Shippers groups, Canadian railway CN (NYSE: CNI), Kansas City Southern (NYSE: KSU) and Canadian Pacific (NYSE: CP) have all been weighing in on whether the Surface Transportation Board (STB) should approve CN’s and Kansas City Southern’s (KCS) proposed voting trust.
CN and KCS have said they need regulatory approval from STB for the voting trust, which they said would insulate KCS from being taken over as the board goes through the merger proceedings.
Shippers groups concerned about market effects
But three shippers groups are contending that CN’s and KCS’ proposed voting trust isn’t in the public interest.
In a letter dated Monday to STB, the Freight Rail Customer Alliance, the National Coal Transportation Association and the Private Railcar Food and Beverage Association listed their reasons for why they believed that the merger isn’t in the public interest, including their opinion that the higher purchasing price that CN would pay for KCS could ultimately result in higher costs for shippers.
“A higher resulting purchase price is problematic in terms of the public interest because it translates into an increased acquisition premium. The burden of that premium falls on captive shippers in the form of increased URCS [uniform rail costing system] costs, increased asset investment base for determining revenue adequacy, increased R/VC [revenue-to-variable] ratios under the three-benchmark ratios, etc. Such burdens are not consistent with the public interest or enhancing competition,” the letter said.
It continued, “No regulatory acceptance of acquisition premiums is in the public interest in the first place and that removal of any acquisition premium is an appropriate condition for approval of the voting trust. It bears noting in that regard that all of these dollars are being spent for ownership of KCS shares, and none of the dollars represent additional investment in actual railroad operating assets.”
The shipper groups also expressed concern in their letter that a trustee would oversee KCS during the merger process because a trustee and trustee-led management wouldn’t have to be accountable to investment analysts and others, and that accountability is key as the railroads implement precision scheduled railroading.
“There should be some recognition that a KCS overseen by a trustee while the merger remains pending is not the same thing as a KCS that is accountable to shareholders and the board of directors that they have elected,” the groups said in a statement.
The three shipper groups also said the letters submitted to the board supporting the trust should be given little weight because no application has been filed and so the proposed benefits appear premature.
The groups said they haven’t taken any position on the merits of a CN-KCS merger.
CN maintains confidence in its voting trust application
Meanwhile, CN believes it has addressed all the issues raised by STB over its initial application for the voting trust, including questions related to CN’s and KCS’ financial integrity, and the company remains confident that it is in a good position to receive regulatory approval.
“We’re confident in the effort we’re putting together,” said CN CEO JJ Ruest during a Tuesday investor conference sponsored by UBS.
Ruest said even though CN is financially a larger company than CP, which had also sought to acquire KCS, the U.S. operations of a combined CN and KCS would be the fifth smallest. Union Pacific (NYSE: UNP) and BNSF (NYSE: BRK.B) have considerably larger footprints in the western U.S., he said.
“Customers are not really asking, ‘Are you a big railroad or a small railroad?’” Ruest said. Customers are mainly concerned about the quality and cost of rail service and they consider factors such as transit times and whether to go for a shorter route or a route that uses a combination of railroads, he said.
Ruest and KCS CEO Pat Ottensmeyer have stressed at recent investor conferences that the merger would increase competition because it would provide options for shippers that primarily use trucks for key cross-border routes, such as the I-35 corridor that runs from Laredo, Texas, to Duluth, Minnesota, cutting through the U.S. Midwest.
Should CN and KCS be allowed to merge, the combined company would be able to pool long-term capital investments toward bolstering capacity in the U.S. Midwest and other key routes, such as investments in equipment and terminal and yard capacity, as well as provide new service offerings for intermodal and food deliveries, said Ruest and Ottensmeyer last Thursday.
“We would want to make the best use of the asset as it is today, but doing that from the point of view of one operator, thinking how to create a customer experience that’s closer to what they need. And can we make that better than any other experience that they get today?” Ruest said at an investor conference sponsored by investment firm Bernstein.
CP skeptical of CN-KCS merger being in the public interest
CN’s plans to hold KCS in a voting trust for over three years will mean that shippers will lose competition for that entire period regardless of what regulatory outcome will occur, CP said in a May 27 statement.
“This goes directly to the concerns raised by the Department of Justice about incentives while in trust and, in our view, is inconsistent with the public interest,” CP said.
CP also said on Tuesday, “CP remains confident that the STB will ultimately reject CN’s proposal to use a voting trust. Allowing CN to close into trust would not be in the public interest because its approval would prejudge STB review, harm competition, risk CN shifting financial burdens to shippers and pave the way for additional U.S. rail consolidation. CN’s arguments in favor of a trust amount to the claim that CN and KCS should be able to decide what is in the public interest based on which railroad is offering more money to acquire KCS – that argument elevates private interests over the public interest.”
No precedent to follow for this type of merger: STB member
One of the many challenges that STB is facing in reviewing the proposed CN-KCS merger is that there is no precedent of how to handle a major merger under the newer rail merger guidelines, said STB member Patrick Fuchs at the Bernstein conference Tuesday.
Fuchs declined repeatedly to answer questions about the merger, but he said the board is generally informed by precedent, which in turn is guided by the board’s statutes and regulations. The board hasn’t had as much opportunity to be informed by precedents for significant and major transactions for mergers and acquisitions, he said.
Fuchs defined precedents as fact patterns that might arise from a type of proceeding, such as those pertaining to mergers, rate cases, competition cases or the discontinuation of lines.
In addition to precedent, the board is also mindful of how the decisions it makes now will influence future decisions, Fuchs said.
To provide clarity on how STB comes to its decisions, it summarizes the comments it receives from proceedings.
“The board takes into account all public comments and we are working extraordinarily hard to consider all the comments in the docket,” Fuchs said.
For its part, the board said Tuesday afternoon that CN and KCS must file additional financial documents by next Monday. Comments on CN’s and KCS’ motion to approve the voting trust agreements will be due on June 28, and CN’s and KCS’ replies will be due on July 6.
In response to this timeline, CP said, “We look forward to fully participating in this public interest review along with other concerned stakeholders from across the transportation supply chain. … The next 20 days, and the STB’s subsequent deliberations, will determine the course of competition for U.S. railroading and North American commerce for the next 150 years.”
Said CN of STB’s timeline: “We are happy with the timetable that the STB has set for reviewing our voting trust, marking another important step on the path to creating the premier railway for the 21st century. We look forward to the STB’s review and we are confident that our voting trust will be approved.”