Uphill Ride For Canadian Pacific-Norfolk Southern Deal

   (FROM THE WALL STREET JOURNAL 11/27/15) 
   By Ronald Barusch 

Before it can get on the rails, Canadian Pacific Railway Ltd.'s proposed acquisition of Norfolk Southern Corp. has some difficult terrain to traverse.

Norfolk Southern hasn't formally responded to CP's bid, but it has pledged to evaluate the offer. Yet even while making that pledge, Norfolk Southern last week called the bid "unsolicited, low-premium, nonbinding and highly conditional" -- all buzzwords indicating an aggressive takeover defense is in the offing. Should CP choose to proceed with a hostile deal, getting regulatory approval could pose extraordinary challenges.

Unlike most other U.S. deals in which the primary regulatory issue tends to be the effect on competition, a proposed merger of CP and Norfolk Southern would be considered by the U.S. Surface Transportation Board, which is required to determine if the deal is "consistent with the public interest."

The law requires the board to consider factors in addition to competition, including the effect on transportation, the interests of employees and whether other railroads should be included in the deal. The public interest review by the board can extend over many months. One competing railroad, Union Pacific Corp., has already indicated it generally opposes rail-industry mergers. Union Pacific said "the regulatory hurdles for future consolidation would be significant." Even CP's proposal letter to Norfolk Southern assumed the closing would occur on Dec. 31, 2017.

If the Norfolk board opposes the deal, it could delay the regulatory process and increase the risk approval may not ultimately be obtained on acceptable terms.

CP Chief Executive Hunter Harrison has indicated he has a solution: placing one of the railroads in a voting trust. With such a structure, the business of the railroad in question would be controlled by an independent trustee. The closing of the deal as far as the Norfolk Southern shareholders are concerned would come at a relatively early date. The two railroads would be run separately until whatever the board ultimately determines is implemented.

The use of this type of voting trust to allow early closings of deals has a long history. But CP could face some challenges in implementing it now.

To implement a voting trust requires formal approval by the surface board following public comment.

We don't know how long the trust approval process would take because it doesn't appear that there has been a proceeding relating to a major transaction since the current rules were put in place more than a decade ago.

Also, it appears Mr. Harrison is considering putting CP into the trust and immediately becoming CEO of Norfolk Southern. That structure would be unusual because generally the target railroad goes into the trust. Mr. Harrison was involved in another transaction in which it was tried, but that deal wasn't completed. It is hard to figure out how, if Mr. Harrison immediately began running Norfolk Southern and CP went into a trust, the eggs could be unscrambled if the board didn't approve the merger.

There could be another issue with the interim trust structure. In its proposal letter, CP calculated the value of the shares of the combined company. Using that calculation, the shares to be received by Norfolk Southern holders would constitute about two-thirds of the value received by them. If CP proposes a transaction in which one of the companies remains in limbo for a time, that could make it difficult for Norfolk Southern's board to value a significant part of the consideration. And that could add to the difficulty for CP of getting a friendly deal.

Of course even if directors of Norfolk Southern don't warm to the deal, it is possible a Norfolk Southern shareholder or even CP could seek to elect new directors at next year's Norfolk Southern annual meeting.

In an email, a spokesman for CP said the company believes the deal would bolster competition and it would satisfy any concerns from regulators.

Given that in heavily regulated industries like railroads, enthusiastic support of a target is an important element in facilitating a takeover, CP has its work cut out.

---

Mr. Barusch is a retired mergers and acquisitions lawyer who writes about deal making for the Journal's MoneyBeat blog at wsj.com/moneybeat.

Subscribe to WSJ: http://online.wsj.com?mod=djnwires

(END) Dow Jones Newswires

November 27, 2015 02:47 ET (07:47 GMT)

Copyright (c) 2015 Dow Jones & Company, Inc.