1. Why does Canadian Pacific want to acquire Norfolk Southern? Do you believe there is a compelling economic rationale? What are the pros and cons? Are agency costs (conflicts of interests) involved?
2. What is the present value of the projected merger benefits in Table A as of December 31, 2015? Are the projections reasonable? How does the present value of the pre-merger operational improvements compare to the post-merger combination synergies (operational improvements would be pre-merger). How does the present value of the pre-merger operational improvements compare to the post-merger combination synergies? You need to choose a WACC? Would I use NS’s WACC or a general railroad WACC? Assume that the expected market risk premium is 5.5% and that the Debt Beta is .15? As assumed in the case: use a corporate tax rate of 36%.
3. Using the data in Exhibit 9b, analyze the changes in market values of CP and NS in response to the rumors of a pending offer (11/06/2015-11/09/2015) and the initial CP offer (11/072015-11/18/2015). Is the market reaction consistent with your valuation of the projected merger benefits from question 2? Explain how it may be possible to be consistent even though it is significantly lower.
4. What is the value of CP’s” revised” offer on December 8 (before CP “sweetened” its offer by adding the CVR security)? Assume the following in your analysis:
a. A valuation date of December 31, 2015 and year-end cash flows
b. The stand-alone (pre-merger) values for CP and NS are respectively 134 and 80 per share
c. NS shareholders approve the merger and the Surface Transportation Board (STB) approves it
d. Investors expect 100% of the projected merger benefits to be realized. What is the value if investors expect none of the projected merger benefits to be realized?
e. NS must debt finance 100% of the cash portion of the revised offer (32.86 dollars per share)
5. Why did CP include the CVR security in its “sweetened” offer on December 16? What is CP’s motivation and how does the CVR sweeten the deal?
6. Now use financial projections in Exhibit 6 to calculate the stand-alone value of Norfolk Southern? Use whatever WACC you used in question 2, and compare your results to the 80 that was assumed in question 4.
7. Use the stand-alone value of Northern Southern that you calculated in question 6 and calculate the value of CP’s “revised” offer on December 8th. In your analysis you can use the same 134 dollars per share for the stand-alone value of Canadian Pacific. Also assume that the investors expect 100% of the projected merger benefits to be realized. How does your value compare to the value determined in question 4?
8. How can you replicate the CVR security using financial options? (hint; the answer involves two option positions). Using the BS model and the free online software link that is provided on Blackboard, value the embedded options. What is the per share value of the CVR security?
9. What is the per share value of the “sweetened” offer on December 16th? What are the most important factors in valuing the “sweetened” offer? Remember: CP must fund the liability created by the CVR.
10. As a Norfolk Southern shareholder, would you vote in favor of CP’s “sweetened” offer? What should the NS board do?
From the case: Canadian Pacific’s Bid for Norfolk Southern