RESTRUCTURING BC RAIL: PROPOSED PARTNERSHIP RFP

1. RESTRUCTURING BC RAIL:PROPOSED PARTNERSHIP RFP Presentation to Mayors of BC Communities April 23, 2003

2. Outline • Background • Role of the Evaluation Committee • BC Rail History • Industry Trends Since 1987 • BC Rail Today • Business Model Transformation • Challenges into the Future • Restructuring of BC Rail • Request for Proposals • Mayors’ Council Terms of Reference • Members of Mayors’ Council • Next Steps

3. Background • On February 12, 2003, the Premier announced the government’s intention to seek improvements to the Province’s rail transportation system • On February 13, 2003, the Minister of Transportation announced that the Province would begin a process to seek involvement of private investors in further improving freight rail service to communities and customers throughout B.C.

4. Background • The Minister of Transportation is leading the government’s initiative to restructure BC Rail • The Minister appointed an Evaluation Committee to: • assist the government in the process of requesting proposals relating to the restructuring of the freight rail operations of the British Columbia Railway Company, and; • to evaluate such proposals to determine how objectives of efficiency, competition, value and growth are achieved.

5. Background The Evaluation Committee consists of: • John McLernon, Chair of the Board, BCRC • Brian Kenning, Board Member, BCRC • Chris Trumpy, Deputy Minister, Revenue • David Morhart, Assistant Deputy Minister, Finance

6. Summary of BC Rail History • Founded in 1912 as a private sector venture but taken over by the Province in 1918 upon bankruptcy • Railway was then regarded as a public policy tool for northern economic development • Total route-miles more than tripled from 1952 to 1977, entirely funded at taxpayers’ expense • McKenzie Royal Commission in 1977-78 in response to public outcry over escalating costs to taxpayers, recommended sale to the private sector • BC Rail becomes a commercial Crown corporation in 1979 and participates in NE coal development

7. Financial History Government Grants • Contribution of grants was justified to support public policy initiatives of the government • From 1981 to 1993, the Province provided a total of $410 million in operating grants to compensate for uneconomic operations • In 1993, the Province declared BC Rail to be a “commercial Crown corporation” and all grants ceased in order for the railway’s debt to qualify as “non-taxpayer supported,” but . . . . • Government directed BC Rail to continue operating uneconomic services at its own cost

8. Financial History Asset Write Downs • In 1999, BC Rail’s auditors identified several major assets that were not yielding adequate economic returns and defined these as “non-performing” • Book values of “non-performing assets” had to be written down, impacting the accounts of both BC Rail and the Province • A total of $857 million of asset value has been written off since 1989: • $ 80.6 million in 1989 • $616.6 million in 1999 • $ 36.4 million in 2001 • $123.7 million in 2002

9. Financial History Debt Levels • Major restriction under Crown corporation model is lack of access to equity - only debt - for capitalization of the business • Cessation of government grants in 1993 resulted in BC Rail’s earnings falling below cash flow needed to self-fund sustaining capital needs • BC Rail embarked on capital investment program in early 1990s to offset loss of NE coal revenue • Cash flow constraints led to increasing debt spiral • Present priority is focused on reducing debt to more manageable level

10. Industry Trends Since 1987 • Canadian transportation industry was de-regulated in 1987, unleashing substantial competitive forces • Although de-regulation occurred at Federal level (Canada Transportation Act), BC Rail became exposed to full forces of competition: • trucking industry • other federally-regulated railways (CN, CP, BNSF) • Provincial ownership and regulation could not insulate BC Rail from de-regulated competition • BC Rail’s struggle has revealed the weaknesses of a Crown corporation attempting to compete in with a de-regulated, private sector industry

11. Industry Trends Since 1987 Revenue Yield Compression • Measured as “Revenue / Revenue-Ton-Mile” • Declining revenue yield is a trend across the entire transportation industry • Pressures more severe on BC Rail due to: • relatively short haul distances compared to national railway, resulting in . . . • higher vulnerability of traffic base to trucking competition • opportunities for other railways to compete directly for BC Rail traffic by trucking to reload centres on their respective rail lines (Edmonton, Kamloops, L. Mainland)

12. Industry Trends Since 1987 Average Revenue per Revenue-Ton-Mile ( % of 1987 value - constant $ basis )

13. Industry Trends Since 1987 Need to Reduce Operating Costs • Substantial cost reductions have been achieved but barely keeping pace with revenue erosion • BC Rail’s ability to reduce expenses affected by: • government directive that, until 2002, railway must operate uneconomic services • higher ratio of fixed to variable costs than at larger railways (due to scale of regional railway model) • Crown ownership sensitivities hamper ability to pursue more aggressive cost reduction initiatives • “Gap” between revenue and expense trend lines difficult to close

14. BC Rail Today • Canada’s third largest railway, measured by revenue and continuous track network • 2,315 route-kilometres plus 740 kilometres of industrial, yard and track sidings • mainline from North Vancouver to Fort Nelson, plus branchlines to Ft. St. James/Takla, Mackenzie, Tumbler Ridge and Dawson Creek. • Separate 37 kilometre line serving Roberts Bank • 2002 Operating Income = $72.2 million • 2002 Operating Ratio = 78.2%

15. BC Rail Today - Rail Network

16. BC Rail Today - Freight Revenue

17. BC Rail Today - Industry Performance 2002 Industry Performance Comparisons (*indicates performance leader)

18. BC Rail Today - Economic Realities • Mountainous terrain, steep grades, high curvatures and northern climate results in higher cost operating environment: • requires higher ratio of motive power for trailing tonnage • BC Rail relies on pusher locomotives to assist loaded trains over two summits between D’Arcy and Whistler • lower fuel efficiency per Gross-Ton-Mile • increased rate of wear on track and wheels • high proportion of line vulnerable to natural hazards (landslide, rock falls, avalanches, etc.) • demands higher engineering standards for safety

19. BC Rail Today - Economic Realities • Railways are capital-intensive industries, demanding high levels of productivity and capacity utilization to achieve return on investment: • volume-sensitive business due to high ratio of fixed to variable costs • nearly half of BC Rail’s network consists of low-density branchlines • only 3 fully loaded southbound trains per day in main corridor between Prince George and North Vancouver • nearly empty trains northbound in main corridor • no unit trains - mostly labour-intensive switched & marshalled traffic

20. Business Model Transformation Core Services Review of Crown Corporations • Does the mandate continue to serve a compelling public interest? • Are the services affordable within the Province’s fiscal environment? • Are the current delivery models the most efficient way to manage and deliver the service? • Is there a legitimate and essential role for the provincial government in this business?

21. Business Model Transformation Current Role and Mandate for BC Rail • Essential that industrial producers and freight shippers continue to have access to safe, reliable, cost-effective and competitive rail transportation services in northern and central B.C. • BC Rail should focus on its commercial mandate as an industrial freight railway

22. Business Model Transformation Financial Self-Sufficiency for BC Rail • The Province cannot afford to: • provide any grants or direct operating subsidies • forgive any existing debt • support additional debt • BC Rail must self-fund all sustaining capital needs out of its own earnings and cash flow • BC Rail must reduce debt to achieve a Debt-to-Equity ratio more in line with the railway industry • Reduction of debt to be partially achieved with proceeds from the sale of non-rail-freight businesses

23. Business Model Transformation Elimination of Uneconomic Services • BC Rail has ceased to provide trailer-on-flatcar services due to marginal economics • BC Rail has ceased all passenger services (except the D’Arcy to Lillooet corridor) to avoid $9.8 million in annual losses and recapitalization requirements > $30 million • BC Rail is exploring opportunities to achieve more efficient operations on its low-density northern branchlines • BC Rail to divest its interest in Finlay Navigation by mid-year 2003

24. Challenges into the Future Narrowing and Shrinking Revenue Base • NE coal traffic ended in April 2003, ending BC Rail’s only efficient unit train operation • Dependency on Forest Products sector will approach 80% of freight traffic revenue • Increased dependence on a single, highly cyclical sector exposes the railway to major revenue risks • Uncertainty regarding Softwood Lumber Agreement • Concerns over potential future consolidations or closures of forest products facilities on BC Rail • No confirmed new freight traffic growth opportunities within next 3 years

25. Challenges into the Future Difficulty to Further Reduce Operating Costs • Entire network encompasses challenging terrain and climate, demanding high maintenance standards to meet requirements for safety and dependability • Position as an originating carrier for shipments destined across North America with long car cycle times requires management and maintenance of disproportionately large railcar fleet • Substantial consolidations and reductions already accomplished - increasingly difficult to squeeze significantly more costs out of remainder and improve service levels

26. Challenges into the Future High Cost of Independence • As an independent originating carrier interchanging traffic to four major Class 1 railways, BC Rail’s competitive advantage carries a cost for management functions typical of larger railways: • North American transportation logistics • negotiating through-rate contracts with multiple carriers • all associated billing, invoicing and collections functions • car fleet management for continental car cycles • Many other regional railways have a relationship with a single major Class 1 partner which may share the burden of some administrative functions

27. Challenges into the Future Business Model Transformation • BC Rail has excellent operating infrastructure due to past investments, however . . . . • Earnings and cash flow may not be sufficient to reliably sustain the operation over the long term • Management is pursuing an aggressive change to the business model but the ability to achieve objectives carries significant risks • BC Rail achieved a strong turn-around in operating results in 2002, but this needs to be recognized as “a year in which everything went right” - not necessarily an indicator for future years

28. Challenges into the Future Sustainability and Survival of BC Rail • It is believed that the business model of BC Rail as an independent regional railway will continue to be challenged by: • limited prospects for profitable revenue growth • increasing competitive pressure on traffic base and revenue yields • limitations to achieve necessary cost reductions without impairing the ability to meet service expectations of shipping customers • difficulty to reduce debt out of earnings • inability to access new equity as a Crown corporation

29. Key Challenge • How can we ensure that the industries and communities of northern and central B.C. will have assured long-term access to safe, reliable, cost-effective and competitive freight railway transportation services? • Examination of the present business model indicates that it will be extremely challenging to achieve this objective.

30. Restructuring of BC Rail • The Government of British Columbia believes that there can be a positive way forward • New ways of thinking and a revised business model are required • Options for maintaining and enhancing freight rail services in northern and central British Columbia must be fully considered

31. Restructuring of BC Rail The Government intends to: • Retain ownership of all lands related to railway operations, including rights-of-way and the rail bed • Retain ownership of the railway track infrastructure • Enter into a long-term arrangement for the railway operating lands and track with a private sector partner to operate the freight rail business • Deal with the Port Subdivision (Cloverdale to Roberts Bank) in a separate process from the main railway • Exclude non-rail real estate holdings from this process

32. Restructuring of BC Rail The following have been identified as areas of concern: • Continuation of the Rail Shuttle service between D’Arcy and Lillooet in partnership with the Seton Lake Indian Band • Rail line abandonments or service discontinuance • Reversion to government of discontinued or abandoned track, right-of-way and facilities • Third-party passenger train operators access to the BC Rail network on reasonable commercial terms

33. Request for Proposals (RFP) The Province intends to seek innovative proposals for BC Rail’s restructuring from qualified private sector parties through an RFP process. Proposals will have to address the following items: • satisfy shippers’ concerns for competitive service, rates and access to markets and interline carriers of their choice • plan for dealing with, and estimated impact on, key stakeholder groups (employees, communities, First Nations, etc.) • indicate range of value for BC Rail based on proposed transaction structure

34. Proposed RFP Process Milestones The major milestones for the RFP process are:

35. Stakeholder Input • Key stakeholders will be provided a vehicle to provide input into the development of the RFP • First Nations will be attending information meetings over the next several weeks • Mayors are being canvassed for their views today • A Mayors’ Council has been established • A Shippers’ Council has been established

36. Mayors’ and Shippers’ CouncilsTerms of Reference Mission and Responsibilities Two councils, the Mayors’ Council and the Shippers’ Council, were established by the Premier and the Minister of Transportation to provide input and advice to the Evaluation Committee in the overall development of a Request for Proposals (RFP) for the rail freight operations of British Columbia Railway Company.

37. Mayors’ and Shippers’ Councils Terms of Reference • The Councils will provide input and advice to the Evaluation Committee in the development of the RFP. • The Evaluation Committee will consider all information received from the Councils. • The Evaluation Committee will make recommendations to the Minister of Transportation.

38. Members of Mayors’ Council

39. Members of Shippers’ Council Abitibi Consolidated Ainsworth Lumber Canfor Dunkley Lumber Enersul Lignum Louis Dreyfus Canada Parrish & Heimbecker Slocan Forest Products Weldwood of Canada West Fraser Timber

40. Comments? The Evaluation Committee is interested in receiving comments from the Mayors representing BC communities on the information available and presented today.

41. Next Steps The next steps will be: • Input from Mayors today • Input from the Shippers’ Council on May 05 • Input from the Mayor’s Council on May 05 Mayors’ Council members to be a supplemental communication vehicle for the Mayors of communities not represented on the Council First week of May - final comments to the Evaluation Committee on the draft RFP for finalization by government

42. RESTRUCTURING BC RAIL:PROPOSED PARTNERSHIP RFP Presentation to Mayors of BC Communities April 23, 2003