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CANADIAN
Pacific CEO Hunter Harrison and activist
investor Bill Ackman didn't expect so much
resistance to their proposed takeover of
Norfolk Southern, but some say they should
have know better.
That
is the view of Brooke Sutherland, writing
a Bloomberg Commentary of the railway deal
that never was is officially not happening.
Canadian Pacific, the US$21 billion railway
backed by Bill Ackman, finally called off
it pursuit after months of dogged wooing
of its American counterpart Norfolk Southern.
It's
a bit of a formality really after a series
of underwhelming and increasingly desperate-looking
bids elicited only a cold shoulder from
Norfolk Southern.
Canadian
Pacific had planned to submit a resolution
simply calling for "good-faith discussions"
at Norfolk Southern's annual meeting next
month, but even that looked like a moon-shot
endeavor because of huge doubts on whether
a deal for the $24 billion railroad could
get regulatory approval.
The
merger faced stiff antitrust scrutiny, but
there was also the matter of the voting
trust structure that Canadian Pacific wanted
to use as a way to get Norfolk Southern
holders their payout early and allow Canadian
Pacific CEO Hunter Harrison to take over.
After
months of dragging its heels and insisting
the odds were extremely low that the trust
structure would be rejected, Canadian Pacific
finally agreed to seek a declaratory order
on its feasibility from the Surface Transportation
Board.
That
in itself was a half-baked effort, but things
didn't even get that far because of the
barrage of letters the regulator received
from companies including FedEx and, more
recently, the US Army and Justice Department.
Said
Bill Baer, head of the Justice Department's
antitrust division: "Canadian Pacific's
voting trust proposal would compromise Norfolk
Southern's independence and effectively
combine the two railroads prior to completion
of the STB's review. That makes no sense.
We urge the STB to preserve its ability
to review the impact of the proposal on
competition and consumers before Canadian
Pacific starts scrambling the eggs."
Clearly,
Mr Harrison and Mr Ackman thought they could
get around the challenges they faced, but
they should have been better prepared. Rival
railways summarily dismissed the idea of
further consolidation as impossible when
Canadian Pacific previously tried to start
up talks with CSX in 2014.
The
political rhetoric was only going to be
more heightened in this tumultuous election
year. Perhaps the answer is they were running
out of better ideas.
Railroads
are grappling with paltry growth (and in
some cases revenue declines) as coal volumes
dissipate and the plunge in crude oil prices
reduces demand for rail shipments of the
fuel.
The
most obvious response to this environment
is to cut costs, but Harrison has already
done that at Canadian Pacific and to some
degree, risks becoming a victim of his own
success.
There's
just not as much room for improvement. Canadian
Pacific is targeting an operating ratio
of below 59 per cent in 2016. That's a 200
basis point drop from 2015 - impressive,
but smaller than in years past. Being an
excellently run company is never a bad thing,
but it makes it harder to satisfy investors'
insatiable desire for ever-rising profits.
A
deal with Norfolk Southern would have provided
ample cost-cutting opportunities, with Canadian
Pacific targeting more than $1.8 billion
in synergies, and a way to keep the earnings
growth going.
All
eyes will now be on what Mr Harrison and
Canadian Pacific plan to do next. The company
had also entertained the idea of re-engaging
with CSX on merger talks, though a deal
seems rather unlikely now given regulatory
opposition.
RBC
analysts point to "fast and furious"
share repurchases - the other kind of financial
engineering that can help fatten returns.
Shareholders for one seemed happy about
the prospect of Canadian Pacific focusing
on itself, sending the Canada-listed shares
up as much as 3.8 per cent.
It's
a good reminder that as badly as companies
want these transactions to happen, they
don't always get to the finish line. While
this railway mega-deal has arguably been
dead in the water for some time now, its
official demise comes just days after the
collapse of Pfizer's $160 billion combination
with Allergan, and also follows the big
regulatory blow dealt to Halliburton's planned
merger with Baker Hughes.
Looks
like the deal graveyard may be about to
get more crowded.
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