Pershing Square has announced its intent to sell seven million shares or 29 percent of its stake in Canadian Pacific Railway Limited (NYSE:CP) (TSE:CP) over the next six to twelve months. The activist hedge fund managed by Bill Ackman made the announcement via a filing with the SEC and a press release. Analysts believe that the move will have little impact on the company. Below is a sampling from some firms out with reports this morning.
Pershing Square Moves to Trim Position Over Next 6-12 Months – Pershing Square plans to trim its Canadian Pacific Railway Limited (NYSE:CP) (TSE:CP) position by 7 million shares, or 29% over the next 6-12 months. Due to the very strong performance of CP shares since Pershing initiated its investment more than 18 months ago, the position had grown to roughly 26% of the total fund assets, which we believe has become difficult to justify from a portfolio perspective. While the sale of a large position could provide an overhang on the stock, we note that Pershing Square’s 7 million share sale would represent less than 5% of the combined three month average daily trading volume of CP shares on the NYSE and TSX if spread out evenly over a 6-month period.
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Pershing Will Maintain Significant Exposure & Involvement
Following the 7 million share sale, which represents 4% of outstanding shares, Pershing Square will still own 17 million shares, or 10% of the total outstanding. In addition, both Bill Ackman and Paul Hilal will remain on Canadian Pacific Railway Limited (NYSE:CP) (TSE:CP)’s board and we expect them to play active roles going forward. Further, we highlight that the nature of the sale over an extended period differs from the typical accelerated exit (through a block sale or negotiated transaction), is orderly, and highlights confidence in the intermediate term performance of the stock.
Next Catalyst Likely to Be 2Q13 Results
Looking forward to near-term catalysts, we believe the company’s very solid revenue ton mile performance quarter-to-date of 20.3% growth puts the company is a strong position to post upside to our and consensus EPS estimates for 2Q13. Canadian Pacific Railway Limited (NYSE:CP) (TSE:CP) has seen a solid boost as its has just faced two weeks of strike comparisons to 2Q12, which pushed QTD RTMs to 20% growth with only one month remaining in the quarter. Ultimately, we see solid upside to our 11.5% revenue growth target in 2Q13.
Market anticipated sale, not dribble
We believe a reduction in Pershing Square stake was anticipated by the market, though we believe most anticipated a quick sale, not an elongated process. While this signifies that Pershing believes the stock can appreciate through its sale process,
we believe it will create a bit of an overhang, though one that can be overcomegiven the improving results we expect.
Sales at measured pace
Pershing Square plans to sell shares on the open market, limiting sales to not exceed 10% of the combined volume on both the NYSE and TSX on any given day. It will begin its sales on or after June 10, and plans to complete its program over the next 6- to 12-months. Both Bill Ackman and Paul Hilal will remain on Canadian Pacific Railway Limited (NYSE:CP) (TSE:CP)’s Board.
Reit Buy and $150 PO
We reiterate our Buy rating and $150 price objective, based on a 19.5x target multiple on our 2014 EPS estimate of $7.66. We believe Canadian Pacific Railway Limited (NYSE:CP) (TSE:CP) remains on pace for a low-70’s operating ratio this year, and possibly sub-70, given faster than
expected operational improvements, including reaching its 4,000 headcount reduction target by year-end, with upside led by better than expected top line growth.
Selling would be gradual…. Pershing Square has indicated they would not be more than 10% of the combined trading volume at the NYSE and TSX. Combined trading volume is typically ~1 mm shares /day. If PSCM sold 100 k shares / day it would take them 70 trading days to achieve their targeted reduction. However, we believe they are unlikely to be in the market every day and they have outlined a target timeframe of 6 to 12 months to achieve the change in their CP position.
And PSCM Expects to remain the largest CP holder. As shown on Bloomberg holdings, Pershing Square holds 24.1 mm shares of Canadian Pacific Railway Limited (NYSE:CP) (TSE:CP) stock at the present time and the second largest holder has 12.7 mm shares. Following the execution of their share reduction plan, PSCM would still be the largest holder with 17.1 mm shares.
We expect a muted impact on CP stock. The decision by Pershing Square to begin selling a portion of their large Canadian Pacific Railway Limited (NYSE:CP) (TSE:CP) position is a source of potential pressure in the near term on CP stock. However, we believe that the gradual pace of selling and the plan to maintain a very large position are likely to cause the response of CP stock to be muted. We continue to believe that CP is a compelling name to own and that upside potential remains attractive.
Share sale expected to put fundamentals in focus. We believe yesterday’s announcement by Pershing Square is a catalyst for investors to refocus on the fundamentals, which we consider to be: 21% annual EPS growth to 2016, driven by 1) an improved operating ratio (from 77.2% in 2012 to 66.6% in 2016E) and 2) revenue growth of 6.1% annually out to 2016E. These estimates align with management’s guidance of an operating ratio of 63-67% on revenue growth of 4-7% out to 2016. However, based on yesterday’s share price, we estimate that the market has been aggressively pricing in an O/R closer to 60% and revenue growth at the very top end of the range.
Valuation at risk as investor base shifts. As of yesterday’s close, Canadian Pacific Railway Limited (NYSE:CP) (TSE:CP)’s shares trade at 18.8x 2014 earnings, which is a 23% premium to Condor Resources Inc. (CVE:CN)’s 15.3x and a 45% to the U.S. rail’s 13x. Going forward, we expect CP will see its investor base shift away from momentum-driven catalyst investors and more toward long-term holders. We believe these holders however will want to see more upside value in CP’s shares than what exists today.
Where we would be buyers. We believe the company has made significant and important strides in improving its operations, and we believe there is still more to come. However, a share price that builds in realistic expectations for this improvement in our view would be below $110.