Someone is going to emerge scarred from the bitter proxy fight between Canadian Pacific Railway management and activist investor William Ackman. Regardless of who wins, however, shippers and shareholders are likely to come out ahead.
Ackman has castigated the railroad for poor service as part of his campaign to install a slate of six directors and replace the railroads’ current executive with a former Canadian National Railway CEO. True or not, the allegations might have spurred the railroad to increase its capital spending and better explain how its most recent multiyear plan will be more successful than ones past.
As the May 17 proxy vote nears, Ackman, who has promised a “nuclear winter” if CP management doesn’t heed his call, will keep delivering ammunition to shippers and shareholders unhappy with the railroad’s performance.
Ackman, the principal of Pershing Square Capital Management, has lambasted CP for having less efficient railyards, employees and overall train service compared to its larger rival CN. CP has lost intermodal market share to CN because of poor service and operations issues, and those overall service faults have cut into volume and pricing, he said. CP’s intermodal traffic in 2011 fell 6.8 percent year-over-year, while intermodal revenue slipped 3.3 percent. CN’s intermodal volume rose 8.9 percent, and revenue from the business jumped 13.6 percent in the same period.
In a February town hall presentation to shareholders, Ackman, who owns 14 percent of CP, said these shortcomings, along with what he called the ill-fated acquisition of a U.S. regional line and balance sheet mismanagement, have made CP the least profitable railroad in North America.
He sells E. Hunter Harrison, who helped CN become one of the most profitable North American railroads, as the man able to drive CP’s operating ratio to 65 percent by 2015. In contrast, Ackman, who owns a 14.2 percent stake in the railroad, portrays CP CEO Fred Green as full of promises and short of action. Pershing Square places much of the blame on Green for an operating ratio that rose to 78.5 percent in the fourth quarter.
Given the more conservative nature of Canadian corporate governance, CP directors have yet to take the bait from their brasher American rival. Instead, the railroad has raised its capital spending goal to up to $1.2 billion annually through 2014 and sent a letter to shareholders filled with shippers praising the railroad for its service, safety and efficiency.
“As CP’s largest customer, we’ve been pleased with their dedication to ensuring that we get the rail service we need and their deep understanding of our current and long-term needs,” wrote Don Lindsay, president and chief executive of Teck Resources, a major Canadian mining company. “That is why we recently increased the volume of business we allocate to CP and, today, both companies are seeing growing economic returns.”
The strong customer relationships will improve the railroad’s operating ratio by 600 basis points between 2011 and 2014, putting CP’s ratio at 70 to 72 percent within three years, CP Chairman John Cleghorn wrote. Replacing Green with Harrison, he warned, would threaten the railroad’s multiyear plan and “risks moving CP in the opposite direction.”
Cleghorn highlighted recently signed contracts with major shippers and noted the railroad is further tapping energy production business, largely because of the $1.5 billion acquisition of Dakota, Minnesota & Eastern Railroad in 2008. Pershing Capital has called the purchase a “blunder” and alleged the railroad spent 40 percent too much for the line, according to the Journal Star, a Canadian daily newspaper.
CP management said the DM&E helped boost ethanol traffic to 1.5 billion gallons annually from 390 million gallons hauled prior to the acquisition. CP this month said it would further tap the Bakken crude oil boom this summer by opening a North Dakota hub initially capable of handling 35,000 barrels daily.
The railroad improved the distance its cars traveled and terminal dwell time by 20 percent year-over-year in the fourth quarter, Cleghorn wrote. He said the railroad in February saw further improvements in terminal and carload utilization, along with faster and longer trains.
Many of Ackman’s attacks are based on the gap between CN and CP, but a soon-to-be-released study commissioned by railroad management is expected to show how such line-by-line comparisons can be misleading. CP argues CN has an infrastructure edge because it wasn’t privatized until 1995 and has a stronger presence in major industrial centers such as Ontario and Quebec. Although CP has better access to energy production sites, the railroad’s network runs on more challenging terrain prone to harsher weather.
CP management hopes the study and rosier first quarter results pull wavering shareholders back into the fold.
But as Ackman’s case gains support, CP’s board may have to cave in on some demands ahead of the vote. The value of the railroad’s stock has surged more than 12 percent since Ackman launched his onslaught on the railroad. This signals some investors agree with him or realize his campaign will push management to improve faster.
For shareholders and shippers, the proxy fight is putting them closer to the engine, rather than in railcars just along for the ride.