Mr. ROONEY. Thank you. Without objection, your statement will become part of the record [see p. 6].

Mr. HAGEN. The amendment under consideration would authorize appropriations of $20 million for the period May 1, 1976, through September 30, 1977. This $20 million would be in addition to the $45.8 million already authorized and appropriated for USRA administrative expenses, thus bringing the total amount authorized to $65.8 million.

USRA currently has pending in the Congress a supplemental appropriation of $6.7 million to cover the period from May through September. Just prior to the Easter recess, the House approved $6 million of this request as part of the second supplemental. This supplemental appropriation will be charged against the $20 million authorization now under consideration and would leave $14 million authorized for fiscal year 1977, assuming the Senate does not restore our full request of $6.7 million.

Let me now turn to the developments that have caused us to utilize a substantial portion of the authorization already enacted and to forecast requirements that make a significant increase in the authorization for administrative expenses necessary at this time.

The events that have caused substantial revision of our administrative expense budget are: (1) the necessity to develop detailed plans and estimates for a unified Con Rail structure; (2) an increase

our Con Rail monitoring requirements added by the Railroad Revitalization and Regulatory Reform Act; and (3) a more complete definition of the legal and economic research and staff work required to defend the reorganization of the bankrupt railroads in the courts. I would like to discuss each of these in some detail.

On unified Con Rail, until a short time ago, USRA's planning effort focused primarily on the Con Rail structure that would have existed had Chessie and Southern participated.

Since mid-February the Association has been in the process of a substantial and complicated refinement of operating and financial plans for a unified Con Rail as it is now defined. Contractors have been asked to review certain studies using the new structure, and we are programing new data into the operational and financial models used to predict Con Rail's activity and profitability.

We are in the process of producing new projections of traffic, operating expense, revenue, and capital expenditures.

In the area of new legislation this committee has worked long and hard to bring about the enactment of the Railroad Revitalization and Regulatory Reform Act of 1976. As part of this legislation you prescribed in some detail the process by which Con Rail would receive $2.1 billion in Federal funds over a 5-year period. With the legislation for policy guidance USRA has negotiated a financing agreement with Con Rail. Under its terms the Association must conduct a quarterly review of Con Rail's compliance with covenants in the agreement concerning performance, reporting, financial management, and recordkeeping.

A review of the operating results and an assessment of Con Rail's ability to become financially self-sustaining will also be accomplished each quarter. Con Rail will be required to furnish USRA each year with a reasonably detailed business plan covering the following 5 years.

The new legislation substantially modifies USRA's authority under section 211 of the original Regional Rail Reorganization Act. As revised, this section provides $230 million in loan authority under subsection 211 (h) which will be used to make loans for the payment of certain preconveyance obligations of the bankrupt estates so that the startup of Con Rail will not be disrupted.

To administer section 211 (h) of the new act, USRA must identify current assets and cash available in the estates for postconveyance payments of obligations incurred prior to conveyance.

Con Rail will receive loans from USRA and make payments to claimants under criteria and procedures provided by USRA. The borrower will then have a direct claim against the estate for each bill paid plus interest and will collect funds to repay the USRA loan.

Under litigation, not until January did our overall assessment of the complex issues involved in defense of the FSP reach a point where it was possible to define, in terms of specific tasks, the type of supporting information required from the various parts of USRA. The Association is the principal party in one of the largest, most complex and important legal controversies involving the valuation of property and potential government financial responsibility ever to come before the courts.

We are very concerned since an unsuccessful outcome of this litigation could entail the substantial expenditure of public funds beyond those contemplated in the FSP and the Regional Rail Reorganization Act.

One critical element in the Government's financial exposure resulting from the reorganization will be the values finally assigned to the properties acquired by ConRail. The new legislation assigns responsibility for determining these values to the special court. The certificates of value distributed to the estates and guaranteed by the Federal Government will have a value that is based on the court's determination of net liquidation value.

The trustees of the Penn Central have asserted that their rail properties have a value in excess of $7 billion. The Association, on the other hand, has valued all of the bankrupt estates at less than $690 million. Thus the area for dispute before the court is very broad.

The valuation process that was used in developing the Association's certification to the special court must be augmented substantially. It will now be necessary for the Association to undertake onsite review of the system to verify inventories and develop the documentation for the litigation process.

In order for USRA to defend the fairness and equity of the compensation offered for the transferred property, we will need to be able to defend, revise, and update the earnings projections of Con Rail. That is because Con Rail earnings will essentially determine the value of the Con Rail securities.

The new authorization we are requesting is needed essentially so that administrative expense funds can be appropriated for fiscal year 1977. We are estimating that appropriations required for fiscal year 1977 will be $12.1 million. In terms of the program areas I have just been discussing, the $12.1 million breaks down as follows: $300,000 for completing financial and operational detail for unified Con Rail; $2 million for monitoring Con Rail, including the windup of the section 211(h) loan program; and $9.8 million to prepare for legal defense of the reorganization.

71-072 O-76-2

I would like to insert in the record at this point a table that lays out the funds for the three major tasks by organizational unit. I would also like to insert in the record our budget justifications for the pending supplemental of $6.7 million and for the fiscal year 1977 appropriation request of $12.1 million.

Mr. ROONEY. Without objection [see p. 9].

Mr. HAGEN. Mr. Chairman, that completes my statemet. We will be happy to answer any questions you may have. [Testimony resumes on p. 19.]

[Mr. Hagen's prepared statement and attachments follow:]

STATEMENT OF JAMES A. HAGEN, PRESIDENT, UNITED STATES RAILWAY ASSOCIATION

Mr. Chairman and Members of the Committee: We appreciate very much the invitation to appear before this Committee in support of an increase in the authorization for administrative expense appropriations for the United States Railway Association.

The amendment under consideration would authorize appropriations of $20 million for the period May 1, 1976 through September 30, 1977. This $20 million would be in addition to the $45.8 million already authorized and appropriated for USRA administrative expenses, and thus bring the total amount authorized to $65.8 million. This total represents an increase, however, of only $11.8 million over the amount currently authorized.

The existing authorization totals $54 million. Forty million dollars was appropriated to and obligated by USRA before the end of March. The authorization was increased from $40 million to $54 million early this calendar year. The Congress appropriated $5.8 million of the $14 million increase when it enacted H.J. Res. 801 at the end of March.

USRA currently has pending in the Congress a supplemental appropriation of $6.7 million to cover the period from May through September. Just prior to the Easter recess, the House approved $6 million of this request as part of the Second Supplemental. This supplemental appropriation would be charged against the $20 million authorization now under consideration, and would leave $14 million authorized for fiscal year 1977, assuming the Senate does not restore our request of $6.7 million.

Let me turn now to the developments that have caused us to utilize a substantial portion of the authorizations already enacted and to forecast requirements that make a significant increase in the authorization for administrative expenses necessary at this time.

The events that have caused substantial revision of our administrative expense budget are: (1) the necessity to develop detailed plans and estimates for a Unified Con Rail structure; (2) the increase in our Con Rail monitoring requirements added by the Railroad Revitalization and Regulatory Reform Act; and (3) a more complete definition of the legal and economic research and staff work required to defend the reorganization of the bankrupt railroads in the courts. I would like to discuss each of these developments in some detail.

UNIFIED CONRAIL

USRA's financial planning effort focused primarily on the Con Rail structure that would have existed had Chessie and Southern participated. After the withdrawal of the Chessie System and the Southern Railway from major participation in the restructuring process, the USRA began the implementation of the alternative structure presented in the Final System Plan, a structure which we call Unified Con Rail. While the failure of these two carriers to participate accounted for most of the change from the structure originally recommended, there have been several other significant shifts. The Ann Arbor Railroad was purchased by the State of Michigan and is not part of Con Rail. The Delaware and Hudson Railway has expanded its operations to Buffalo, Harrisburg and Philadelphia. Since mid-February the Association has been in the process of a substantial and complicated refinement of operating and financial plans for a Unified Con Rail as it is now defined. Contractors have been asked to revise certain studies using the new structure and we are programming new data into the operational and financial models used to predict Con Rail activity and profitability. We are in the process of producing new projections of traffic, operating expense, revenue, and capital investment.

The Association presented a brief overview of the financial performance, operating plan and rehabilitation program for Unified Con Rail in the Supplemental Report to the Final System Plan which was issued last September. Detailed plans must now be prepared for the flow of traffic over the revised structure which differs somewhat from that originally anticipated for Unified Contrail This requires some revision of plans for blocking and scheduling, utilization of rolling stock, and maintenance and rehabilitation of plant and equipment. Such changes may be quite significant for individual properties although less significant for the system as a whole.

NEW LEGISLATION

This Committee worked long and hard to bring about the enactment of the Railroad Revitalization and Regulatory Reform Act of 1976. As part of that legislation you prescribed in some detail the process by which Con Rail would receive some $2.1 billion in Federal funds over a five year period. With the legislation for policy guidance, USRA has negotiated a financing agreement with ConRail. Under its terms, the Association's Board of Directors must make determinations each quarter concerning the amount of USRA's investment in Con Rail securities for that quarter year. This will require a quarterly review of Con Rail's compliance with covenants concerning performance, reporting, financial management, and recordkeeping. A review of operating results and an assessment of Con Rail's ability to become financially self-sustaining will also be accomplished each quarter. Con Rail will be required to furnish USRA each year with a business plan covering the following five years. This plan will include detailed operating, marketing, maintenance, rehabilitation, capital, and financial programs; a statement of maintenance and rehabilitation goals; and an analysis comparing these goals to the maintenance and rehabilitation program set forth in the Final System Plan. These mechanisms are designed to give USRA adequate controls to assure that the government's investment in Con Rail is utilized for the purposes intended and will, in fact, establish a profitable, private sector railroad.

The new legislation substantially modifies USRA's authority under Section 211 of the original Regional Rail Reorganization Act. As revised, this Section provides $230 million in loan authority under Subsection 211(h) which will be used to make loans for the payment of certain pre-conveyance obligations of the bankrupt estates so that the start-up of Con Rail will not be disrupted.

To administer Section 211(h) of the new Act USRA must identify current assets and cash available in the estates for post conveyance payments of obligations incurred prior to conveyance. This type of information is essential if USŘA is to assure that Section 211(h) loan funds are used only when necessary and only for eligible expenses. Con Rail will receive loans from USRA and make payments to claimants under criteria and procedures provided by USRA.

The borrower will then have a direct claim against the estate for each bill paid plus interest and will collect funds to repay the USRA loan. If Con Rail (or any other borrower) cannot collect, then based on findings by the Finance Committee which are specified in the legislation, USRA can_release_Con Rail from the loan and attempt to collect directly from the estate. The USRA claim would be prior to all other administrative claims against the estate.

USRA will require assistance from outside contractors in administering this complex program with its very significant economic consequences. Additional resources will be required to review working capital accounts of the estates, prepare criteria and procedures, monitor the actions of the borrowers and take action where required to recover the amount of the loan plus interest.

The new law also provides authority for supplemental transactions to accomplish further restructuring of the railroads in the region.

This could entail a substantial workload but we have no way of estimating what is involved at this time. As experience is gained and as new information becomes available, presumably some additional determinations will be desirable to rationalize the rail system of the region. USRA has acquired the basic data base required for such determinations but some refinement and updating would be necessary when a specific proposal is under consideration.

There are a number of additional assignments for USRA in the new legislation, but we do not now expect these to generate a substantial workload. These include assistance to the Department of Transportation in negotiating initial operating and lease agreements on light density lines with regional, state or local transportation authorities; and consultation with the Department on the conversion of rail rights-of-way on discontined lines to other uses.

Finally, the new legislation specifies that USRA must report, annually, to the Congress on Con Rail's performance. This report must include an evaluation of

(1) Con Rail's performance in terms of the basic goals of the Regional Rail Reorganization Act; (2) any deviations from the financial projections in the FSP; (3) the amount and uses of Federal funds made available to ConRail; (4) projected financial needs and sources of funds for Con Rail; (5) the ability of Con Rail to become financially self-sustaining without requiring funds in excess of those authorized.

LITIGATION

Not until January did our overall assessment of the complex issues involved in defense of the FSP reach a point where it was possible to define, in terms of specific tasks, the type of supporting information required from the various parts of USRA. The Association is the principal party in one of the largest, most complex and important legal controversies involving the valuation of property and potential government financial responsibility ever to come before the courts. The legal theories and results of this case will figure significantly in the broad area of government assistance to financially threatened industries within the private enterprise system generally. Of course, an unsuccessful outcome of the litigation could entail the substantial expenditure of public funds beyond those contemplated in the FSP and the Regional Rail Reorganization Act.

The funds required by USRA for legal assistance are substantial, but should obviously be considered in relation to the enormous exposure of the government. It is also pertinent, however, to compare our outlays with the amounts being spent by the opposition. The estates and their creditors have claimed that the value of the rail properties being acquired is several billions of dollars (the amounts have ranged from $4 to $14 billion) and that Con Rail's earning potential is practically non-existent. More than 40 law firms have been retained by the estates and creditors to defend their interests in the reogranization. These include many of the largest and most experienced firms in the country each of which has numerous lawyers assigned to the litigation. We know that the hourly rates paid by the Association to outside counsel are no more than the lowest rates paid by railroads in reorganization. Major creditor interests, including some of the largest financial institutions in the nation pay rates in excess of those paid by the Association's fee schedules. It is therefore possible to estimate roughly what is being spent for legal counsel to oppose the reorganization. We believe that $25 million is a conservative estimate for fees being paid annually to law firms directly involved. Of course, substantially more than this amount would probably have to be spent in preparing supporting economic financial, and operational material needed by the attorneys to prepare their challenges.

One crucial element in the government's financial exposure resulting from the reorganization will be the values finally assigned to the properties acquired by Con Rail. The new legislation assigns responsibility for determining these values to the Special Court. The certificates of value distributed to the estates and guaranteed by the Federal government will have a value that is based on the court's determination of net liquidation value.

The Association will require the capacity to "fine tune" the FSP calculations of net liquidation value. For example, new methods of scrapping property and new evidence as to prices may have to be taken into account in the NLV analysis. We should expect the estates to present their own detailed NLV plans and the Association must be able to develop both factual and analytical responses.

The Association will also require the capacity to respond to other basic theories of physical value. For example, to the extent that transferors are held to be entitled to prove that their properties could be sold intact for some particular purpose, the Association will need to respond both on the question of the ability to sell for that purpose and on the question of values.

New studies will have to be initiated to answer questions raised in the Special Court. For instance, many of the 70 plus transferors are expected to maintain that as separate entities they could be "profitable" and therefore "net liquidation value" cannot be less than "going concern value." An operational and financial analysis of any such claims would then have to be made. Separate studies will almost certainly be needed of the trucking operations and the terminal subisdiaries to determine operating results for these entities under various assumptions of ownership and control.

The trustees of the Penn Central have asserted that their rail properties have a value in excess of $7 billion. The Association on the other hand has valued all of the bankrupt estates at less than $690 million. Thus the area for dispute before the court is very broad.

The complexity of the asset valuation task is immense. There are 48,000 miles of track, 400,000 acres, 185,000 pieces of rolling stock and about 4,000 buildings which must be inventoried and valued.