Determination No. R-2021-64

April 29, 2021

DETERMINATION by the Canadian Transportation Agency (Agency) of the 2021–2022 Volume-Related Composite Price Indices (VRCPIs) for the Canadian National Railway Company (CN) and the Canadian Pacific Railway Company (CP) as required for the Maximum Revenue Entitlement (MRE) program pursuant to Part III, Division VI of the Canada Transportation Act, SC 1996, c 10 (CTA).

Case number: 
20-00335

SUMMARY

[1] The Agency has determined:

  1. CN’s VRCPI for the 2021–2022 crop year to be 1.4505, an increase of 0.50 percent from the 2020–2021 crop year.
  2. CP’s VRCPI for the 2021–2022 crop year to be 1.4787, a decrease of 1.78 percent from the 2020–2021 crop year.

[2] The Agency will use these values in determining CN’s and CP’s MREs for the 2021–2022 crop year, which the Agency must issue by December 31, 2022.

BACKGROUND

[3] The MRE is a statutory limit on the overall revenue that can be earned by a prescribed railway company for the movement of western grain over a railway line from any point west of Thunder Bay or Armstrong, Ontario, to:

  1. Thunder Bay or Armstrong, Ontario;
  2. Churchill, Manitoba, for export;
  3. a port in British Columbia for export, other than export to the United States for consumption in that country; or
  4. a point west of Thunder Bay or Armstrong, Ontario, if the grain is to be carried to a port in British Columbia for export, other than export to the United States for consumption in that country.

[4] If a prescribed railway company’s revenue exceeds its MRE, the company must pay out the excess amount plus a penalty to the Western Grains Research Foundation.

[5] There are currently two prescribed railway companies: CN and CP.

[6] The Agency applies the formula set out in subsection 151(1) of the CTA to determine a railway company’s MRE. One of the inputs to the formula is the VRCPI, an inflation index that reflects forecasted price changes for CN and CP with regard to labour, fuel, material, and other capital items.

[7] The determination of the VRCPIs is based on detailed submissions from CN and CP on their historical price information for railway inputs involving labour, fuel, material, and other capital items. The Agency has verified the submitted information and forecasted future changes in the price of railway inputs.

[8] The Agency is required to determine the VRCPIs on or before April 30, prior to the beginning of the crop year to which they relate. This determination is in respect of the 2021–2022 crop year.

PROPOSALS FOR METHODOLOGICAL OR INTERPRETIVE CHANGES

[9] In accordance with the established process for managing proposals for methodological or interpretive changes related to the VRCPIs, Agency staff, by letter dated January 15, 2020, reminded CN and CP that the deadline for submitting any such proposals was August 15, 2020. No material proposals for methodological or interpretive changes were submitted by industry participants for consideration by the Agency for the 2021–2022 VRCPIs.

THE LAW

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

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

  1. in the crop year 2016–2017, each prescribed railway company’s index is 1.3275;
  2. an index shall be determined in respect of each of the prescribed railway companies; and
  3. the Agency shall make adjustments to each prescribed railway company’s index to reflect the costs incurred by the prescribed railway company to obtain hopper cars for the movement of grain and the costs incurred by the prescribed railway company for the maintenance of those hopper cars.

ANALYSIS AND DETERMINATIONS

CN

[11] The Agency has determined CN’s VRCPI for the 2021–2022 crop year to be 1.4505, an increase of 0.50 percent from the 2020–2021 crop year.

[12] The 0.50% increase in CN’s VRCPI stems from:

  1. a 0.56% decrease attributable to updating previous Agency forecasted price changes for 2020 with actual price changes and incorporating revised forecasts for 2021; and,
  2. a 1.06% increase in forecasted price changes for the 2021–2022 crop year.

[13] The following table summarizes the changes that make up CN’s 2021–2022 VRCPI:

Table 1: CN
CN's 2021-2022 VRCPI Weight % A % Change B % Weighted Change C= A x B
Price Component: Labour 32.18 0.06 0.02
Price Component: Fuel 16.07 12.05 1.94
Price Component: Material 34.64 0.80 0.28
Price Component: Investment (leased cars, amortization, cost of capital) 17.11 -7.56 -1.29
Total of price components 100   0.94
Total of cost componentsFootnote 1     0.12
Total price changes for 2021-2022 (price components and cost components)     1.06
Revisions to the 2020-2021 VRCPI to reflect actual and updated - forecasted price and cost changes     -0.56
Total increase of CN's 2021-2022 VRCPI     0.50

CP

[14] The Agency has determined CP’s VRCPI for the 2021–2022 crop year to be 1.4787, a decrease of 1.78 percent from the 2020–2021 crop year.

[15] The 1.78% decrease in CP’s VRCPI stems from:

  1. a 0.64% decrease attributable to updating previous Agency forecasted price changes for 2020 with actual price changes and incorporating revised forecasts for 2021; and
  2. a 1.14% decrease in forecasted price changes for the 2021–2022 crop year.

[16] The following table summarizes the changes that make up CP’s 2021–2022 VRCPI:

Table 2: CP
CP's 2021-2022 VRCPI Weight % A % Change B % Weighted Change C= A x B
Price Component: Labour 33.16 -2.31 -0.77
Price Component: Fuel 15.09 11.67 1.76
Price Component: Material 31.72 1.40 0.44
Price Component: Investment (leased cars, amortization, cost of capital) 20.03 -17.57 -3.52
Total of price components 100   -2.08
Total of cost componentsFootnote 1     0.94
Total price changes for 2021-2022 (price components and cost components)     -1.14
Revisions to the 2020-2021 VRCPI to reflect actual and updated - forecasted price and cost changes     -0.64
Total decrease of CP's 2021-2022 VRCPI     -1.78

[17] The following provides further information on the individual price components used in developing the 2021–2022 VRCPIs.

Labour

[18] 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 pension, and employment insurance contributions).

[19] The Agency, consistent with its practice in previous years, considered established labour contracts that extend into the future and relied on projections of historical trends for the remaining subcomponents.

[20] For CN, the Agency forecasts a 0.06% increase in labour for the 2021–2022 crop year. Projected increases in general wages were offset by declines in wage-related items, such as bonuses and stock-based compensation, and a decline in fringe benefits.

[21] For CP, the Agency forecasts a 2.31% decline in labour for the 2021–2022 crop year. Projected increases in general wages and wage-related items were more than offset by a large projected decline in fringe benefits as expenses related to a series of substantial pension contribution payments made by CP beginning in 2009 are winding down. 

Fuel

[22] The railway fuel price index reflects changes in the average annual price per litre of diesel fuel.

[23] The Agency uses a model based on the relationship of railway fuel prices and the price of crude oil, using the common benchmark West Texas Intermediate, to arrive at the projected fuel index. The model also accounts for any known hedging practices, federal fuel excise tax, provincial fuel sales taxes, and carbon taxes. The Agency relies on forecasts of international crude oil prices and on the Canada/U.S. exchange rate from a number of expert third-party forecasters as inputs to the Agency’s fuel forecasting model.

[24] The average of the third-party forecasts for the price of crude oil is USD 59.70/bbl for 2021 (an increase of 51.9 percent from 2020), which is forecasted to decrease by 4.2 percent to USD 57.20/bbl for 2022. An important element in the development of forecasts for the railway fuel price index is the Canada/U.S. exchange rate, as crude oil is purchased in US dollars. The average of the third-party forecasts for the exchange rate is USD 0.7920 for 2021 and USD 0.7860 for 2022.

[25] The Agency forecasts a 12.05% increase for CN and an 11.67% increase for CP in fuel prices for the 2021–2022 crop year, after taking into account the projected increase in the price of crude oil in 2021 as compared to 2020, the associated fluctuations in the Canada/U.S. exchange rate, the projected decline in crude prices in 2022 and increases in fuel-related taxes.

Material

[26] The material price index reflects changes in the average annual price of a basket of railway materials.

[27] 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 Canadian/U.S. exchange rate, as approximately 70 to 85 percent of materials purchased are affected by the exchange rate.

[28] The Agency forecasts a 0.8% increase for CN and a 1.40% increase for CP in their respective material price indices for the 2021–2022 crop year. Higher projected increases in important material price inputs such as steel and fabricated metals were tempered by a projected increase in the Canada/U.S. exchange rate. As railway companies purchase a large percentage of materials in USD, a strengthening Canadian dollar provides more buying power and reduces the railway companies’ overall material prices.

Investment components

[29] Investment components include cost of capital and amortization of investments, and leased hopper car costs.

[30] One of the elements used in calculating the cost of capital component of the VRCPIs is the cost of capital rate. This item has been addressed separately in Decision No. LET-R-35-2021 for CN and Decision No. LET-R-34-2021 for CP. In accordance with Federal Court of Appeal Decision 2021 FCA 69 dated April 9, 2021, in calculating CP’s cost of capital for the 2021–2022 crop year, the Agency has used the methodology that was used in the 2019–2020 crop year for the treatment of general purpose debt. In light of this decision, the Agency will conduct further consultations with CN, CP and other interested stakeholders on the issue of whether to allocate general purpose debt to Canadian rail operations.

[31] For the 2021–2022 crop year, the Agency forecasts a 7.56% decrease for CN and a 17.57% decrease for CP in their respective investment component indices. These declines are partially attributable to declines in the cost of equity rates for both CN and CP, resulting in lower overall cost of capital rates as compared to 2020-2021 (re‑calculated for CP Decision No. LET-R-33-2021).

Cost components

[32] Cost components include adjustments made to CN’s and CP’s VRCPIs pursuant to paragraph 151(4)(c) of the CTA to reflect costs incurred by CN and CP in obtaining hopper cars for the movement of grain and the net impact of replacing 1992 hopper car maintenance costs with actual costs (Decision No. 67-R-2008). The Agency forecasts a 0.12% increase for CN and a 0.94% increase for CP primarily attributable to the acquisition of hopper cars for the movement of grain.

Member(s)

Elizabeth C. Barker
J. Mark MacKeigan
Heather Smith
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