The U.S. Department of Justice (DOJ) and Canadian Pacific (NYSE: CP) disagree on whether CP’s use of a voting trust during its proposed acquisition of Kansas City Southern (NYSE: KSU) will interfere with how regulators review the merger.
To facilitate the merger, CP and Kansas City Southern (KCS) plan to establish a voting trust to acquire KCS shares, pending shareholder approval. CP says that putting KCS shares in a voting trust will insulate KCS from control by CP until the Surface Transportation Board (STB) reviews the merger. CP contends the trust will enable KCS to pursue its independent business and growth plans.
Once STB completes its review of the proposed acquisition, both companies would be integrated, according to CP.
DOJ’s take
But in a Monday filing to STB, DOJ’s acting assistant attorney general for the antitrust division cautioned against the use of a voting trust because of competition concerns surrounding the merger.
“The Department submits this comment to urge the Board to ensure that the parties do not take any action that would undermine the Board’s ability to conduct a meaningful review,” Richard A. Powers wrote. He also noted that the DOJ doesn’t have a view on the merits of the proposed transaction. “Most importantly, as the Department has previously expressed, the Board should rarely, if ever, permit the parties to a proposed merger to use a so-called ‘voting trust’ to effectively consummate an acquisition before the Board has had an opportunity to consider whether the combination would harm competition.”
Powers also suggested that STB should apply the 2001 merger standards and procedures to the case in order to thoroughly examine competition concerns. Under these standards, the board would be studying the proposed merger to see whether it will enhance competition. CP and KCS have said they want the merger to proceed under the old rules, which is to determine whether a merger would adversely affect current competition. During the time the 2001 standards were created, KCS was exempt from the 2001 standards, and CP and KCS want to maintain that exemption during this proposed merger.
“The Division respectfully submits that the concerns about voting trusts apply with equal force to this transaction, and thus the Board should protect the integrity of its review process by holding the parties to the same standard before permitting them to proceed with their proposed trust,” Powers said. “More generally, as the first major rail merger in over two decades, this proposed transaction presents important and novel competition issues that have the potential to significantly reshape the industry. The Board should seriously consider applying all of its 2001 rules to the review of this transaction, and in any event should carefully analyze the competition concerns raised by the deal and rigorously scrutinize any claimed benefits.”
Powers also defined rail competition more broadly to include the industry’s efforts to use technology and innovation to attract more volumes to rail.
“Class I railroads that do not compete on a day-to-day basis for current shippers may compete in broader ways that are socially important, for example in seeking to attract new shippers to locate on their lines and in the adoption of technological and productivity enhancing innovations; or, correspondingly, they may coordinate tacitly or explicitly in anticompetitive actions,” Powers said. “The Board has rightly been attentive to such concerns, and should carefully consider these issues when evaluating this transaction or other potential rail mergers.”
CP’s take
In a Tuesday filing, CP countered DOJ’s comments, saying the federal agency didn’t articulate a factual or legal basis for suggesting that the voting trust would interfere with STB’s review. The attorney representing CP also argued that DOJ hadn’t performed any real analysis of the competitive effects of the proposed merger and that the older, pre-2001 standards also enable a thorough examination of the transaction.
The voting trust proposal “will fully insulate KCS from control by CP pending Board review and there is no basis for any concern that KCS (with its management intact) could not be readily sold out from under CP control in the unlikely event that proved necessary,” David L. Meyer said. “CP and KCS are not arch-rival competitors, unlike GM and Ford … and there is thus no realistic concern about either of them pulling their competitive punches while KCS is in trust and insulated from CP influence.”
Meyer also noted the differences between how DOJ approaches mergers and how STB reviews them.
“DOJ’s comment does not address the key public interest fact here: without a voting trust, there will be no CP/KCS transaction, and thus no chance at a once-in-a lifetime injection of new competition into north-south trade flows … . DOJ’s extensive experience with its HSR-based [Hart-Scott-Rodino Act] review of mergers in other industries is inapposite to the realities of this industry: whereas a clearly-procompetitive transaction under DOJ jurisdiction could be cleared within 30-60 days with no need for a voting trust, in the railroad industry even the most procompetitive transaction ever proposed must undergo 12-plus months of regulatory review,” Meyer said. “That is why, in the face of a competing private equity bid for KCS, CP was compelled to use a plain vanilla trust to carry out this transaction — consistent with the Board’s longstanding precedent. DOJ’s generic concerns should not give the Board any pause regarding the appropriateness of the trust that CP proposes in this case.”
In observing the clash between the parties, Deutsche Bank analyst Amit Mehrotra noted that STB has encountered voting trusts during past merger proceedings, although those proceedings happened awhile ago.
“While the DoJ presents valid concerns around the ‘voting trust,’ in our view, it’s important to know that the STB, and STB alone, has the final word on railroad mergers. Further, the voting trust has significant precedent, with upwards of 150 instances where it has been used in the Railroad merger-frenzy post 1980 deregulation. But that was a long time ago,” Mehrotra said.
“It does appear the establishment of a voting trust is critical for both parties. For KSU, it allows shareholders to receive its consideration (cash + CP shares) on the front-end of the lengthy approval process (vs. post-STB approval in mid/late ’22); and for CP, it consummates the transaction and blocks potential competing offers (from private equity, for example, which doesn’t require any regulatory approval),” Mehrotra said.
CP, KCS ask STB to uphold exemption
In a separate filing on Monday, attorneys for CP and KCS asked STB to uphold the exemption KCS has from the post-2001 standards. The filing also sought to respond to concerns expressed by four Class I railroads and two shippers groups about the exemption, pointing out that BNSF (NYSE: BRK), Union Pacific (NYSE: UNP) and CN (NYSE: CNI) are products of mergers themselves and could face increased competition from a combined KCS and CP.
“The Board had a very specific set of concerns about combinations involving the six largest North American rail systems, which the Board understood would not necessarily be raised by a combination involving KCS. That remains true today, and is all the more true as to the specific combination at issue here — in which the two smallest and completely nonoverlapping systems propose to combine in order to strengthen competition against the very same Class Is (BNSF, UP, and CN) which grew through merger after merger and now seek to burden this pro-competitive transaction,” the filing said.
The filing continued, “The plea by BNSF, CN, and UP for the Board to apply the 2001 Merger Rules to its evaluation of competitive issues is particularly ironic. From the perspective of those larger railroads, the only impact on ‘competition’ will be that the transaction forces them to face more of it. … The new CPKC network will provide a more formidable set of competitive options, particularly for north-south traffic flows in which these larger railroads already offer single-line routes. The larger Class Is will have to work harder, which says a lot about their motivation to burden the proposed transaction with additional, but unnecessary, regulatory hurdles.”
The filing also included letters of support from former STB Board Member William Clyburn Jr., who had cast a deciding vote in 2001 in favor of exempting KCS from the new merger rules, and former Sen. Byron Dorgan, D-North Dakota.
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