Business Context and Reporting Period
Company: Canadian Pacific Railway Limited (CP) and Canadian Pacific Railway Company.
Filing Type: Form 6-K (Report of Foreign Private Issuer).
Date: December 16, 2015.
Context: This filing disseminates a presentation regarding a revised proposal for a business combination between CP and Norfolk Southern Corporation (NS). The filing includes forward-looking statements regarding the transaction structure, anticipated synergies, and the introduction of Contingent Value Rights (CVRs) to enhance the offer value for NS shareholders.
Key Financial Metrics and Transaction Valuation
The filing does not report standard quarterly operating results (revenue, profit, cash flow) for CP. Instead, it focuses on the financial mechanics of the proposed merger offer and projected synergies.
- Proposed Offer Structure (per NS share):
- Cash: $32.86 (payable May 2016).
- Stock: 0.451 shares of the new combined entity (CP-NS).
- CVRs: 0.451 Contingent Value Rights.
- Projected Synergies:
- Total estimated synergies: $1.8 billion (if Surface Transportation Board (STB) approval is received).
- Pre-merger operational improvements: $1.26 billion (72% of total).
- Post-merger combination synergies: $495 million (28% of total).
- Valuation Metrics (Illustrative):
- Implied 2017E P/E multiple for CP-NS: 16.6x (with STB approval) to 12.2x (without).
- Effective premium to NS unaffected share price: 61% to 78% depending on CP-NS share price assumptions.
- Debt and Liquidity:
- CP-NS is projected to maintain an investment-grade rating even with maximum CVR payout.
- Projected 2017E Debt/EBITDA would increase from 2.8x to 3.2x in the event of maximum CVR payout.
Material Changes and Transaction Mechanics
The primary material change is the revision of the acquisition offer to include CVRs, designed to provide downside protection and additional upside potential for NS shareholders.
- CVR Mechanism:
- Measurement Period: April 20, 2017, to October 20, 2017.
- Payout Formula: Cash payment equal to $175.00 minus the greater of (x) the average daily VWAP of CP-NS shares during the measurement period or (y) $150.00.
- Maximum Payout: $25.00 per CVR (total potential cash payment up to $3.4 billion).
- Minimum Payout: $0.00 (if CP-NS share price exceeds $175).
- Transaction Timeline:
- Trust entry and initial exchange: May 1, 2016.
- STB ruling on merger: On or before December 31, 2017.
- CVR settlement: October 25, 2017.
- Management Changes:
- Upon trust entry, E. Hunter Harrison (CP CEO) would run NS operations.
- Keith Creel (NS CEO) would run CP operations.
Guidance, Outlook, and Risks
Management Commentary and Outlook:
- Management asserts the revised offer represents a "compelling" value, providing approximately $10 per NS share of additional consideration based on current trading prices.
- CP expects the CVR payout to be unlikely given the anticipated trading price of CP-NS in 2017.
- The filing argues that NS has mischaracterized the offer value by using CP's current standalone share price rather than the projected value of the combined CP-NS entity.
- Regulatory Approval: The transaction is contingent on STB approval. If not approved by December 31, 2017, the companies may spin off separately.
- Forward-Looking Statements: Actual results may differ materially due to economic conditions, commodity prices, labor disputes, weather events, and regulatory changes.
- Valuation Uncertainty: The value of the CVR depends on the future volatility and share price of CP-NS, which are subject to market fluctuations.
- The filing includes a presentation by Pershing Square Capital Management (a significant shareholder and director of CP) supporting the offer, noting that their views do not necessarily reflect CP's board views.
Key Facts for Investor Verification
- Offer Components: Verify the exact cash amount ($32.86), exchange ratio (0.451), and CVR terms (0.451 per share) in the definitive merger agreement.
- CVR Valuation: Confirm the trading price of the CVRs post-closing and the methodology used to value the put spread (volatility assumptions of 25% are cited).
- Regulatory Status: Monitor the STB application status and the likelihood of approval by the December 31, 2017 deadline.
- Financial Projections: Review the underlying assumptions for the $1.8 billion synergy target and the 2017E EPS estimates ($12.29 with synergies) in CP's subsequent filings.
- Debt Capacity: Verify CP-NS's ability to service debt if the maximum $3.4 billion CVR payout is triggered, specifically the impact on the Debt/EBITDA ratio.