Transportation M&A nightmare worth the trip

4 minute read

JetBlue Airways aircrafts are pictured at departure gates at John F. Kennedy International Airport in New York June 15, 2013.

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NEW YORK, Aug 8 (Reuters Breakingviews) - With transportation deals, as in life, it’s not the destination but the journey. Canadian Pacific Railway’s (CP.TO) plan to close its $27 billion merger with Kansas City Southern has gotten fresh pushback after more than a year in limbo. And shareholders in JetBlue Airways’(JBLU.O) tie-up with Spirit Airlines (SAVE.N) may be stuck in a similar layover. Painful concessions may be involved. But with deals in quasi-monopolistic industries, the key is seeing deals through.

The first union of large North American railroads in two decades was bound for a battle after CP made an offer for KCS some 17 months ago. Rival Canadian National Railway (CNR.TO) launched a challenging bid soon after, and that’s not an unusual strategy in industries that have few natural competitors. As consolidation presents clear pricing advantages for those who do the rolling up, it’s better for the losers to try to thwart a deal – or encourage a competitor to overpay – than be left behind.

Regulatory concerns about protecting consumers can make life especially difficult for acquirors. Last month, senior U.S. Senator Dick Durbin sent a letter urging the Surface Transportation Board, the watchdog in charge of approving the merger, to oppose the deal. What’s worse for the companies is that Durbin called STB chairman Martin Oberman a friend after he was appointed to the job in 2021. Oberman also recently said he was closely scrutinizing the deal between the railroads.

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CP had planned for some hiccups. To gain approval from shareholders, the company closed the merger financially before it could do so operationally by putting shares in a trust. That would need to be unwound in the event regulators didn’t give their blessing.

A handful of Chicago-area communities have asked for $9 billion to mitigate potential impacts of the tie-up. Though the STB said Friday in an draft review that the deal had little environmental impact, that’s still a wildly high number. But the trust structure makes it more difficult for CP to back out if requests get out of hand. Competitors have also complained that the merger parties should be forced to divest assets – perhaps a way to get their own piece of the deal.

Still, squeezing every bit of value out of the transaction is important. KCS' share price had risen more than 80% over several months last year after private equity firm Blackstone made an overture. KCS’ enterprise value-to-sales multiple was almost a quarter higher than bidders' valuations at the time.

The airlines deal is slightly less messy, but it has a similar story. Spirit and Frontier agreed to merge in February in a $5 billion deal, prompting JetBlue to soon jump in with a higher offer for Spirit. After much back and forth, Spirit ditched Frontier and tied up with JetBlue. The trouble is that the latest deal on the table may not close until the first half read more of 2024 due to the regulatory process, far longer than what was planned in Spirit’s scrapped transaction.

Now the risk is that JetBlue's plan for Spirit could require raising ticket prices, effectively eliminating an ultra-low-cost carrier in some markets. That could upset regulators. JetBlue paid top dollar, too, offering significantly more than Frontier. On top of that, it has agreed to pay some cash upfront, plus a fee that ticks up as time goes on if the deal doesn’t close.

In the end, the hassle may be worthwhile. JetBlue expects some $700 million in extra profit annually, which if successful is worth roughly double the company’s market capitalization. Still any attempt that regulators make to ensure competition could mean the deal is less lucrative for the company, and the review creates uncertainty in the meantime.

Companies tend to take the long view when pushing for these mergers. It took nearly three years to close the deal between Sprint and T-Mobile US (TMUS.O). Since then, T-Mobile’s stock has risen two-thirds while Verizon Communications' shares are down almost 14%. It suggests that the regulatory battle may be worth the effort – assuming it is won. In the meantime, shareholders just need to buckle in for a bumpy ride.

(The author is a Reuters Breakingviews columnist. The opinions expressed are her own.)

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JetBlue Airways on July 28 said that it had reached an agreement to acquire budget carrier Spirit Airlines in a $3.8 billion deal, winning a four-month bidding war waged against rival Frontier. Spirit had previously agreed to merge with Frontier, but on July 27 canceled its planned shareholder vote on the transaction. Frontier’s offer was mostly denominated in its own stock, whereas JetBlue’s offer is all in cash.

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Editing by Gina Chon and Sharon Lam

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