What It Takes to Build a (21st Century) Railroad
Kevin Schieffer has discovered that the most direct route from Wyoming coal mines to Midwestern power plants may be through Washington, D.C.
(FORTUNE Magazine) - Look down from the cabin of Kevin Schieffer's twin-engine King Air 5,000 feet over Wyoming's Powder River Basin, and it's easy to see why he and his investors want to build the first major new railroad in almost 100 years.
The open range is scored with the man-made canyons of coal mines, and the only way to move the coal to Midwestern power plants is via the railroads that snake from horizon to horizon. "I count eight trains with God knows how many hoppers in each one," Schieffer says, pointing out the window. "I can't help thinking, Ka-ching."
Schieffer's ambition is to morph the Dakota Minnesota & Eastern Railroad, a decrepit $220-million-a-year line, into a 2,800-mile, $1-billion-plus-per-year coal-carrying artery. It would challenge the mighty Union Pacific (Research) and Burlington Northern Santa Fe (Research), which already operate in the Powder River Basin. For almost a decade the DM&E has been preparing to add its track to this vista; lately, as demand for coal and freight rates have soared, that dream has become very sweet.
But you don't push a railroad through inhabited country without a lot of fights. The minute the DM&E unveiled its expansion plan in June 1997, the big railroads scoffed, neighbors objected, and protest letters started pouring in.
Ranchers in Wyoming and South Dakota argued that the project would devastate their pastures. A funeral director in Brookings, S.D., objected that noise from the tracks would force him to move his chapel. A 7-year-old girl made a Magic Marker drawing of her family's farm near Rochester, Minn., writing that Schieffer's trains "will destroy all this." The Mayo Clinic, which is based in Rochester, protested that vibrations from coal trains could interfere with sensitive equipment.
That's not even counting the objections from federal, state, and local governments that had to be met. Government used to be a railroad's best friend; during the building of the transcontinental railroad, the U.S. under Abraham Lincoln granted swaths of prairie to the railroads, donated construction materials, and helped finance every mile.
But America's priorities long ago shifted to highways and airplanes, and Schieffer faced not only having to buy the land for expansion but also having to win approval from more than 30 agencies. The Forest Service wanted paleontologists to remove any dinosaur bones along his tracks. The Fish and Wildlife Service worried about endangered species like the black-footed ferret. The Army Corps of Engineers wanted the railroad to buy Uncle Sam two acres of wetlands for every acre it ran over.
So why did Schieffer persevere? Because the industry is booming; last year railroads moved 1.7 trillion ton-miles of freight, up 58% from 1990. "It's a new golden age for railroads," says independent railroad analyst Anthony Hatch. Much of that traffic is coal--it accounted for 43% of rail tonnage in 2004--and much of that now comes from Wyoming and Montana, where the low-sulfur variety preferred for power plants lies just below the surface.
The Energy Information Administration estimates that the U.S. will demand an additional 100 million tons annually from the Powder River Basin by 2010. And the existing railroads, the ones you see from the company plane, just can't carry any more.
So Schieffer, 48, has devoted the past nine years to reassuring backers, resolving disputes, and campaigning in every settlement along the route, not to mention in hearings and backrooms from Huron, the seat of Beadle County, S.D., to Washington, D.C. Now this serious and shy lawyer is poised to emerge as America's first self-made railroad baron since the days of Teddy Roosevelt. On Feb. 15, the DM&E was granted its last, crucial federal permit.
The improbable crusade was helped by the growing power of a key ally: John Thune, a South Dakota Congressman turned lobbyist who unseated Senate Minority Leader Tom Daschle in 2004. In the 18 months preceding the election, Thune earned some $220,000 as the DM&E's chief lobbyist. Last summer, as Senator, he helped engineer legislation that gives the Department of Transportation $35 billion this year for low-cost railroad loans--a move that has drawn sharp criticism in Washington.
The DM&E is seeking to draw on that pool for the $2.5 billion in construction money it needs. Gazing out across the plains, Schieffer happily repeats what has been his mantra in front of hundreds of audiences: "It just makes too much sense not to happen."
The Dakota Minnesota & Eastern Railroad came into Kevin Schieffer's life in May 1983. A lowly aide to Larry Pressler, a powerful Republican Senator from South Dakota, Schieffer was at his desk in the Senator's office when an executive of the Chicago & North Western Railroad stopped in unannounced and asked to speak to someone in charge of railroad affairs.
The ninth of 12 siblings, Schieffer was born in a Nebraska farmhouse without indoor plumbing or electricity; he went to college and then law school after the bank foreclosed on the family farm. He was so junior in the Senator's office that he got stuck meeting with the railroad man. Schieffer recalls: "The guy said, 'I wanted to let you know we're going down to the ICC tomorrow and filing for an abandonment of a railroad line out in your state. Do you have any questions?' I thought for a little bit and said, 'Well, could you tell me what's the ICC, and what's an abandonment?' "
Railroads, his visitor explained, had the right to abandon unprofitable track simply by applying to the Interstate Commerce Commission. The stretch that the Chicago & North Western had in mind started in Rapid City, S.D., and traced a path across the plains to the state capital, Pierre. It was pretty much a formality for the railroad to send a man to call on Pressler; no major railroad had ever lost an abandonment hearing.
After a little investigating, though, Schieffer decided that this abandonment was worth fighting. He persuaded Senator Pressler by pointing out that the railroad meant votes in the heart of the state--it was the lifeline for farmers far from any major highway. So Pressler intervened. Not only was the Chicago & North Western's application denied, but Pressler kept the South Dakota line under his wing.
Three years later he godfathered its sale as part of an 827-mile stretch of track to an investor group led by L.B. Foster (Research), a Pittsburgh rail-products maker, and the Dakota Minnesota & Eastern Railroad was born. It reached from Rapid City to Winona, Minn., and was headquartered near Sioux Falls. Lee Foster, the Pittsburgh company's chairman, promised to keep the line running and figured that even if it eventually failed, the investors would recoup some of its $27 million price. (L.B. Foster has a division that pulls up abandoned rail for scrap.)
The DM&E muddled along into the 1990s, grossing barely $30 million a year. Its century-old tracks were so broken-down that derailments became an almost weekly event; the joke in the industry was that the DM&E could derail a locomotive standing still. On long stretches of the line, speeds had to be limited to ten miles per hour, so getting a shipment from Rapid City to Winona could take almost 20 days.
Schieffer moved on. In 1991, President George H.W. Bush named him U.S. Attorney for South Dakota. But as soon as Bill Clinton took office in 1993, Schieffer found himself out of work. He set up a corporate law practice in Sioux Falls, and the DM&E became one of his biggest clients.
As the economic boom of the 1990s heated up, railroad tonnage and rates both rose, and so did demand for coal. People noticed that the DM&E passed within 100 miles of the Powder River Basin--in 1996 the railroad received a couple of unsolicited buyout offers from groups wanting to extend it to haul coal. The DM&E's owners had considered the possibility, but the project had always seemed so daunting that it had been dismissed.
No one had ever taken a small, local carrier and built it into a so-called Class I railroad--it would be like expanding a local discount chain to go toe-to-toe against Wal-Mart. But with offers on the table, the board thought again. "They had a long talk and decided, 'Well, you know what, let's do it ourselves,' " says Schieffer. "To do it, they were going to need someone who knew Washington, and, well, I was looking for a challenge." He signed on as president.
Schieffer's argument for selling the deal to the locals was simple: A booming railroad brings jobs and growth. But with Wyoming ranchers like Bob Stoddard, that didn't cut much ice. Stoddard trucks his cattle to market, and railroads disrupt his life. He tells of herding about 1,000 head near the tracks on the west side of his 35,000-acre ranch not too long ago when a coal train rolled by. "We had a stampede," he says. "Damn near three days later we were still herding up them cows."
Schieffer ran into complaints like Stoddard's almost every day when he started holding landowner meetings in search of the best route to skirt the Black Hills, the chief geographic obstacle in the DM&E's path. Sometimes, then-Congressman Thune would come along to help promote the plan. Yet Schieffer ran into firestorms everywhere he went. "People out of the audience would come up within an inch of my face, yelling and pointing fingers. I got poked in the chest a lot," he remembers.
Resistance grew even stronger once the DM&E chose the route. It would branch from the existing line near Wasta, S.D., and extend 260 miles along the Cheyenne River into the Powder River Basin. It wasn't the shortest route, but it crossed the fewest environmentally sensitive zones and the fewest ranches. Mindful of the growing national demand for coal, the Surface Transportation Board, the Department of Transportation affiliate that presides over interstate rail routes, gave the plan a favorable initial assessment in late 1998. But it also called for extensive environmental reviews, touching off countless hearings.
Schieffer set out to meet the owners of every one of the 100 or so ranches along the DM&E'S proposed route. A minority quickly came around, including Stoddard, who says he hoped to extract more money: "With railroads, you can fight them until hell freezes over, but when they get their permits and funding, they can do what they want. I'm sure us guys who work with them will get paid better."
He helped Schieffer set up an advisory board of ranchers; Schieffer agreed to pay for the land the company takes and for any other negative impact on ranchers' operations. He also agreed it would dig wells and build dams and barns as well as scores of underpasses for cattle. Still, not all the ranchers are sold. "Any railroad amounts to a Great Wall of China," says Nancy Darnell, whose family owns 100,000 acres in northeastern Wyoming. "While cattle can be herded underneath it, the antelope herds that have migration routes can't. They die on the tracks, and then you have eagles that come down to feed on them, and then you have dead eagles when the next train comes by. It's a mess."
Schieffer also campaigned hard in the cities and towns along the existing line, where residents accustomed to the DM&E's somnolent pace were now facing the prospect of dozens of mile-long, 15,000-ton coal trains thundering through day and night. He refurbished a 1925 Pullman car, dubbed it the Pioneer, and devoted weeks to whistlestop tours.
The politicking mostly worked, but in Rochester, Minn., where the tracks pass right by the Mayo Clinic, the campaign hit a wall. Rochester and its biggest employer are so entwined that the 1.5 million visitors per year cited by the Chamber of Commerce is exactly the number of outpatient visitors to the Clinic.
Mayo representatives raised safety issues, warned that the increased train traffic could "slow or halt clinic growth," and demanded that the DM&E reroute its line. But news of the clinic's proposed bypass around the city touched off a furor among surrounding farmers. After months of controversy, the debate stalled. (The Mayo Clinic now says it wants the DM&E to divert its coal traffic before it ever gets to Rochester.)
A crucial challenge was to connect the DM&E to Chicago and Minneapolis, major hubs where its coal shipments could connect with railroads serving the power plants. The region was too densely settled to accommodate more track; the only good choice was for the DM&E to annex a neighboring line, the Iowa & Minnesota Rail Link. It was almost as creaky as the DM&E but bigger, with 1,400 miles of track.
Beginning in 1999, Schieffer labored for three years to put together a bid involving $150 million from hedge funds and banks. The deal closed in early 2002-- a watershed couple of months for the DM&E, as the Surface Transportation Board, completing its three-year review, gave the okay for the company to lay its new line to the Powder River Basin.
Schieffer and his investors celebrated, but they weren't so naive as to think the paper chase was over. Sure enough, within days the holdout ranchers joined forces with the Sierra Club, the Mayo Clinic, the city of Rochester, and others to sue the Surface Transportation Board, challenging its review. The expansion plan went back into bureaucratic limbo.
But now Schieffer had a more urgent headache: digesting his big acquisition. The greatly expanded DM&E was so heavily leveraged that it was barely breaking even on its $185 million in annual revenues. To have any hope of raising billions for construction, Schieffer knew he had to strengthen the balance sheet.
As a veteran of Washington, he also understood that a possible solution lay in replacing expensive bank debt with a low-cost federal loan--the Transportation Department's Federal Railroad Administration maintains a program to assist struggling railroads. To help advance the case, Schieffer in April 2003 hired an old friend--John Thune, who had just left his House seat and was working as a lobbyist. Thune did a good job persuading the bureaucrats: At the end of 2003, the DM&E was awarded a $233 million loan, the largest the Federal Railroad Administration had ever made.
That triumph helped the DM&E make modest profits on just over $200 million in revenues in 2004 and 2005, hauling mostly grain. More important, it gave Schieffer and Thune an inspiration: Why not get Uncle Sam to fund the entire Powder River Basin project? "It hit me like a ton of bricks," Schieffer says. "We could get this done a whole lot sooner if the government loaned us the money!"
For boldness, the idea was worthy of John Henry--if that steel-driving hero of American legend had lived in an age when railroads were built primarily of permits. There were problems with the idea, of course. For one thing, the project didn't precisely fit the loan program, whose mandate was to help railroads fix existing track. Worse, the program was small: Its entire annual budget was only $3.5 billion. While lobbying for the DM&E in 2004, Thune was also campaigning for Tom Daschle's Senate seat. After he won, he continued to push for the project.
As it happened, expanding the railroad loan program fit neatly into last summer's $286 billion transportation bill, which gained instant notoriety for such pork-barrel excesses as its $223 million grant to build Alaska's "bridge to nowhere." Senator Thune, just eight months after collecting his last check as DM&E's lobbyist, got a provision added with the Powder River Basin project specifically in mind.
It increased the Federal Railroad Authority's loan budget for 2006 by a decimal point--from $3.5 billion to $35 billion. And it required the FRA to give priority to projects like the DM&E's that "alleviate rail capacity problems." Asked about the railroad's role in the legislation, the Senator says both its involvement and the increase in funding are in the public interest: "The DM&E was involved in the legislative process because of their expertise.... It was a national priority to bring this project over the finish line."
Even today, with the permits lined up, Schieffer knows his battles aren't over. The delay forced by the ranchers' lawsuit was resolved on Feb. 15, but now Senator Mark Dayton, a Minnesota Democrat, is making belligerent noises. "The railroad will enter Rochester over my dead body," he says. "The Mayo Clinic is worth a hell of a lot more than the whole state of South Dakota."
On Feb. 28, Dayton offered an amendment to a lobbyist reform bill that would require newly elected members of Congress to wait two years before pushing the interests of former clients. The measure, says Dayton, was a response to Thune's activity on behalf of the DM&E, which he calls "reprehensible." Thune retorts: "I backed this project when I was a Congressman, I backed it when I was in the private sector, and I'm backing it now. It's a no-brainer because it supports South Dakota."
(In response to a Fortune.com version of this story, Dayton sent an apology to Thune, which reads in part: "The Mayo Clinic is of inestimable value to my State of Minnesota. However, I had no cause to make a comparison with the also-inestimable value of the great state of South Dakota.")
The White House, meanwhile, wants to kill the loan program. "We would simply prefer the program not exist," says Alex Conant of the Office of Management and Budget. President Bush tried and failed to eliminate it in his 2006 budget and is trying again in his 2007 plan. Thune says there's little chance the White House will win this one. "The administration has always frowned on this, but it has very strong congressional support, and that's what's important," he says.
Construction on the line, assuming it starts, will be a thing to behold. Just ask Jim Wrinn, editor of Trains, a magazine for rail fans (or trainspotters or foamers, as they are also called). "Most feel they missed the railroad boom," he says, "so the DM&E is going to bring in folks from around the world."
Brian Solomon, a railroad author and photographer, jokes that there will be more trainspotters than actual construction workers. That's likely. In John Henry days, building a railroad took tens of thousands of laborers; now a track-laying machine does most of the work. A quarter-mile long, it can lay more than a mile of ballast, ties, and steel a day. "I'll be one of the first to check out the DM&E," says Solomon, 39, who lives with his parents in Monson, Mass., when he's not spotting trains. "It'll be a historic event."
The payoffs for Schieffer and his investors will be dramatic in a different way. Thomas Wadewitz, an analyst at J.P. Morgan, thinks the DM&E might snag up to 20% of the Wyoming coal market, which presently generates more than $3 billion in freight revenue a year. If the railroad goes public, which Schieffer says isn't far off, the Powder River Basin expansion could put the company into a league with the Kansas City Southern Railroad (Research), which has a $2 billion market cap.
Other analysts think that if the DM&E gets its government loan, it will instantly become ripe for a takeover. Either way, says rail analyst Rick Paterson of UBS, "If the DM&E gets the funding, it has the potential to make boxcars of cash." As of late February, those boxcars seemed to be on track.