies; and
3. the Agency shall make adjustments to the index to reflect the costs incurred by the prescribed railway companies for the purpose of obtaining cars as a result of the sale, lease or other disposal or withdrawal from service of government hopper cars and the costs incurred by the prescribed railway companies for the maintenance of cars that have been so obtained.

[5] The development of the VRCPI for 2011-2012 involved detailed submissions of historical price information of railway inputs (labour, fuel, material and capital) from the prescribed railway companies, currently the Canadian National Railway Company (CN) and the Canadian Pacific Railway Company (CP). The submitted information was reviewed and verified by Agency staff. In addition, Agency staff developed forecasts for future changes in the price of railway inputs.

Major components of the VRCPI

Labour

[6] The development of the labour price index captures price changes in wages, wage-related items (such as bonuses and stock-based compensation) and fringe benefits (such as government and railway company pensions, and employment insurance). Previously, the Agency determined that wage-related and fringe benefit price changes be developed based on five-year moving averages, with the exception of railway company pensions, which are to be based on ten-year moving averages.

[7] As part of last year's 2010-2011 VRCPI determination, the Agency stated that it would consult with industry participants on two issues related to the labour price index:

1.  a revision to the method it employs to incorporate multi-year averaging for certain labour components within the labour price index; and
2. determining an appropriate methodology to account for railway company pensions. A consultation was held in the fall of 2010.

[8] While the Agency had envisioned having these matters resolved in time for the 2011-2012 VRCPI determination, the issues have proven to be more complex and technical in nature than originally contemplated. The Agency is of the opinion that given the complexity of these issues and the potentially significant impact of any change, further investigation is required before an informed decision can be rendered on these issues. Furthermore, the railway companies have yet to provide the Agency with complete information regarding the particulars of their pension expenses. For these reasons, the Agency is not prepared to rule on these matters for the 2011-2012 VRCPI determination.

[9] Until the Agency is satisfied that it has completed its due diligence, it will continue to use the current practice for developing the VRCPI, including the use of accrued pension expenses and the previously approved multi-year averaging methodology for the labour price index.

[10] Accordingly, in developing the 2011-2012 labour price index, the Agency employed the same methodology as last year and the resulting forecast for labour prices is an increase of 2.3 percent.

Fuel

[11] The railway fuel price index reflects changes in the average annual price per litre of diesel fuel. The Agency continues to use a long-established model based on the relationship of railway fuel prices and the price of crude oil. The model also accounts for any known hedging practices, federal fuel excise tax and provincial fuel sales taxes. The Agency's model has proven to be quite accurate when forecasted data has been replaced with actual data. The objective is to incorporate the best possible crude oil forecast.

[12] The Agency relies on expert third-party West Texas Intermediate crude oil forecasters for input in its fuel model. Routinely, the Agency analyzes the track record of the various forecasters and, when appropriate, drops those that are less accurate in predicting the price of crude oil.

[13] Last year, following an evaluation, the Agency removed two of its forecasters which brought the total number of forecasters used by the Agency to four. In Decision No. 159-R-2010, the Agency stated that it would continue to search for acceptable alternative forecasters. Agency staff has attempted to find new sources; however, no suitable replacements have yet been identified. The Agency will continue to evaluate the track record of its third-party forecasters and will continue its search for acceptable alternative forecasters for future determinations.

[14] In making this year's determination, the Agency intended to use the same four forecasters as were used in last year's determination. However, the Agency was unable to obtain an updated forecast from one of the sources in time for the issuance of this decision. The Agency has decided that the difference between the most recent available forecast from this one source and the updated forecasts from the other sources was significant enough that it was unrepresentative of market conditions, and should not be considered in this year's determination. It was therefore given no weight.

[15] The combined average of the three remaining third-party forecasters for the price of crude oil used in the development of the 2011-2012 railway fuel price index are $US107.40/bbl for 2011 and $US108.90/bbl for 2012. An important element in the development of forecasts for the railway fuel price index is the Canadian/US exchange rate. The combined average third-party forecasts for the exchange rate in US cents per Canadian dollar which the Agency employed are 101.3¢ for 2011 and 101.2¢ for 2012.

[16] The Agency model predicts a 10.7 percent increase in fuel prices for crop year 2011-2012.

Material

[17] Railway companies purchase thousands of different material items each year, far too numerous to track individually. Therefore, the material price index reflects changes in the average annual price of a basket of railway materials, similar to the consumer price index. The Agency continues to use its long-established methodology of a series of regressions based on the major railway material components to forecast (based on third-party data) the average material price change. For crop year 2011-2012, the Agency is forecasting a 2.8 percent increase in the material price index.

Other inputs

[18] One of the components in this group is the cost of capital rate which is applied to the capital indices. This item has been dealt with separately in Decision Nos. LET-R-40-2011 and LET-R-42-2011. Other components in this group include leased hopper car rates, amortization of investments, cost of capital of investments to which the cost of capital rate is applied, and the net impact of replacing 1992 hopper car maintenance costs with more recent actual costs as determined and implemented pursuant to Clause 57 of Bill C-11 passed in June 2007. The Agency employed the same methodology as last year for each of these other components. The combined impact of changes determined by the Agency for this group of all other inputs results in a price reduction of 0.6 percent for crop year 2011-2012.

Weights used in the VRCPI

[19] In Decision No. 159-R-2010, the Agency stated that it would update the weights of the major components of the VRCPI before this year's determination. The last time the Agency updated the VRCPI component weights was for the 2005-2006 VRCPI determination, in which the Agency used calendar year 2002 as the new base year. In Decision No. 251-R-2005 (paragraph 6 to 24), the Agency clearly established the reasons why it is necessary to periodically update weights within the VRCPI. Using the same methodology as was established for the 2005-2006 crop year, the Agency has price-updated component weights to 2011-2012 using calendar year 2007 as the base year. The net effect of this exercise on the overall 2011-2012 VRCPI is a decline of 0.7 percent.

[20] The table below highlights the price changes for the major components discussed above.

Major component	Effective weight (%)	% change
Total weighted price changes since the 2010-2011 VRCPI determination		3.5
Labour	31	2.3
Fuel	24	10.7
Material	34	2.8
Other	11	-0.6
Total weighted price changes within 2011-2012	100	4.2
Downward revision due to re-weighting		-0.7

Agency decision

[21] The Agency's determination of the VRCPI for crop year 2011-2012 is 1.1777, an increase of 3.5 percent from crop year 2010-2011.

[22] The VRCPI of 1.1777 will be applied in the legislative formula under section 151 of the CTA when the Agency makes its revenue cap determinations by December 31, 2012 for crop year 2011-2012.

Members

• Geoffrey C. Hare
• Raymon J. Kaduck
• John Scott