1. Railroading was not CSX Corporation’s major business, unlike Conrail. CSX was a diversified transportation company that provided in addition to railroad services: intermodal service, ocean container shipping, barging, and contract logistics services. CSX’s railroad subsidiary controlled 38.5% of the Eastern rail freight market (the largest share of the three Eastern Class 1 railroads) at the time before the merger. CSX’s main competitor in the railroad industry was Norfolk Southern, regarded as the most efficient and best-managed railroad in the US. By acquiring Conrail, CSX would be able to create an entity with more than $8.5 billion in revenue from railroading and control almost 70% of the Eastern Market. Additional revenue would also be obtainable since the acquisition would enable a cost reduction yielding an additional $370 million to annual operating income by the year 2000, and projections led many to believe that revenue increases would yield an additional $180 million. The merger would improve the entity’s competitive position by enabling CSX-Conrail to facilitate long-haul, contiguous, and low cost service between the Southern, Northeast, and Midwest ports. Also, the combined entity would be able to become more competitive because of cost reduction.
Ba=(D/V)*Bd+(E/V)*Be D=2765 for CSX E=212.5(# of shares outstanding for CSX) * 46.75(stock price per share)=9,934.4 V=9934.4+2765= 12,699.4
Ba=(2,765/12699.4)*.1+(9934.4/12699.4)*1.35=.02+1.06=1.08 for CSX
Ba=(2094/7589)*.1+(5495/7589)*1.3=.03+.94=.97 for Conrail
We have just found Ra to discount cash flows for Conrail with based on
average Ba from Conrail and CSX.
Growth Rate (g)=3% (from Exhibit 7)
EBIT Projections for combined entities (From exhibit 7)
Year 1: 0 Year 2: 188 Year 3: 396 Year 4: 550 Year 5: 567
Year 2: 188*.35=65.8, 188-65.8=122.2
Year 3: 396*.35=138.6, 396-138.6=257.4
Year 4: 550*.35=192.5, 550-192.5=357.5
Year 5: 567*.35=198.45, 567-198.45=368.55
Terminal Value= 368.55*(1+.03)/(.128-.03)= 3873.535714
PV of Cash flows: 122.2/(1.128)^2+257.4/(1.128)^3+357.5/(1.128)^4+368.55(1.128)^5=1169.244
PV of terminal Value:
Total Enterprise Value: 1169.244+2121.107=3290.35
Price Conrail should pay for CSX= 71+36.36=$107.36 per share
2. A) The two-tiered offer was made by CSX in order to deal with the regulations and financial concerns with acquiring a railroad industry at the time. The first tier offer of $92.50 per share could be used to gain a majority control of the stock. The remaining shareholders would be forced to accept a lower value for the shares in the form of a stock swap, which would then enable the company to save cash. Since the merger was occurring in Pennsylvania, there were other requirements, which was why the first offer
was split in two stages. CSX purchased 19.9% of shares with first offer, thus forcing Conrail Shareholders to vote in order to opt out. CSX would control 35.5% of acquisition shares and would thus only need 14.6% of management’s shares to vote in favor of opting out for vote to pass. Conrail then granted CSX the option to purchase shares at $92.50. This would influence shareholders to vote for the opt-out provision. The remaining 60% of Conrail’s shares would then be bought at a lower value through a back end offer. This two-tiered offer would reduce the overall value that CSX would have to pay in order to acquire Conrail.
B) The No-Talk clause stated that Conrail was unable to engage in merger talks for 6 months unless the following conditions were met:
1) The offer being considered was necessary in order to meet responsibilities towards shareholders.
2) Another offer was to surface, which made it unlikely that CSX could complete the merger or win the opt-out vote.
The No-Talk clause made sure of the fact that CSX’s investment was worthwhile since it decreased the possibility of another bidder emerging. Pennsylvania law gave the Board of Directors more freedom than compared to other states, which increased the chances of Conrail considering other offers. Although this would be a positive development for Conrail since the opportunity to achieve a better value for shareholders would be strengthened, but it would hurt CSX since they would have to compete with new bidders.
The Lock-Up options gave CSX the ability to buy 15.96 million newly issued common stock shares of Conrail for $92.50 per share. This helped ensure that CSX would be able to sustain their ownership of Conrail. This also prevented Conrail from selling shares to another buyer, in turn reducing the chances of a bidding war.
The Break-Up fee was $300 million. This ensured that CSX would not lose money invested in regards to fees associated with the acquisition. This would hinder Conrail’s options of looking into other bids, since they would have to be at least $300 million more to account for loss of breaking up
Conrail was forced to relinquish its Poison Pill clause, which allowed current shareholders to buy discounted shares in order to maintain ownership. This helped CSX gain ownership of the company since it was difficult for current shareholders to fight the acquisition. This also reduced costs and time with the acquisition procedure.
3.Since there is no other bidder for shares, if the deal does get voted in, the second tier offer of $89.07 per share is less than the first-tier offer $92.50 resulting in a difference of $3.43. This can add up to a large sum of money that can be lost if shares were sold at second tier offer rather than first tier. If the deal doesn’t go through, it still makes sense to sell your share at $92.50 because if the vote doesn’t pass for merger, then share price for Conrail is back to $71.