Harrison, tipped for CP Rail, shifted culture at CN rail

Hunter Harrison engineered a turnaround at Canadian National Railway by making his trains run on time, like dictator Mussolini promised for Italy, calling even low-ranking employees if a screen mounted in his office pointed to a problem.

Now his minority shareholder backer wants him to conjure up the same magic at rival Canadian Pacific Railway Ltd, helping the storied company improve its worst-in-class operating performance.

CP is pushing back against these proposals, from activist investor William Ackman, and CN has urged Harrison to reconsider his interest in the rival railroad.

I'm personally convinced that he could go in and help them, said Les Dakens, who ran human resources at CN under Harrison. Probably his best legacy at CN is that he developed his successors, the Claude Mongeaus of the world, he added, referring to the railway's current CEO.

However analysts also admit the circumstances are different for the two railways. CP's trains battle with steeper mountain grades and the company has a heavy exposure to a single big customer, British Columbia-based miner Teck Resources Ltd.

Harrison certainly transformed the culture at CN, which reinvented itself as a public company after its 1995 privatization, boosting efficiency and cutting costs.

But many of the changes that helped CN - tighter schedules, longer trains, more efficient locomotives - are already in place at CP, or planned by Chief Executive Fred Green. Many observers are unsure if Harrison's heavy-handed, detail-oriented management style can shift the culture at CP Rail.

What could a new CEO accomplish that this one can't? I think there's a lot of uncertainty there, said Morningstar analyst Keith Schoonmaker. It's not like Green has been sitting and doing nothing.

ACTIVIST INVESTOR

But to listen to Ackman, Green should be on the way out. Ackman's Pershing Square Capital Management has built up a 14.2 percent stake in CN, Canada's No. 2 railway, and is preparing for a proxy battle to install Harrison at CP, which has the worst operating metrics among North America's Class 1 railways.

Harrison, who grew up in Memphis, Tennessee, and still speaks with a southern drawl , started as a carman-oiler with the St. Louis-San Francisco Railway in 1963, when he was still in high school.

He rose through the Frisco, and then moved to Burlington Northern and Illinois Central. President of the Illinois Central when CN acquired it in 1998, Harrison became chief operating officer at the recently privatized behemoth.

I was always looking for that future talent. I found a pool of it in a regional U.S. railroad known as Illinois Central, Paul Tellier, a prominent civil servant and business man, was quoted as saying in a book co-authored by Dakens.

Tellier, who led CN's privatization, said picking Harrison and his team in the merger was one of his best decisions at CN.

PRECISION RAILROADING

At CN, Harrison made changes he had honed at Illinois Central. CN calls Harrison's system precision railroading, and can be a tad ambiguous about what it means. But the most important point is simple: make sure the trains run on time.

Traditionally, railways had played fast and loose with schedules, holding trains until they were hauling as much cargo as possible. From the perspective of single trains, flexibility can seem efficient, but that misses the big picture. Locomotives don't get where they are needed; crews are idle; cargo is late.

The key, said University of Dayton professor and railway consultant Michael Gorman, is to set the right schedule, and then stick to it. That's something all North American railroads, including CP, aspire to do now, but CN did it first and best.

CN has led the industry with being more disciplined, more scheduled. That might result in smaller trains on occasion, but you get much better asset utilization, he said.

Under Harrison, CN Rail started moving assets more quickly, shipping more cargo using less equipment. The company also pushed its employees harder, cracking down on shifts that traditionally started late and ended early. At one point during Harrison's tenure, there were two strikes in four years.

When Harrison arrived in 1998, CN's operating ratio was 75.1. When he became CEO in 2003, the ratio had fallen to 69.8 percent, for several years before the financial crisis it came in below 65.

The lower the ratio, which measures operating costs as a percentage of revenue, the more efficient the railway.

CP, founded in 1881, has dabbled in businesses ranging from abattoirs to forestry to radio broadcasts, although it has focused on the railroads in the last decade. Its operating ratio has lagged CN since the mid-1990s.

In 2010 CP's operating ratio was 77.6 percent, and management hopes to bring it to the low 70s within three years, a threshold CN reached more than a decade ago.

DON'T BE LATE

But the CN shift in tactics was about more than announcing a change in policy. Customers had to be told that cargo that arrived late would be left behind. If clients held on to CN's cars longer than agreed, they were liable for fines that Harrison was not shy about collecting.

Everyone has scheduled trains, it's just a matter of how strictly do you enforce it, and how tightly do you run the ship, and do you really want to anger your customer? said Schoonmaker. There was a perception in the space that CN's discipline was not necessarily customer-friendly.

That perception has persisted. Ian MacKay, a transportation lawyer and former executive with Transport Canada, says it may be possible to cut operating ratios too far.

Each time you reduce costs, at a certain point you get to the point where you have to reduce service quality or service level, he said.

Harrison was just as tough on his workers. A wide screen in his office let him monitor the position of every train in CN's network. Famously, he would call employees at any level of the company.

He would pick up the phone and say, 'I see you're running late', said Dakens, who is now senior vice president at Maple Leaf Foods. Now, when you get the call from the CEO asking you 'are you going to be on time,' that will get your attention. So he did it partly for effect.

Dakens said Harrison once called a rail yard he could see from his hotel room in Vancouver to ask why a train was not moving. Lawrence Kaufman, a fellow vice president at Burlington Northern who now writes about the industry, predicts that not everyone at CP would appreciate the attention.

I suspect those people in the management who are most willing and capable of adapting and changing the way they do things will get along fine, and others will be advised to seek career opportunities elsewhere, he said.

Harrison was undoubtedly serious about mentorship, running about 18 three-day Hunter camps across North America every year for managers and union stewards. Ultimately, though, the market may not care much about Harrison's precise credentials.

The idea that a legendary messiah-like figure could come in and catalyze an operating ratio transition, regardless of the veracity of that, I think there's a possibility of a share price increase that doesn't have anything to do with the fundamentals, said Schoonmaker.