Growth Prospects - Rail and Urban Guided Transit Equipment Sector Competitiveness Framework

Sector Competitiveness Frameworks Series
Rail and Urban Guided Transit Equipment
Overview and Prospects

• Foreword
• Highlights
• Key Points about this Industry
• Changing Conditions and Industry Response
• Growth Prospects for the Industry
• Annexes

Demand Outlook

Global demand for transit services, and hence equipment, is predicted to increase worldwide during the 1990s and well into the next century. Changing demographics and increased road congestion as well as energy and environmental concerns all provide the impetus for innovative technologies in rail and automated transit systems. Opportunities for the sale of freight rail equipment will continue to grow internationally as railway companies replace older equipment and purchase new equipment for bimodal road and rail system applications.

North American demand during the early 1990s has been influenced by strong economic growth in the United States economy (3.1 percent in 1993 and 4.1 percent in 1994). Consequently demand for rail equipment has also been strong. In 1995, United States gross national product (GNP)growth slowed to 2 percent, and freight haulage has fallen off accordingly. Demand for passenger rail and urban transit equipment is less affected by GNP growth, and is largely a function of levels of public funding and subsidies provided by various levels of government.

Canadian rail and GUT suppliers face intense competition from United States suppliers in the United States market. The pressure, of course, is more intense during times of economic slowdown, particularly when substantial overcapacity exists. Current favourable exchange rates for the Canadian dollar vis-à-vis United States currency make Canadian suppliers very competitive in the United States market. Accordingly, United States Demand Outlook for Canadian suppliers looks positive, though it may remain quite flat in the medium term.

Guided Urban Transit Subsector

The outlook for Canada's GUT subsector appears positive for the next decade in North America as well as in Asia, eastern Europe and the former Soviet Union.

Spurred by environmental and traffic volume concerns, urban transit renewal in the United States will present particularly strong opportunities for Canadian suppliers: market potential between 1995 and 2005 could exceed United States$20 billion, with annual demand projected to increase to 650 vehicles. Canadian suppliers are well positioned to supply integrated urban transit systems, as well as intercity passenger rail vehicles to meet expanding urban transit needs around the world.

Demand for GUT systems is rapidly increasing in fast-growing newly industrialized countries (NIC). Recent examples include systems in Ankara, Turkey, and Kuala Lumpur, Malaysia, in which both Bombardier and SNC Lavalin are involved. SNC Lavalin has also recently signed a US$500-million contract to build, own and operate a mass transit system in Karachi, Pakistan.

These trends indicate substantial business opportunities for Canadian companies in the next decade and beyond.

Locomotives Subsector

In view of the need to replace aging equipment, domestic demand for rail equipment is expected to be strong in the short term. CN is planning to invest about $455 million in 1996 (up from $370 million in 1995) in three areas: $270 million for intermodal infrastructure such as terminal construction and improvements; $110 million for new equipment, particularly new locomotives to replace its aging fleet; and $75 million for train service and information systems upgrading. Over the next 10 years, CN plans to acquire 543 new locomotives; $500 million will be spent between 1995 and 1999 for new units from DDGM in London, Ontario.

In 1995, CP Rail spent a record $650 million on capital expenditures including $200 million on AC locomotives built by GEin theUnited States In 1996, CP plans to continue investing in new locomotives and intermodal equipment as well as infrastructure.

Overall, the outlook for Canadian built locomotives remains positive over the medium term. DDGM is a strong and healthy competitor and its London, Ontario, plant is well equipped to produce the increasingly complex locomotives being developed. The market is currently expanding, with predictions of steady deliveries over the next five years.

Analysts expect a North American demand of 600 and 700 units per year for the next five years. Following significant downsizing and restructuring in the United States, railroads are now modernizing their fleets and embracing newer technologies such as higher-horsepower locomotives and intermodal equipment.

Start-up and revitalization of railway networks in developing countries offers potential growth. These countries appreciate the robustness and lower maintenance requirements of North American locomotives, as well as Canada's competitive prices. While European locomotives function well at home, they often encounter problems under more severe operating conditions and without adequate maintenance support.

Demand for locomotives also remains firm as new technologies and more powerful locomotives increase productivity and reduce operating costs. Recent traction efficiency developments and changes in railway operations suggest that locomotives with a capacity of 6000 horsepower or more will be preferred in the near future. Manufacturers have announced plans for engines with a capacity of 5000—6000 horsepower, with trains already being designed to handle the increased horsepower.

With increasing United States passenger traffic, many cities are looking for a cheaper, environmentally sound alternative to repairing old expressways and building new ones. Los Angeles is increasing passenger rail service using locomotives modelled on Ontario's GO transit system.

While the current slowdown of the United States economy could reduce United States freight car deliveries by as much as 20 percent in 1996, Canadian exports are expected to remain at their current level because of Canada's relative cost advantage.

Components Subsector

The slowdown of the United States economy is expected to diminish component demand. Despite this, Canadian parts exports to the United States are expected to remain strong, even if somewhat reduced, because of favourable exchange rates. On the negative side, "Buy America" and similar requirements continue to limit the volume of components sourced in Canada.

The strongest demand driver is higher assembly outputs by Bombardier, DDGM and the rail car producers. Prospects are also strong for new guidance and control equipment for emerging Intelligent Transportation Systems.

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Challenges

Structural challenges include:

• a small domestic market and a characteristically "lumpy" market
• lack of Canadian capability to produce engines and other propulsion equipment and electronics
• weaknesses in export financing, which is key to bidding competitively on turnkey projects and large export orders
• disparities between Canadian capital cost allowance and the United States depreciation regime.

Concern has been expressed in the past by United States rail equipment competitors regarding previous government assistance to the Canadian rail car industry. Particularly in view of surging Canadian production, a concern remains that United States producers may seek countervail action by Washington.

The "Buy America" provisions noted above have led to job and production transfer south of the border. In response, the CUTAs Transit Suppliers Business Council is seeking relief from "Buy America" and similar restrictions on Canadian access to the United States market. If a negotiated settlement is not reached, job and production transfer can be expected to increase as market opportunities expand. As well, Canadian suppliers could be prevented from taking full advantage of a projected United States $20 billion HSR market. HSR projects in the United States will involve considerable public funding and are therefore limited by domestic procurement preferences.

Because Canada's major competitors in the United States, Europe and Japan, with the help of their governments, appear to be committing more resources to product development, Canadian firms in the industry may be becoming outflanked technologically.

The landmark United States Intermodal Surface Transportation Efficiency Act of 1991 set aside United States$660 million specifically to nurture advanced transportation technologies through dozens of demonstration projects across the country. The United States President's 1993 Report to Congress, "Technology for America's Economic Growth," gives highest priority to technology that will put America ahead.

Foreign government export financing for competitors is an issue in competitive bidding facing Canadian consortia attempting to win contracts for turnkey projects.

The new EPAenvironmental standards beginning in the year 2000 will have to be met by Canadian railways that wish to continue operating in the United States. Given the older age of the Canadian locomotives and ongoing financial difficulties facing the Canadian companies, complying with the new United States standards will impose a substantial burden on them. At the same time, however, Canadian suppliers of railway equipment will see improved opportunities as a result.

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Strengths and Opportunities

• well-established market access to the United States, despite non-tariff barriers
• state-of-the-art assembled product technologies in key exportable areas
• a solid and growing reputation in international turnkey projects.

Future opportunities in the guided urban transit sector are growing rapidly. In the next five to 10 years, US$40 billion in business potential is projected for North America alone.

ITS is an emerging sector where opportunity exists for Canadian companies. Observers estimate that the world market for ITS could reach United States $1 trillion over the next 25 years.

The new United States EPA environmental standards present significant opportunities for developing and producing new environmental technologies and equipment.

Bombardier and SNC Lavalin have broken the ground for establishing the kind of joint venture that will allow Canadian industry to penetrate large, otherwise inaccessible, foreign markets.

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The Bottom Line

To secure its future, this sector must keep pace with rapid technological change by maintaining its leading edge in key product lines. It must continuously improve productivity and international competitiveness through sizable investment in (R&D), human resources and market development. The following structural challenges must be addressed jointly by industry and government.

The United States domestic procurement policies remain an irritating barrier between the two countries. The effects are particularly adverse for small and medium-sized parts-producing firms, whose critical challenge will be to establish an innovative culture receptive to new technology and differentiated products, international competitiveness and strong marketing.

Tariff elimination has led even minor tax differences to influence competitiveness. Harmonized capital cost allowance would ensure a level playing field in the rail car leasing field and for the builders who supply the cars. Export financing is a third major issue to be examined.

With a global market dominated by large, diversified, multinational enterprises, international competition will remain intense. Because of its demonstrated flexibility in both technical and commercial linkages, the Canadian industry appears well positioned to maintain and increase its share in a growing overall transportation equipment market.

This Sector Competitiveness Frameworks document on Rail and Guided Urban Transit Equipment: Part 1 — Overview and Prospects has been prepared as a basis for further discussion of issues and resolutions with key stakeholders. The outcome of the discussions will be published in Part 2 — Framework for Action.