The Acquisition of Consolidated Rail Corporation
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The Acquisition of Consolidated Rail CorporationIndividual Case Brief Elijah LiMain Issue:        The Consolidated Rail Corporation (Conrail) was subjected to an $8.3 billion tender offer from CSX Corporation. The CSX offered a two-tiered deal in three consecutive steps. With crucial strategic benefit and critical economic interest, the merger benefited both companies and was approved by Conrail’s management. However, CSX still confronted two major problems. Firstly, if shareholders tendered less than 19.7% before November 15th, CSX couldn’t achieve its first stage purchase. Even if succeeded in first stage merger, CSX still needed to get another 14.6% favorable volts to pass the “opt-out” to start its second stage cash offer. In the meanwhile, Conrail board was still able to consider another competitive tender offer or terminate the merger agreement.Financial AnalysisValuationCSX offered $8.3 billion to purchase 90.5 million Conrail shares by a two-tiered deal that had a blended value of $89.07 per share. Basing on multiple valuations, the range of share price is from $83 – $118 (Exhibit 1). Moreover, case mentioned that the Conrail’s share price remained about $71.00 for past several years with a small size fluctuation. Since market has price discovery function, in this case we can regard $71.00 as the stand alone share price to value Conrail. Using date in the case, I built the DCF valuation to value the synergy (Exhibit2), which shows the walk away price (price roof) for CSX is $95.83 per share. Therefore, the $92.50 per share offered in front-end offer was a very high price, which could stimulate shareholders to take advantage of this explicit economic interest.Tender Offer Structure AnalysisBecause of the restrictions from Pennsylvania’s Business Corporation Law, CSX would have to conduct tender offer in three consecutive steps. But this two-tiered tender offer provided numerous advantages for CSX. The two-tiered tender offer created a prisoner dilemma. The sooner shareholders accepted the offer, the greater interest they would gain. Moreover, the non-sharing shareholders would have to take the risk that they may have to take the back-end offer and suffer from interest loss in the end. In addition, since the agreement included the “break-up” obligation, “poison pills” suspending and the “no talk” clauses, these would increase the probabilities of merger’s success and put more pressure to shareholders to push them offer shares. Under multiple uncertainties, non-offering shareholders would be less able to accurately anticipate the actions of other shareholders. Therefore I think CSX would get the first 19.7% of shares and achieve another 14.6% votes to pass the “opt out”.
Recommendations for Conrail’s ShareholdersI recommend Conrail’s Shareholders to take this offer. From economic view, CSX offered significant economic advantages, especially for the shareholder who cached the front-end offer. On the contrary, if the merger failed in the end, Conrail would have to pay 300 million as break-up fee, which would greatly undermine Conrail’s financial stability and further affect the share price. The management could consider other offer but I recommend the board to focus on helping this merger succeed. Since CSX was the biggest railroading company and offered a friendly merger, it would be very hard to find another company that could afford and be willing to pay $8.3 billion to take over Conrail.Exhibit 1 MultiplierMinMaxAveP/E6510483EBITDA7212496Sales multiple4712576M/B55179118Acquisition premium95123109*Peer Company Selection: Santa Fe Pacific, Chicago and North Western, Southern PacificThe range of multiple valuations is $83 – $118.Exhibit 2AssumptionsTerminal Growth rate3%Cost of Equity16.50%Risk Free Rate6.83%Synergy Valuation1998199920002001Operating Gain$188$396$550$567Tax65.8138.6192.5198.45FCFE$122$257$358$369Terminal Value $2,811.90Cash Flow$122$257$358$3,180PV of FCFE$2,247.22Number of shares90.5Stand Alone Price$71.00Roof Price$95.83*Using Conrail’s Beta and CAPM to calculate the cost of equityThe Roof Value of Conrail is $95.83.