For many of the nation's remaining railroads, selling off their short lines - the little lines that feed grain from rural Iowa or auto parts from Indiana into the nation's main rail arteries - has become a major way of revitalizing their operations while chopping labor costs.

It is on this premise that much of the success of the proposed $578 million buy-out of CNW Corp., parent of the Chicago & North Western Railway, depends.Until now, pruning short-line operations was a valid way for a railroad to do business, especially since most railroads could expect de facto approval of such moves from the Interstate Commerce Commission and rail workers had little say in the matter.

But a recent ruling of the federal district court in Pittsburgh, which said that railroad labor unions must be included in negotiations of the sale of short lines, has changed all that. It could even derail the CNW deal.

The case involves the sale of the ailing Pittsburgh & Lake Erie Railroad to Chicago West Pullman Transportation Corp., and it is now on appeal in the U.S. Court of Appeals in Philadelphia. The controversy casts doubt on the ability of all railroads to sell such assets.

Pittsburgh & Lake Erie is becoming a landmark case, said Edward Wytkind, a spokesman for the Railway Labor Executives' Association, which represents 17 rail unions. If the Pittsburgh & Lake Erie decision is upheld and if the new owners plan to short-line CNW, they're going to have one hell of a time.

After weeks of delay, the Securities and Exchange Commission finally returned the buy-out proxy statement with comments on Wednesday. CNW spokesman James Foote said the SEC's comments were not extensive and that with any luck shareholders should have received copies of the proxy by the end of last week.

With proxy in hand, CNW shareholders will be able to review details of the proposed deal that have not been disclosed yet and decide whether they like it. CNW officials, including Chairman James R. Wolfe, and the New York investment firm of Gibbons, Green, Van Amerongen, who are leading the buy-out, cannot discuss details of the sale until the proxy has been sent to shareholders.

Analysts following CNW say that the buy-out as presently constituted is by no means a done deal and that the Pittsburgh & Lake Erie case is one of the chief questions confronting shareholders and lenders financing the buy-out.

There's a 1-to-3 chance the deal goes through as currently proposed, said Jeffrey Perry, an analyst at C.J. Lawrence, Morgan Grenfell in New York. But there's also a 1-to-3 chance that it goes through but for a lower dollar amount and then a 1-to-3 chance the deal gets delayed and falls through.

Investors Gibbons, Green, Van Amerongen, along with the CNW management group led by Wolfe, propose to finance much of the acquisition with borrowed

funds - well over $300 million - and pay back the debt through unloading short lines. Obviously, the deal becomes less attractive if this mode of payback is curtailed.

According to the deal, Gibbons, Green investors would make a $60 million equity investment for a 57.5 percent interest in a new CNW holding company, and CNW management would invest about $7.5 million for a 7.2 percent interest. Public shareholders would end up with a 35.3 percent minority interest.

The $31-a-share payment to current shareholders would consist of $20 in cash, $9 in par amount of a 10-year, subordinated note of a successor holding company to CNW, and $2 in stock of the acquiring company.

This means that initially the new CNW would have more than $470 million in debt added to its current $800 million debt load.

They'll be up to their eyeballs in debt, said Henry Livingston, a New York-based analyst at Kidder, Peabody & Co.

However, CNW's Mr. Foote said as the deal is constituted CNW will not end up with any major amount of additional debt because it will have been paid off

from short-line sales. This is why the Pittsburgh & Lake Erie case is crucial to CNW's fate.

The reason even a marginal short-line operation may lure a buyer is that a new owner doesn't have to honor any of the short line's existing labor contracts since the Interstate Commerce Commission approval doesn't include the imposition of traditional job-protection guarantees.

Considering that labor amounts to more than 50 percent of CNW's costs, it's not hard to see what wonders eliminating some workers can do for a line's profits. In the case of Pittsburgh & Lake Erie, the purchasers planned to cut the line's 750 employees by two-thirds.

CNW, for its part, contends that the ICC, which has in the past taken a passive role regarding labor issues involved in the sale of short lines, has exclusive jurisdiction over labor issues arising out of the formation of short-line railroads. The firm recently received a decision from the

commission affirming that role.

Also, John Riley, administrator of the Federal Railroad Administration, told Iowa officials, concerned that the buy-out would harm Chicago & North Western's 2,000-mile service there, that his agency is powerless to block the proposed buy-out.