A Study of the Canadian Wheat Board's Role in Grain Transportation

Executive Summary

Study Objective and Scope

Through its role in car allocation and train-run programming, the Canadian Wheat Board (CWB) is a major participant in Canada's grain handling and transportation system. Over time, this role has been the basis for significant discussion within the industry as to the degree to which the CWB should be involved in grain transportation. Participant preferences range from a greater involvement in day-to-day grain logistics to moving the CWB entirely out of day-to-day operations, as well as minor modifications to the current system.

The overall objective of the study is to provide a preliminary evaluation and balanced discussion of operational alternatives to the current transportation role of the CWB. The study provides a detailed account of the Board's current role in transportation and describes a range of options including their potential impacts. The study does not make recommendations.

This study is predicated on the simple and basic premise that the purpose of the grain logistics system is to get the right grain to the right place at the right time. This implies a need for sensitivity to the changing needs (and changing composition) of the customers for Prairie grains.

Options to the Current System

Three basic options to the current system are examined. These include:

1. The CWB as buyer at port. In this option the CWB would take possession of grain at the port, and offer tenders to the grain companies for the business of moving grain from the primary elevator facilities to vessels. The CWB would no longer be involved in the sourcing, country origination, transportation and terminal handling and storage.

2. The CWB as on-farm buyer. The CWB would purchase grain directly from producers, take ownership of the inventory on-farm, and contract with grain companies to move the grain from the farm to sales position.

3. Zone allocation. The CWB would allocate cars to grain companies on the basis of larger catchment areas or zones rather than the current train run system. This would involve 12 zones compared to the current 220 train runs. This modification is scheduled for implementation in October 1998.

In developing the alternatives, attention is given to the role of each participant from the farm through to the final destination. This includes a description of the types of contractual obligations that would be required for each system participant, including identifying where penalties would apply for failure to fulfill these obligations. The discussions of the alternative approaches also identify the major changes required in the day-to-day operations of the system and outline operational problems (and potential solutions) that may arise as a result of changing the CWB's logistics role.

The current system and the alternative approaches are assessed against the objectives of the various system participants. These key objectives of the various participants may at times be in conflict. This leads to conflicting views on the optimal system configuration, and may lead to differing opinions on the alternatives examined. Due to these differing opinions, this study examines (in a qualitative way) the impact of the proposed options on the costs and benefits of the various system participants. When examining the qualitative impact on the costs and benefits, the study examines the impact of the proposed alternatives on the ability of the CWB to carry out its major objectives.

Through an examination of qualitative changes to costs and benefits for each participant group in the system, the study should be able to identify those system participants that would likely benefit from changing the CWB's logistics role, and those system participants that would expect a negative impact.

Criteria for Assessment

The assessment of the options is based on the four basic criteria summarized below.

Efficiency is the impact on operating costs, asset management, and incentives for capital investment. This relates directly to the transaction costs of doing business.

Accountability is the impact on information needs to enter into agreements, the contractual process, and how each party to an agreement is held accountable for their contractual obligations.

Competitive relationships is the impact on each of the system participants' ability to realize market opportunities, and how their negotiating position might change as the role of the CWB in logistics changes. This influences the extent to which efficiency gains are shared by other system participants.

Equitable delivery opportunity is the impact on the principle of providing producers of CWB grains with equitable delivery opportunities, and on the CWB system of price pooling for these grains. For purposes of this study, equitable delivery opportunity means producers' ability to sell their CWB grain within a crop year and to receive the same pooled price for similar quality grain regardless of when the grain is delivered during that crop year.

Study Methodology

This study has four major components.

Review of Historical / Current Setting

This part of the study reviews the current system for grain handling and transportation, namely, how logistics planning and operations are carried out today and the rationale. The report also discusses in several sections why the current system no longer fulfills some of the system participants' objectives, and why pressures for change have been building.

An overview of changes to the legislative environment is given in the Background section, including the repeal of the Western Grain Transportation Act (WGTA), the inclusion of grain provisions in the Canada Transportation Act (CTA), and amendments to the Canadian Wheat Board Act (Bill C-4).

Key Participant Interviews

A second element to this study involves a detailed questionnaire and interview process with key participants in the grain handling and logistics chain. The intent of the interviews was to: (1) develop an understanding of accountability within the current system and any changes to accountability for the various options; (2) obtain participants' views on the impact on costs and benefits for individual participants that would result from changing the CWB's role in transportation; and (3) provide an opportunity for participants to comment on the options. Key participants, for the purposes of this study, include producers, grain companies, railways, and the CWB. Information was obtained from 22 organizations and individuals, namely, members of the Senior Executive Officer (SEO) Group plus several agricultural organizations.

Economic Analysis

An economic model based on the concepts of transaction costs and market power is used to analyze how the three alternative roles for the CWB in grain logistics would affect the degree of competition in grain handling and transportation, and how this would influence the basis charged to producers.

Synthesis of the Alternatives

The findings of the first three components of the study are synthesized to provide an assessment of the likely effects of each of the options in terms of efficiency, accountability, competitive relationships and equitable delivery opportunities as compared to the current system. Key findings are summarized, as are some suggestions for other options.

Observations, Findings and Conclusions

Below are summarized a number of general observations, key findings, and conclusions from the study.

General Observations

1. In reviewing the role of the CWB in grain logistics it is important to separate philosophical issues relating to the role of the CWB in grain marketing from issues relating to its role in grain logistics. This report focuses on the latter.

2. The changing demand and composition of the end use customers for prairie grains places, and will continue to place, greater pressure for a grain logistics system that gets the right grain to the right place at the right time. This will require a greater degree of cooperation and understanding among system participants than is sometimes currently the case.

3. Current owners of the primary elevator system, along with several new participants, are in the process of renewing the system. System renewal consists of fewer, but larger, high throughput elevators with cleaning and blending capabilities. Grain companies are investing millions of dollars in this process and, consequently, want greater control of their assets in order to maximize efficiency and throughput in the collection and shipping of all grain, including CWB grain.

4. Although there is a wide range of legislative authority relating to grain handling and transportation under the Canada Grain Act, the Canadian Wheat Board Act, and the Canada Transportation Act, not all of the provisions of these Acts are used. This has significant implications for the degree of confidence felt by system participants as they conduct their business and make investment decisions. Many aspects of the car allocation system have evolved through general industry agreement and convention, rather than through regulation or formal contracts. This situation creates an atmosphere of uncertainty that is not conducive to a smoothly functioning system.

5. A major issue from the producers' perspective is the sharing of benefits from efficiency gains. Given that the producer pays all the costs associated with the production, marketing, and logistics of grain, equity suggests the producer should also benefit from cost reductions brought about by system improvements. Although this principle is generally espoused by system participants, there is some question as to how much it is practiced.

6. The port buying and on-farm option are both contingent on the assumption that all parties would be willing to enter into service contracts. Whether the railways would be willing to enter into such agreements under the current regulated rate structure is not certain. This then would affect whether the accountability of the railways would significantly increase.

7. There are two important factors to consider here regarding the negotiating position of the CWB under any option that removes it from the transportation logistics chain. The first consideration is that if certain grain companies were able to reserve a large proportion of the railway capacity, then the CWB would be in a fairly weak bargaining position for both the on-farm option and the port buying option. If capacity is not an issue then the reverse is true and the CWB would have the negotiating advantage. The second consideration is that if, in the on-farm option, the CWB was trying to move its grain from an area served by only one grain company, their negotiating position for handling services would again be weakened.

Key Findings and Conclusions

Concerns with the current system, in terms of the criteria used in this study, are summarized in Table ESI (located at the end of the executive summary). This process of evaluating the current system and the three options has provided some important insights into making the system perform better. These are summarized by the criteria used in this study.

Efficiency

1. Grain delivered to the primary and terminal elevators without a market for that grain ties up valuable handling capacity. From a logistics standpoint the grain should remain on the farm until a sale is anticipated at port position. Forward planning of the logistics function and car allocation are hampered by the lack of information on the quality of on-farm stocks and the lack of commitment by producers to deliver to a particular facility. Perhaps producers could contract with specific grain companies well in advance of delivery dates. If this was done, it could provide a mechanism for car allocation to grain companies on the basis of delivery contracts rather than past shipments.

2. Managing price, quantity, and quality risk is an important yet costly activity. Price pooling and initial prices protect grain companies from price risk between the time the grain is purchased from producers and when the companies eventually deliver the product to terminal position. A port buying system where grain companies tendered for CWB sales would result in price variation at port. Increased system efficiencies could offset some or all of these price risks, provided that efficiency gains are shared. The price risk attached to these price variations would increase costs for grain companies; these costs would likely be passed on to producers through a higher basis.

3. Each of the options examined, particularly the port buyer option, would give the grain companies more control over the use of their assets. The added flexibility in car allocation for all three options should lead to a reduction in the operating costs at primary elevation, as more grain is handled by high throughput facilities. This consolidation of the grain handling system should also reduce the operating costs of the railways. However, producer delivery costs, as well as road costs, will tend to increase as the system consolidates to fewer delivery points.

Accountability

4. All participants raised the issue of inadequate accountability. A greater use of bilateral contracts with enforced financial penalties would enhance accountability. If contracts are to be enforced there is a need for a timely contract dispute resolution. Public institutions such as the Canadian Grain Commission play an important role in contract dispute resolution. Using the share of car allocation as rewards and penalties may be less effective than financial penalties in achieving accountability.

5. With capped freight rates, the railways may be reluctant to agree to contracts with penalties for under performance. As a result, if financial penalties for poor rail service are to exist, they may have to be imposed by statute.

6. There is a trade-off between accountability and efficiency. If improved accountability increases the financial risk of a participant, this risk will be reflected in an increased charge for services. Some of the cost of this financial risk may be offset through increased system efficiency, provided that efficiency gains are shared.

Competitive Relationships

7. The railways potentially have a great deal of market power. If freight rates were deregulated, this market power is likely to result in higher freight rates at the expense of producers and grain companies.

8. With the current capped freight rates, cost savings of the railways have not been, nor are they likely to be, reflected in reduced rail rates.

9. A port buying system would be a more commercial system than the other options, but it would not represent a competitive market. The CWB would be the single buyer of grain. The sellers would be made up of a small number of grain companies which at times will hold a very large percentage of the available stocks or the available shipping capacity for specific grades of grain. The prices in this market would be difficult to predict, thus creating price risk for the participants.

10. Increasing the flexibility for grain companies to allocate cars increases the degree of primary and terminal competition. This was true for each of the alternatives considered, but would vary among options.

11. The current system of car allocation is based on past shipments and current commercial stocks and does not reflect the quantities available on-farm for delivery. This approach to allocation reduces the degree of competition between grain companies by making market share more rigid.

Equitable Delivery Opportunities

12. Equitable delivery opportunities often conflicts with other measures of system performance. Annual price pooling reduces financial risk associated with uncertain delivery dates. A system where storage was paid to producers for contracted grains, as is currently done for malting barley, would further reduce the financial risk associated with uncertain delivery dates.

General Comments on the Options

Given the qualitative nature of the assessment of the options against the four criteria used, it is difficult to draw an overall conclusion as to which is the "best" option. Depending on the weighting that is put on each criterion, the conclusions would vary widely. Table ES2 summarizes the ability of each participant to meet their objectives under each of the options. The interpretation of this table requires a detailed reading of Section 7.2 in the main report.

The range of views from industry participants varied widely on the current system and options. When these are coupled with the results of the economic analysis, it is not surprising that one could easily draw the conclusion that the current system does not work, nor are there any workable alternatives! In reality, there are some advantages and disadvantages to each of the options, although there is no total unanimity on these.

The port buyer option is seen by many system participants as leading to a more efficient and responsive grain logistics system, with more contractual accountability and more control by grain companies and railways over their assets and operations. Concerns about this option center around greater price and basis risks for producers, especially the operation of an initial price system, and a decrease in competition in the grain logistics system.

The on-farm buyer option would provide a greater degree of market power for producers in dealing with grain companies and railways, and a better information system for the CWB for managing the logistics of grain movement to meet market requirements. There were, however, very strong views by all grain companies and both railways, and most producers that this option would lead to a "bureaucratic nightmare," with higher administrative costs that would more than offset any economic advantages from this option. The loss of "interface" between producers and grain companies would be a significant disadvantage from a business perspective.

The zone allocation option provides greater flexibility to the grain companies and railways without disadvantaging producers. However, it is generally seen as not going far enough for most system participants.

It was not the intent of this study to identify the "best" option; rather the intent was to provide a preliminary evaluation of the options, as identified here, and what some of the impacts might be. Because each of the options evaluated in the report have significant weaknesses when assessed using the criteria of efficiency, accountability, competitiveness and equity, three modified versions of the port buyer option are briefly presented and evaluated in Section 7.4 of the report.

The next logical step is to take the findings of this study (and other similar studies) as a basis for further discussion and negotiation among system participants. Clearly, a detailed discussion of the operational implications of the options included here was beyond the scope of this study. Participants in the grain logistics system have risen to challenges in the past; we are confident that they can do so in the future.

To receive a hard copy of this report or for additional information, please contact:

Denis Tully (tullyd@agr.gc.ca),
Chief, Policy Analysis
500-303 Main Street; Winnipeg, Manitoba; Canada R3C 3G7
Telephone: 204-983-0569; Fax: 204-983-5300