Harrison’s CSX plan: Special dividends and share buybacks
If named CEO, railway veteran will aim to reduce company’s operating ratio
After hosting a lunch with Hunter Harrison and activist investor Paul Hilal, Wolfe Research says there’s a 90 per cent chance that Harrison will be installed as chief executive of CSX Corp. within five months.
As a result, analyst Scott Group hiked his year-end price target on the stock to US$57 from US$47 and reiterated that CSX is his favourite rail investment.
Harrison, the former CEO of Canadian Pacific Railway Ltd. and Canadian National Railway Co., is angling to take the corner office at Florida-based CSX. He’s doing this with the help of Hilal, who owns 4.9 per cent of the railroad’s shares through his investment firm, Mantle Ridge LP.
CSX’s stock has gained more than 30 per cent since Harrison’s plans first emerged, adding more than $10 billion to its market value. Group said he sees even more upside following his conversation with Harrison given the potential to significantly lower CSX’s operating ratio (OR), which measures expenses as a percentage of revenue.
During Harrison’s tenure at CP, the railway’s OR fell to 58.6 per cent in 2016 from 81 per cent in 2011. When he attempted to acquire Norfolk Southern Corp. last year, Harrison said he could also get that railway’s OR down to 58 per cent within three years.
Some have argued that CSX is more complicated to run than its competitors and therefore Harrison won’t be able to accomplish the same dramatic improvements, but Group said that’s a mistake.
“We didn’t discuss Hunter’s specific OR targets for CSX, but he noted at lunch that he doesn’t see any structural differences between the eastern rails, or any impediments such as length of haul for CSX,” Group wrote in a research note.
If Harrison is able to lower CSX’s operating ratio to 58 per cent by 2019 from 69.4 per cent in 2016, that would imply more than US$3.60 of earnings-pershare upside, or even more if the U.S. corporate tax rate is lowered, Group added.
If their plan succeeds, Hilal said investors should expect share buybacks and special dividends, according to Group.
Group said he walked away from the lunch believing that “M&A is very unlikely to be part of the plan at CSX,” dismissing speculation that Harrison could try to merge CSX with CP once he takes control.
Ghislain Houle, chief financial officer at CN, supported this view at a Barclays investor conference Wednesday.
“We don’t believe a big consolidation (will happen),” Houle said. “We don’t believe that the regulatory environment is right for it.”
CSX plans to hold a shareholder vote on the compensation package that Harrison has requested, which the railway estimates is worth US$300 million over four years, an amount it called “exceptionally unusual if not unprecedented.”
Group said both Harrison and Hilal “are hopeful they can reach a settlement with CSX to install Hunter as CEO imminently,” but it could take up to five months if CSX delays its annual meeting to July.