(FORTUNE Magazine) – FROM THE BLACK coal trains sliding like pythons through the Appalachian foothills to double-stack convoys speeding just-in-time cargoes from Chicago to Los Angeles, America's railroads are bound for new glory. Railcars are already filling up with containers of manufactured goods that used to ride on trucks. By late summer the U.S. government will impose a new labor contract that for the first time will allow the railroads to prune a thicket of rigid work rules as outdated as a fireman's shovel. ''If we get a break on costs and work rules, we can compete strongly with trucks,'' says John Snow, chief executive of the largest U.S. railroad, CSX. ''Rail will be the way to go in the 1990s.'' How much stronger the rails get depends on which breaks Congress gives them. The stock market seems almost as optimistic as Snow. This year the share prices of America's six largest railroads have risen 15.7%, vs. 12.7% for Standard & Poor's 500 index. At worst, the new contract will make them leaner and tougher. At best, it could give them a spectacular boost in horsepower -- and, not incidentally, lift the competitiveness of American industry. Snow reckons that the hoary labor practices cost about $2 billion a year, 1% of the $200 billion companies spend on intercity transportation. Rail's long, bumpy comeback began in 1981, when sweeping deregulation scrapped the old system of fixed rates, allowing railroads -- and trucks -- to freely negotiate tariffs with their big customers. Until recently the benefits went mainly to the truckers. In the early to middle 1980s, thousands of low- cost, non-union trucking companies flooded the market. The railroads survived on such staple businesses as coal, grain, and chemicals. But the prize was the fast-growing market where rail and truck compete cowcatcher to bumper -- shipments of manufactured goods on long hauls, typically 700 miles or more. The railroads lost. Between 1980 and 1989 trucks virtually cornered the $60 billion increase in the intercity freight business, raising their revenues 60%, to $150 billion. By contrast, rail revenues rose a piddling 6%, to $30 billion. Still, the railroads were not napping. Despite a 35% decline in revenue per ton-mile, the industry over the past decade has lifted its operating income about 20% to $2.5 billion in 1990. The gains came from higher productivity. Railroads now transport the same volume of freight with far fewer workers, switching yards, railcars, and miles of track. The seven largest railroads -- CSX, Union Pacific, Burlington Northern, Norfolk Southern, Conrail, Santa Fe, and Southern Pacific -- have cut their trackage almost one-quarter to 124,000 miles since 1981, chiefly by selling parts to low-cost, non-union shortline railroads. The sales generated big savings by cutting thousands of expensive railcars and workers needed to shuttle small shipments to sleepy country towns. Thanks both to such sales and to new computer routing systems, the railroads get far more work out of every car. That's helped trim the fleet 27% since 1980, reducing expenses by $400 million a year. Nevertheless, the fat still bulges where it hurts most: labor costs. At $56,000 a year, including fringe benefits, heavily unionized railroad employees earn more on average than those of any other industry except stock brokerage, oil, and investment banking. For train crews, typically an engineer, a conductor, and one or two brakemen, a workday is a 108-mile trip. That's a relic of the 19th century, when trains averaged less than 15 miles per hour. Today even heavy coal trains travel almost three times that fast. In an eight-hour workday, the average train makes several stops and still covers 175 miles. The antiquated system forces the railroads to pay the official daily rate for a real day's work -- plus a 70% premium for the extra miles. FOR FAST TRAINS on long routes, the premium can be far higher. On the 320- mile run from Chicago to Columbus, Ohio, for example, CSX pays crew members $310 to $340 each, about three days' pay, for a ten-hour trip. Conductors on that route can earn $50,000 a year in base pay for working 16 days a month. / Benefits are also way out of line with those of most businesses. For every dollar in wages, railroads pay 40 cents in Social Security, pension contributions, health insurance, and other fringe benefits, compared with 30 cents in the steel industry. Trucking employees, in contrast, earn $30,000 a year on average, including modest benefits of just 15 cents for each dollar in wages. Featherbedding is rampant. Typically, railroads operate with three- or four- man crews (and sometimes five). Owing to a special agreement with the unions dating from the early 1980s, the fourth man -- the second brakeman -- is gradually disappearing through attrition and buyouts. But the third man on most trains, the brakeman, usually isn't needed either. His major job, manually switching tracks, is now mostly automated. Yet the industry is stuck with 22,000 brakemen it doesn't need. Railroads have made considerable headway against overmanning -- at a price. Since 1980 close to one in two jobs has disappeared. The rub is that in exchange for phasing out the second brakeman, the railroads pay a premium to the three remaining crew members. Santa Fe is giving more than 1,000 conductors, brakemen, and yard crew members $75,000 each to leave the company. Forced to pay dearly for productivity, the railroads have cut labor costs just 23% since 1980, far less than the 44% fall in workers. Finally, Congress is starting to brake labor's gravy train. The blueprint for change is a set of recommendations presented to Congress by the Presidential Emergency Board, a commission set up to study the dispute over a new labor agreement. After a brief strike in April, Congress gave an arbitration panel the power to impose a new contract on the industry, and instructed the panel to follow the PEB's proposals closely. Though not a total breakthrough, the proposed changes would lighten the labor burden. The PEB recommends annual wage increases of 3.2% a year through 1995, half the rate in the 1980s, as well as cuts in fringe benefits. The ceiling for a day's work would rise from 108 to 130 miles by 1995. The PEB also calls for more flexible work rules. Train crews could do limited assembling of trains in the rail yards, instead of turning all of that work over to specialized yard crews. Track maintenance workers, who report to a central office every morning, could go directly to the work site, saving one to two hours per person a day. THE ARBITRATION PANEL is all but certain to approve the PEB's pay package and work rule changes. The outlook is less sure for the most important proposal, a radical new approach to fixing crew size. Eliminating the brakeman would save $600 million a year. But the industry's hands are tied. In the union agreements that phased out second brakemen, it promised not to meddle further with crew size until well into the 21st century. The PEB proposes to reopen the issue of crew size through local arbitration panels in some 30 major union districts. The uncertainty is twofold. Heavy union lobbying may push the national arbitration panel to kill the proposal. If the new procedure is adopted, it's hard to predict how many local panels will allow companies to eliminate brakemen, and on what terms. Nonetheless, it seems likely that large numbers of brakemen would depart -- at far less cost than if the companies had to buy their way out of the moratorium by negotiating a special deal. ''We still need more reductions,'' says James Hagen, chief executive of Conrail, ''but the PEB proposals would help us attain nimble, flexible service.'' Meantime the railroads are starting to generate fresh freight, both in bulk commodities and in manufactured goods. Michael Lloyd, a security analyst at Salomon Brothers, predicts that traffic will grow almost 30% by the year 2000. Coal, which accounts for 43% of all rail cargo in volume, will continue to be the big breadwinner. Exports should boom in the 1990s as European governments cut subsidies to domestic producers. At home, increasingly stringent environmental rules are shifting production from high-sulfur mines in Ohio and Illinois to low-sulfur fields in the West. The Burlington Northern and Chicago Northwestern railroads do a thriving business hauling Wyoming coal to electric utilities in the East and Midwest. The new frontier, however, is intermodal traffic that is capturing manufactured goods from trucks. Intermodal links truck and rail in a single package, combining the door-to-door convenience with long-haul efficiency. Trucks take containers or trailers from a factory or warehouse to a rail hub like Chicago. The freight makes the trip by train to, say, Los Angeles, where a waiting truck rushes the cargo to its destination. Since 1986, railroads' intermodal revenues have climbed 35% to $6.5 billion. Manalytics, a San Francisco consulting firm, projects that railroads could win $10 billion more in long-haul freight by 2000 -- 25% of the market. The fastest growth is coming in containers imported by ship or traveling / between U.S. warehouses and factories. The revolution began in 1984, when railroads first introduced special cars that carried two 40-foot-long containers stacked one atop the other. In 1988 the cars were expanded to handle 48-foot containers. The ''double-stackers'' transformed the market in a flash by making rail far cheaper than trucks for long-haul traffic. Today an intermodal train nearly 17 football fields long carries 200 containers, vs. half as many a few years ago. Despite the cargo's extra weight, a double-stack train uses 20% less fuel than earlier intermodal trains; riding just a few inches above the roadbed, the cars reduce wind resistance. The trains also carry more freight with the same number of crewmen -- sometimes far fewer. Many railroads have made special agreements with their unions for intermodal trains. In 1985 it took 17 five-man crews who climbed on and off the train at 16 stops to run the Santa Fe's intermodal train from Chicago to Los Angeles. Soon the same trains will make the trip with just seven two-man crews, reducing the labor costs per trip from $19,000 to $8,400. Sending a container from Chicago to Los Angeles now costs a shipper $1,200 by rail, vs. about $1,800 by truck. THE TRADE-OFF is service. Long-haul trucks still offer more frequent departures and deliver the goods on time more consistently. Intermodal is also less direct. To eliminate stops and speed up trains, the railroads have increasingly moved to a hub-and-spoke network, reducing the number of cities offering double-stack service from 50 to about 30 since 1985. If the pickup point and destination are close to the hubs, the trains can deliver just as fast as long-haul trucks. But that isn't always the case. To serve General Electric's appliance division in Louisville, Kentucky, Santa Fe's intermodal branch trucks trailers 300 miles to Chicago to connect with trains to Los Angeles. Delivery takes four to five days, vs. three days for direct truck service from Louisville to Los Angeles. ''In effect, the goods spend one to two days more in inventory,'' says Douglas Youngblood, GE's transportation manager for appliances.

To win more long-haul freight, the railroads need to keep cutting costs and improving service. Stiffer competition is looming as truckers lobby to run their own trains on highways -- double 48-foot trailers and triple 28-foot rigs. The new labor contract will help railroads keep their edge, especially if they gain more freedom to reduce crews. Lower costs would make the railroads far more competitive on runs between 500 and 800 miles, where trains still can't set low enough prices to compensate for slightly slower service. ''We'd be offering double-stack service on routes like Chicago to Denver,'' says John Philp, head of intermodal for Union Pacific. ''Every year our costs force us to turn down lots of intermodal business.'' The railroads are also trying to coddle customers like a steward on the old Twentieth Century. One stratagem is to build longer, more efficient ''spokes'' around hubs with trucking fleets that carry freight to and from secondary cities. To provide seamless, one-stop service, practically all the railroads are forming close links with truckers. Santa Fe, for example, operates a joint venture with J.B. Hunt, an Arkansas trucker. With sophisticated software, the companies mesh their schedules and give the shipper a single bill. The smoother service is winning praise -- and orders -- from consumer goods companies and automakers once fed up with rail. The combination of new technology and focus on the customer is potent. Case in point: Ford Motor has increased the share of its transportation spending that goes to rail from 55% to 65%, or $100 million a year, since the early 1980s. Ford's new $900 million plant in Hermosillo, Mexico, receives auto parts from Detroit and sends out finished Escorts to dealers across the U.S. exclusively by intermodal rail. ''In the past our shipments went out at the railroads' convenience,'' says Charles Wilkins, Ford's director of transportation and traffic. ''Now if a train should be late, they send the goods directly by truck.'' Who would have thought that the former archenemies rail and truck could form a winning relay team?

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