Decision No. 150-R-2014
DETERMINATION by the Canadian Transportation Agency of the 2014-2015 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.
INTRODUCTION
[1] The Canadian Transportation Agency (Agency) is required to determine by April 30, 2014 the Volume-Related Composite Price Index (VRCPI) for crop year 2014-2015 commencing August 1, 2014 and ending July 31, 2015.
[2] In this Decision, references to 2014-2015 mean the crop year from August 1, 2014 to July 31, 2015.
BACKGROUND
[3] 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.
[4] 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.
[5] Subsection 151(4) of the CTA states that:
The following rules are applicable to the volume-related composite price index:
- in the crop year 2000-2001, the index is deemed to be 1.0;
- the index applies in respect of all of the prescribed railway companies; and
- 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.
[6] The development of the 2014-2015 VRCPI 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.
ISSUES CONSIDERED BY THE AGENCY
Paragraph 151(4)(c) of the CTA adjustment
Background
[7] Paragraph 151(4)(c) of the CTA calls upon the Agency to make an adjustment to the VRCPI to reflect the costs incurred by a prescribed railway company 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 railway companies for the maintenance of those cars.
[8] Last year, CP informed the Agency that it was ending its leasing arrangements with the Canadian Wheat Board (CWB) and that by August 1, 2013, it would have returned all CWB cars and entered into new leasing arrangements with third-party leasing companies to partially replace the returned CWB cars.
[9] CP replaced a portion of its returned cars by way of third-party leasing arrangements. The Agency made an adjustment to the 2013-2014 VRCPI to reflect those costs using the principles and methodology established in Decision No. 8-R-2013. It also reduced the CWB-weight first established in Decision No. LET-R-113-2006 accordingly.
[10] Last year, CP requested the Agency to reflect the added costs for the replacement of the remaining portion of its CWB fleet with hopper cars deemed to have been obtained from its subsidiary companies, Soo Line Railroad Co. (Soo Line) and the Dakota Minnesota & Eastern Railroad Company (DM&E). At the time, CP indicated that it did not intend to lease any more cars from third-party sources to replace its CWB fleet but rather would use its own fleet, and that of its subsidiaries, more effectively to make up for the lost capacity.
[11] In Decision No. 161-R-2013, the Agency considered two questions precipitated by CP’s request: i) Does the Agency agree that the increase in costs associated with the increased usage of its subsidiaries’ cars as a result of the withdrawal of the CWB hopper cars notionally represent costs incurred by CP in obtaining hopper cars? If so, how should it make such an adjustment? and, ii) Does the Agency accept CP’s proposal that a deemed number of replacement cars be established and that a cost associated with that deemed number of cars, based on an average of historical leasing costs, be reflected in the 2013-2014 VRCPI determination?
[12] On the first question, the Agency accepted in principle that “the increased utilization of a subsidiary’s cars satisfies the requirement of obtaining cars if the subsidiary’s cars are used in regulated grain and provided that the costs so incurred are quantifiable and based on a verified number of cars used”.
[13] On the second question, the Agency found that CP’s proposed methodology was highly speculative as it was based on an anticipated number of replacement cars to move an anticipated volume of grain. Therefore, it did not provide a clear basis for making the cost adjustment called for by paragraph 151(4)(c) of the CTA.
[14] With respecting to recognizing the increased utilization of CP’s subsidiaries cars, the Agency stated in paragraphs 22 and 23:
[22] The Agency notes that the nature of the arrangement by which CP obtains cars from its subsidiaries differs from the leases considered for paragraph 151(4)(c) of the CTA adjustments in previous Agency decisions. Specifically, the leases previously taken into account were of a longer duration which allowed for the costs incurred to be easily determinable for future periods on the basis of known obligations. The Agency notes that in the case of intercompany use, a car hire or per diem rental charge is used. This is equivalent to leasing these assets on a short-term basis, and the extent of the use of the assets for the next period cannot be determined with any certainty.
[23] The Agency is prepared to accept, in principle, that the increased utilization of a subsidiary’s cars satisfies the requirement of obtaining cars if the subsidiary’s cars are used in regulated grain service and provided that the costs so incurred are quantifiable and based on a verified number of cars used. […] If CP can demonstrate to the Agency that a quantifiable and verifiable amount representing the net increase in the use of its subsidiaries’ cars that is directly attributable to the withdrawal of the CWB cars has been incurred by CP, the Agency will consider making an adjustment […].
Consideration
[15] On February 7, 2014, CP filed a proposal with the Agency and provided an amount for consideration for an adjustment under paragraph 151(4)(c) of the CTA in relation to the use of its subsidiaries’ cars. After careful consideration of CP’s proposal, the Agency is of the opinion that the amount submitted by CP for an adjustment under paragraph 151(4)(c) of the CTA does not represent the actual cost incurred by CP (Canadian operations) in obtaining cars by way of the increased usage of its subsidiaries’ cars in replacement of the CWB cars.
[16] Rather, CP has calculated an estimate of what it believes to be the amount using a cost per car derived as a combination of an average of its subsidiary companies’ third-party leasing expenses and depreciation, maintenance and cost of capital expenses incurred by the subsidiary companies for cars that they either own outright or have obtained through capital leases. That estimated amount per car is then applied against a derived number of cars that is meant to represent the cars actually obtained from its subsidiary companies in replacement of the CWB cars. Such a calculation does not result in the determination of a verifiable and quantifiable number of cars.
[17] CP indicates that it now operates an integrated North American fleet, which implies that each rail car can be used for movement within or outside Canada and for regulated or non-regulated grain. However, the Agency notes that in its submission for the proposed adjustment, CP used an amount related to the total inflow of its subsidiaries’ cars. The Agency does not consider the gross inflow of U.S. subsidiary cars in the CP system to be the relevant concept for the purpose of determining the costs incurred by CP for the purpose of replacing the CWB cars. Rather, the Agency considers that the cost incurred by CP for the use of its U.S. subsidiary cars in regulated grain, net of the costs incurred by the subsidiary for the use of the CP cars in regulated grain, over and above its historical base, would constitute the appropriate basis for calculating the adjustment.
Conclusion
[18] The Agency rejects CP’s submission of an amount to be used for an adjustment to the 2014-2015 VRCPI as it considers CP’s proposal to be speculative in nature, not readily quantifiable and verifiable and not based on a verified number of cars obtained by CP for the replacement of the CWB cars. As a result, the Agency will not make an adjustment to the 2014-2015 VRCPI pursuant to paragraph 151(4)(c) of the CTA at this time.
[19] The Agency will only consider an adjustment to the 2014-2015 VRCPI in relation to the use of CP subsidiaries’ cars if CP provides an amount representing the actual cost incurred by CP (Canadian operations) in obtaining hopper cars from its subsidiary companies for the movement of regulated grain, that is directly attributable to the replacement of the CWB cars. The amount submitted must be quantifiable and verifiable and must be based on a verified number of cars obtained. More specifically, the submission must reflect the cost incurred by CP for the use of its U.S. subsidiary cars in regulated grain, net of the costs incurred by the subsidiary for the use of the CP cars in regulated grain, over and above its historical base.
[20] Any submission made to the Agency must be filed on a timely basis to allow the Agency enough time to make an informed decision on this matter. Accordingly, the Agency will be prepared to consider such an adjustment in 2014-2015 if CP makes its submission, with supporting material, no later than July 31, 2014.
MAJOR COMPONENTS OF THE VRCPI
Labour
[21] 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). In Decision No. 97-R-2012, the Agency decided that it would discontinue its previous practice of developing historical wage-related and fringe benefit price changes based on multi-year averages and replace it with the standard price indexation methodology which uses single year input prices and quantities indices
[22] For 2014-2015, the Agency used the same methodology for historical price indices as was used last year and the forecast for labour prices results in an increase of 0.4 percent.
Fuel
[23] The railway fuel price index reflects changes in the average annual price per litre of diesel fuel. The Agency uses 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.
[24] The Agency relies heavily on crude oil price forecasts and forecasts for the Canada/U.S. exchange rates from a number of expert third-party forecasters as inputs to the Agency’s fuel forecasting model.
[25] The average of the third-party forecasters for the price of crude oil used in the development of the 2014-2015 railway fuel price index is $US96/bbl for 2014 and $US90.2/bbl for 2015. An important element in the development of forecasts for the railway fuel price index is the Canada/U.S. exchange rate. The average of third-party forecasts for the exchange rate in U.S. cents per Canadian dollar is 88.7 for 2014 and 89.8 for 2015.
[26] The Agency fuel forecast model predicts a 0.6 percent decline in fuel prices for 2014-2015.
Material
[27] 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’s long‑established methodology involves a series of regressions based on the major railway material components to forecast (based on third-party data) the average material price change. The model also incorporates forecasts for the Canada/U.S. exchange rate as an estimated 25 percent of materials purchased are affected by the exchange rate. For crop year 2014-2015, the Agency is forecasting a 2.5 percent increase in the material price index.
Other components
[28] 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-21-2014 and LET‑R‑22-2014. Other components in this group include leased hopper car rates, amortization of investments, and the net impact of replacing 1992 hopper car maintenance costs with more recent actual costs, as determined and implemented in Decision No. 67-R-2008 pursuant to Clause 57 of Bill C-11, passed in June 2007.
[29] This component also includes adjustments made pursuant to paragraph 151(4)(c) of the CTA to reflect the cost changes incurred by each of CN and CP related to the replacement of withdrawn or leased back Government-owned hopper cars. The Agency has applied the same methodologies and cost basis as last year for each of these other components. The combined impact of changes for other components is a price increase of 4.0 percent for 2014-2015. This change is partially attributable to a forecasted increase in the combined CN and CP cost of capital rate for 2014‑2015.
OVERVIEW OF VRCPI CHANGES FOR THE NEXT CROP YEAR
[30] As indicated in the table below, the 2014-2015 VRCPI is 4.2 percent higher than the 2013-2014 VRCPI determined by the Agency in Decision No. 161-R-2013. The 4.2 percent increase stems from two main sources:
- a 1.2 percent increase due to forecasted price changes for railway inputs for the 2014‑2015 crop year; and,
- a further 3.0 percent increase attributable to the effect of replacing last year’s forecasts of price changes for railway inputs for 2013 with actual (preliminary) data and incorporating revised forecasts for 2014 (from this year’s exercise).
[31] The 3.0 percent increase is largely attributable to the Agency having under forecasted the change in railway fuel prices for the 2013-2014 crop year. The Agency’s forecasting models for railway fuel prices rely heavily on third-party forecasts for the price of crude oil and the Canada/U.S. exchange rate. The 2013 third-party forecasts used by the Agency for the price of crude oil last year were lower than the actual 2013 price ($95 vs. $98.9) and the 2013 forecasts for the Canadian dollar were higher than actually experienced (97.8 vs 97.1 U.S. cents), a lower dollar makes the cost of crude oil more expensive as it is purchased in U.S. dollars. As well, last year’s 2014 forecast for the price of crude oil was lower than this year’s ($94 vs. $96) and the 2014 forecast for the exchange rate was higher (100.5 vs. 88.7 U.S. cents).
[32] The Agency notes that in several instances in the past, year over year fluctuations in the VRCPI have been largely due to the volatility inherent in fuel prices. The volatility present in each of the two main components used in the Agency’s fuel forecasting models, the price of crude oil and the exchange rate, render these items, and hence the price of fuel, very difficult to predict with a high level of accuracy by expert forecasters and the Agency.
[33] The table below provides a summary of the changes for 2014-2015 VRCPI.
Major Component | Effective Weight (%) | Change (% ) |
---|---|---|
Labour | 35 | +0.4 |
Fuel | 24 | -0.6 |
Material | 32 | +2.5 |
Other Note 1 | 9 | +4.0 |
Total weighted price changes within 2014-2015 | 100 | +1.2 |
Upward revision to 2013-2014 VRCPI weighted price changes based on actual and up-dated forecasted data. | +3.0Note 2 | |
Total weighted price changes since 2013-2014 VRCPI Determination | +4.2 |
- Note 1
- [34] Other consists of leased hopper cars, amortization, cost of capital, cost of CWB cars, embedded cost for hopper car maintenance, 2007-2008 actual costs for hopper car maintenance, cost changes incurred by each of CN and CP related to the replacement of withdrawn or leased back Government owned hopper cars pursuant to paragraph 151(4)(c) of the CTA.
- Note 2
- [35] As referenced in paragraph 31 above, the net increase of 3.0 percent is largely attributable to having under forecasted the change in the price of diesel fuel in last year’s determination.
EVOLUTION OF THE VRCPI
[36] The graph below illustrates the impact of the current VRCPI determination in the context of the evolution of the VRCPI since 2001-2002.
[37] The VRCPI has tracked up and down since the beginning of the Revenue Cap Program. In recent years, exceptional fluctuations have reflected the volatility of fuel prices, the hopper car adjustment in 2007-2008 and, as outlined within Agency Decision No. 149-R-2012, the methodologies to better recognize the cost of capital and the effect on the labour price index of the substantial payments made by CN and CP to their pension funds. The VRCPI has grown at an average annual rate of 2.0 percent over the 2000-2001 to 2014-2015 period.
AGENCY DECISION
[38] The Agency’s determination of the VRCPI for 2014-2015 is 1.3219, an increase of 4.2 percent from 2013-2014.
[39] The VRCPI of 1.3219 will be applied in the legislative formula under section 151 of the CTA when the Agency makes its revenue cap determinations by December 31, 2015 for 2014-2015.
Member(s)
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