Filed by Canadian National Railway Company
Pursuant to Rule 425 under the Securities Act of 1933
Subject Company: Canadian National Railway Company
Commission File No. 333-94399
WRITTEN STATEMENT OF
PAUL M. TELLIER
PRESIDENT AND CHIEF EXECUTIVE OFFICER
CANADIAN NATIONAL RAILWAY COMPANY
BEFORE THE SURFACE TRANSPORTATION BOARD
IN
STB EX PARTE NO. 582
PUBLIC VIEWS ON MAJOR RAIL CONSOLIDATIONS
Filed February 29, 2000
Good morning. My name is Paul M. Tellier. I am President and Chief
Executive Officer of the Canadian National Railway Company ("CN") and its
affiliates, which include, in the United States, the Illinois Central Railroad
("IC") and the Grand Trunk Western Railroad, Incorporated ("GTW"), among others.
I am very pleased to appear before you, on behalf of CN, to offer our views
regarding major rail consolidations and the present and future structure of the
North American railroad industry.
CN welcomes this inquiry, especially your focus on the needs of rail
shippers. We have been making a similar inquiry of our customers, as we discuss
with them our proposal to combine with Burlington Northern Santa Fe Railway
("BNSF").
Our shippers do not want service problems like those that followed the
UP/SP merger and the break-up of Conrail. They have repeatedly given us that
message, and CN fully understands their concerns on this score. No rail
consolidation should inflict costly and infuriating service disruptions on the
shippers who are supposed to benefit from promised efficiencies. We at CN always
strive to be responsive to our shippers, and these concerns present no
exception. That is why we have proposed a transaction to improve service and
agreed to guarantee, at a minimum, our shippers' current level of service.
As you have now had several occasions to indicate, today's hearing is
separate and apart from the upcoming control proceeding concerning the proposed
combination between CN and BNSF. But I want to assure you both that our control
application will address all of the issues you identified in your first decision
in the control proceeding, and that we also plan to take into account of these
proceedings. If, as a result of these proceedings, the Board takes any further
action that bears on our proposed transaction, we hope that you will do so in
time for us to respond to your concerns in our application. Otherwise, we hope
that you will provide a later opportunity in our control proceeding for us and
all other interested parties to address any such additional concerns.
<PAGE>
I. Introduction and Summary
You have identified a broad range of issues as the subject of this
proceeding and I hope to touch on all of them. After these introductory remarks,
I will take up your questions regarding the proper timing of proposed large
railroad consolidations. Next, I will focus on speculation regarding the
strategic responses that other railroads have indicated they might take.
Finally, I will turn to your future-looking questions regarding 1) the proper
regulatory focus for the future, 2) the possibility that the major North
American railroads might ultimately consolidate into two transcontinental
systems, and 3) the overall effect that further consolidations or other
developments may have on the financial condition of the industry and its ability
to provide the service shippers want at reasonable prices.
A. The Public Interest
Let me suggest a framework for today's discussions. As you know,
Congress has determined that the measure of a proposed transaction is whether it
is consistent with the public interest, and it refined and reaffirmed this
statutory directive less than five years ago. The public interest inquiry, in
turn, has several parts, including the effects of a transaction on safety, the
environment, employees, and competitive services for shippers. As I address each
of your questions, I will do so with this public interest principle in mind,
paying particular attention to the public interest in improved service to
shippers.
Adherence to the public interest standard, by both this Board and its
predecessor, has been instrumental to the revived strength of the North American
railroad industry. However, we are now past the point where we are concerned
about the immediate financial failure of railroads. In the 20 years since the
Staggers Act, the public interest has shifted, from concerns about industry
failure to ever-increasing demands for improved quality. We should all realize
that we have now entered the next stage of railroad development - enhancing
service to regain a portion of the transportation market that railroads have
lost to other, more service oriented modes. Now is the time to focus the public
interest inquiry on whether a transaction will lead to better service in markets
that will be affected.
B. The Public Interest Protects Competition, Not Competitors
In enacting the public interest standard for the approval of control
transactions, Congress did not want the Board to protect competing railroads
from competition. Instead, the Rail Transportation Policy instructs that the
Board is to "ensure the development and continuation of ... effective
competition among rail carriers."
Thus, much of the Board's attention in control proceedings has been
focused, quite properly, on determining whether a proposed transaction will be
good for shippers, consumers and the economy, by ensuring that it not have an
adverse effect on competition. The resulting competition has forced rail service
costs and average prices down radically.
The recent service failures of UP, NS and CSX have distracted attention
from this underlying progress. However, we all know that the capacity of the
industry to provide better service has improved dramatically since passage of
the Staggers Act. And I believe that the best way to assure that this capacity
is utilized to actually improve service in both the long and short run is to
enhance competition that will stimulate improvement, not to declare a moratorium
on competition and all of its benefits.
Nonetheless, railroads continue to encourage the Board to shield them
from the rigors of the competitive marketplace. Some of these efforts have been
quite clever. But the Board has always seen protectionist requests for what they
are and rebuffed them with the reminder that the Board exists to protect
competition from what a railroad might do, not to protect railroads from what
competition might do.
I focus on this aspect of the public interest inquiry because, despite
your resolve to protect competition but not competitors, you are again being
beseeched by rail competitors seeking a safe harbor from competition. After CN
and BNSF announced their combination, four Class I railroads placed full-page
ads in major newspapers across the country suggesting that you delay your
consideration and approval. These ads linked the request for delay to the same
speculation that many prior rail control transactions have prompted: What
further consolidations will our industry see? Will they result in only two
transcontinental railroad systems in North America?
The proponents of delay argue that these speculative questions have to
be answered, and answered with some certainty, before the BNSF/CN combination
should be allowed to go forward. While I will elsewhere address this argument in
the context of the issues that you have raised in this proceeding, I hope we can
agree on one preliminary point. Even though these speculative questions may be
worthy of debate, the notion that any further consolidation - no matter how
beneficial - must be put on hold during that debate is contrary to the public
interest. Instead, we need to address matters affecting the public interest when
and where they arise. If a particular transaction poses a structural issue that
is a real and immediate consequence of that transaction, then the place to
address it, on the basis of facts on the record, is the public interest inquiry
that Congress created just for that purpose. If the structural issue will arise
by virtue of a transaction proposed by actions of others, then the proper place
to address that issue is when that transaction is brought before the Board. And
if the structural issue is inherent in the nature of the industry, then it
should be resolved in legislation or notice-and-comment rulemaking that
implements legislation that addresses such inherent structure issues. But let us
not stop progress that will on balance benefit the public interest while we sort
out these general concerns.
C. The Ultimate Choice: Progress vs. Stagnation
Many who appear before you today will present what I believe are false
choices: progress vs. good service; progress vs. enhanced competition; progress
vs. the maintenance of economically sound regulation, and progress vs.
stability. These are not real choices. The real choice is between progress and
stagnation.
We can only grow the rail industry through continuous improvement of
the range and quality of our services. We can do so without restraining
competition, without interim adverse service consequences, without impairing our
access to capital, and without re-regulation. This requires only that we make
sure that specific attempts to improve service create benefits without
offsetting the detriments. That requires us all to pay attention to the facts
presented by real transactions, and to address realities rather than vague
concerns and hypothetical situations.
By the same token, improvements are an inherently destabilizing force.
The status quo is not providing the service improvements that shippers demand,
and thus, to the extent that it provides poor service, the status quo should be
changed. Improvements may create temporary competitive uncertainties that may be
temporarily reflected in matters such as individual company stock prices, but
the lesson of the modern economy is that changes in the status quo must be
tolerated if industry is to achieve lasting benefits. Indeed, government has
proven incapable of addressing issues such as short-term stock swings, which
reflect only the fact that improvement efforts are underway but not yet
complete.
We cannot, however, get better in the short or long run if we put a
moratorium on rail progress while we wait for those who are not yet prepared.
The market for transportation services is not waiting. If we wait, we will all
get a smaller and smaller piece of that market as customers pursue alternatives
to rail transportation.
II. The Timing of BNSF/CN And Other Potential Combinations
Several of your questions regard the timing of major new rail
consolidations. They ask implicitly whether there should be a moratorium on new
consolidations while the carriers with service problems take some time to solve
them. This timing issue is important, and I will address it first. My short
answer is that those who have service problems should solve them. Those who are
providing good service and have proposed to improve service through
consolidation should be allowed to proceed to a hearing on the merits as quickly
as possible.
A. The Timing of the BNSF/CN Combination
We will address our combination at length in our application for Board
approval. Let me just briefly outline here what led to our decision to act when
we did. In large part, the timing of the BNSF/CN combination follows from the
development of the industry under the Staggers Act. We have just been through an
era of unrelenting cost-cutting and shrinkage, initiated and promoted by
Congress and this Board, that dramatically increased railroad efficiency for the
benefit of shippers and shareholders. That era, however, has largely ended. Now,
our customers can be the beneficiaries of a new railroad paradigm that
emphasizes responsible growth and responsive customer service.
Let me tell you what I mean by responsible growth. Our industry will
stagnate and deteriorate if it does not continue to grow by providing more and
better services to our customers. For customers who rely entirely on railroads,
we have to provide service that keeps them competitive in a global economy. The
vast majority of our customers, however, have a choice between railroads and
other modes. For them, we have to make rail a better choice of transportation
than the other modes. The other modes have the largest share of the market, and
we need to capture a part of their share if we are to stay in business. Finally,
for both groups of customers, we need to make rail transportation a facilitator
of shipper efforts to improve patterns of production and distribution so that
rail will always be an attractive alternative in this dynamic, multi-dimensional
economy.
Responsible growth is growth that helps meet these challenges
efficiently without harm to the public interest. It is the model for the
combination of BNSF and CN. We need to proceed with our transaction so that we
can serve our customers better. There is no other reason for our combination.
The timing is appropriate because we have no serious ongoing service failures.
There is no reason for us to pause before doing something to improve our ability
to retain and add customers.
Our combination will afford competitive transportation advantages to
our customers at lower cost. Most important, it will do so without service
disruption, without additional corporate debt, without interfering with the
operations of our connections, without adverse effects on the environment, and
with minimal impact on employees because most changes can be handled through
attrition. At the same time, we can improve the safety of our operations.
Indeed, when we file our application you will see that our essentially
end-to-end transaction, which creates no new debt, is good for shippers,
competition, and the transportation system.
We are so confident in our ability to otherwise increase our
efficiencies that we will guarantee our customers no diminution in either
service or rail competition. These guarantees ensure that ours is a good
transaction for the railroad industry, shippers, the economy, and the
shareholders of CN and BNSF.
In sum, CN sees our transaction as the appropriate next step in the
incremental strengthening of our industry. The sooner we can deliver the
benefits of our transaction the better it will be. Serious delay will mean that
we and our customers fall further behind in our continuous race to remain
competitive
B. Our Railroad Opponents Have Raised Timing Concerns To Secure
Inappropriate Protection From Competition
Other railroads have cast the issue of timing in a very different
light. They are our competitors, and they fear the increased competition that
our combination will bring. Their newspaper ads and other public statements have
therefore raised the timing issue as a means to delay our transaction and gain
protection from that competition.
When these newspaper ads call for a merger moratorium, the other
railroads' protection from immediate competition is explicit. Protectionism is
also present, albeit less obvious, in the demand for answers to speculative
questions about the industry's ultimate structure. Those questions have been
raised with every major control transaction of the past decade. They have never
admitted of definitive answers, and definitive answers cannot realistically be
expected now. The demand for answers before our combination can proceed is just
a part of these railroads' strategy to delay stiffer competition in the rail
industry. Indeed, these other railroads are not proposing anything that would
improve or even change the structure of the industry; they just want to delay
change until they can recover from their own service difficulties and strengthen
their position as to any further mergers.
These other railroads especially want delay because they have no hope
of defeating our control application on the merits. If you have a hearing, they
will have the opportunity to address the merits of our application. But they
don't expect to defeat it. That is why, in all of the rhetoric that they have
launched since our announcement, they have never even suggested that the BNSF/CN
combination will fail the public interest test.
Instead of asking for denial, these railroads ask the Board to delay
consideration and approval of our control application. But if there is no reason
for you to deny the BNSF/CN combination, there is also no reason to delay our
efforts to enhance service to our shippers.
The proponents of protectionist delay do not claim that a combined
BNSF-CN might be anti-competitive. Instead, they claim that it is too
competitive. Therefore, they say, (1) our combination will force them to engage
in their own merger transactions, (2) they are not yet ready to engage in
further mergers, and (3) as a consequence, none of these consolidations -
neither ours nor theirs - should be acted upon until all these other railroads
are ready. Put another way: they say that the BNSF/CN transaction must be
delayed, regardless of its merits and regardless of the ability of a combined
BNSF/CN to integrate smoothly, because these other railroads are afraid. They
fear that they will not be able to manage their own reactive mergers
consistently with the public interest, if they, their shareholders, and this
Board conclude that such mergers are warranted.
Dick Davidson, the CEO of Union Pacific, summed up this argument well
when he reportedly told securities analysts recently that UP needed to "give our
customers a rest before we mistreat them again." Delay the CN and BNSF
combination, goes the argument, so that UP and the other railroads won't
prematurely enter into combinations that will hurt their shippers.
This approach is unique, but that does not make it plausible. For
example, it ignores the reality of delay that is already occasioned by the need
for regulatory review. Thus, although we forged our combination agreement in the
winter of 1999, we will not be able to implement the BNSF/CN transaction before
the summer of 2001. That will be five years after UP began implementing its
merger with SP, and two years after CSX and NS divided and began to operate the
former Conrail properties. Even if you were to accept the proposition that the
protection of competitors from intensified competition for any period of time is
in the public interest - a dubious proposition, at best - the question remains:
how much more time do these other railroads need? None of these carriers has
announced that it will not have solved its problems well before the summer of
2001.
In the end, competitors' problems provide no grounds for delaying our
transaction in this combination. The public interest does not afford these
railroads a right to apply to the Board for protection from their own errors.
And the fact that UP, CSX, and NS have had serious service problems is not a
rational basis for denying our shippers the efficiencies of a combined BNSF/CN.
You should not let those who have stumbled in providing value to their
shareholders, and have harmed their shippers, use the regulatory process to
protect themselves from the competitive consequences.
Nor should the Board find that our competitors' failures have earned
them the right to control our strategic agenda and opportunities through the
regulatory process. That would be the opposite of the "fair . . . regulatory
decisions" that Congress required in the Rail Transportation Policy. The
interests of our competitors present no principled basis for overriding the
judgments of CN's management, its shareholders, and the capital markets. Even
the appearance of such a result would taint the integrity of the important but
circumscribed regulatory process only recently reaffirmed by Congress.
In sum, the uniqueness of the railroads' argument in favor of delay
does not disguise the dangerous protectionism that underlies it. Nor can
uniqueness dignify the extraordinary argument that, because these other
railroads have failed in executing problem-free implementation, the government
should intervene to make sure that healthy competition is not allowed to provide
benefits in the marketplace.
C. There Is No Bad Time For A Good Consolidation, Just As There Is No
Good Time For A Bad Consolidation.
Only a fair, prompt hearing on our application will allow you to decide
which kind of transaction we are proposing - a good combination or a bad
combination. As you would expect, we believe that our application will
demonstrate that our combination will provide great benefits to the shipping
public. If, however, after a hearing, you disagree, you could promptly impose
appropriate conditions to insure the public interest, or deny our transaction
outright. That is what Congress called for in the Rail Transportation Policy,
when it provided for the "expeditious handling and resolution of all [Board]
proceedings."
On the other hand, if we are right - and I think that you will see from
our application that we are right - a delay in our combination would be to
frustrate and disserve the public interest, Public benefits to shippers and
others amounting to tens of millions of dollars for every month would be denied.
A fair hearing delayed is a fair hearing denied. For that reason, our
railroad opponents hope that you will delay a fair hearing on our combination,
at least until they feel that they are more ready to respond to it. They would
prefer not to tighten their operations with an eye towards increasing
efficiency; delay will free them from the need to meet our new efficiencies with
new efficiencies of their own. That is protectionism on its face, and you ought
to reject it as such.
There can be no legitimate reason for these other railroads to get more
than the normal review period free from the additional competition that our
combination will bring. Indeed, the merger moratorium they seek would raise
obvious antitrust concerns if it were achieved purely by agreement, outside the
context of the Board's procedures. The Board should neither abet this kind of
anti-competitive collusion nor bless it with the cloak of regulatory approval,
especially when the Rail Transportation Policy mandates that the Board "ensure
effective competition" between rail carriers.
The railroad proponents of delay have suggested only one basis for an
industry-wide merger moratorium. "Now is the time to concentrate on existing
opportunities to improve service rather than on further consolidation," states
their ads. Yet we know of nothing that prevents these other railroads from
concentrating on improving their service, except, perhaps, the great energy they
have recently expended on their concerted effort to stop us from getting better.
On the other hand, I am proud to say that CN has been concentrating on existing
opportunities to improve service. Those are the efforts that have made CN the
most efficient railroad in North American today and made us the leader in
providing shareholder value in the last three years.
CN is the efficiency leader because we feel compelled to try and meet
our customers' demands. For the same reason, we are now compelled to further
improve our service. We have proposed doing so by entering into an end-to-end
combination with the second most efficient railroad in the industry, without the
introduction of any new debt. This is precisely the point of evolution where
combinations are most appropriate. Our two companies have demonstrated the
ability to manage themselves, and we have achieved the network efficiencies
allowed by our current size. We have also demonstrated our ability to operate
safely. A combination is the appropriate way to extend our capabilities further
- - again, in order to improve our service to our shippers, which we are willing
to back up with service guarantees.
For every day our combination is delayed, shippers will be denied the
benefits of our combination, all for no legitimate reason. Other shippers would
be deprived of the benefits that derive from having their railroads subjected to
the greater discipline of a more intensely competitive marketplace. The fact
that other railroads haven't been providing reliable, cost-effective service to
their shippers should not lead you to penalize those of us who are doing so and
who want to do even better.
D. On The Whole, Shippers Are Not Concerned About The Timing of the
BNSF/CN Transaction. They Are Concerned About The Potential
Response Of Our Opponent Railroads.
At this point, you may well ask "if this is about protecting the four
least efficient railroads, why are so many shippers concerned about the timing
of the BNSF/CN combination?" This is a good question. We do not know what most
of the shippers who will appear in this proceeding will say. But we have
interviewed a large number of our shippers and reviewed the letters in the file
of this proceeding and Docket No. 33842. On this basis, we believe that most
shippers are not really concerned about BNSF and CN. Rather, they are worried
about the performance of the other railroads and what these other railroads have
threatened to do if we go forward with our transaction. I hope you will keep
this distinction clearly in mind as I discuss the next issue on which you have
asked for comments: the strategic responses that might be engendered by another
major rail consolidation.
III. The Speculation Regarding Strategic Responses to the BNSF/CN
You have noted the great deal of speculation regarding other railroads'
strategic responses to the BNSF/CN combination. You have asked that statements
address this speculation, and I will now do so.
A. The BNSF/CN Combination Will Not Require Any Strategic Response
That Is Contrary To The Public Interest.
Those railroads seeking a moratorium on progress contend that the only
strategic responses they could make would be mergers among themselves - mergers
that, they complain, would be inefficient, in the sense that the merged railroad
would be less efficient at serving their customers. These complaints might mean
two things: first, that the mergers would be inherently inefficient, and second,
that the mergers would encounter severe service disruptions during
implementation. I will temporarily hold off discussing the second of these - the
issue of severe transitional service disruptions - until later in these remarks,
when I propose refinements to the public interest standard that would
appropriately respond to both shipper concerns and the unfortunate experience
that followed some recent mergers.
Let me now address the first complaint. The fallacy in that complaint -
that these railroads will be forced into inherently inefficient mergers - is
obvious. It is simply untrue that railroads can ever be forced into inefficient
transactions, except perhaps when management ego prevails over good sense. I
cannot fathom any other reason for management to engage in such a transaction,
and I cannot see any reason whatsoever for shareholders to agree. But even if
they did, they would still have to apply to this Board for permission. And I
don't think that there is any serious question as to what this Board would do if
faced with a request to approve an inefficient merger. You would withhold
approval, or you would impose appropriate conditions to address the proposed
merger's deficiencies.
That is why we believe that the potential for hypothetical, inefficient
transactions is no reason for the Board to delay consideration of the BNSF/CN
transaction. If an inefficient or ill-considered transaction is proposed, that
is the time to address it. This Board is fully capable of dealing with
inefficient proposals when and if they are made. You do not have to trouble
yourselves pondering hypotheticals when you can address the facts if and when
they arise.
Indeed, these railroads' claimed need to merge is particularly ironic
in the context of this proceeding, which you have convened to hear shipper
concerns about the effect of rail mergers on service. Just when our industry
should be most concerned with satisfying the needs of our shippers, these other
railroads seem to be telling you that they are prepared to enter into merger
agreements that would likely disrupt shipper service. No wonder shippers are so
concerned about the service they would receive from these other railroads if
they were to merge again! Obviously, your task as regulators will be to separate
customer-driven transactions such as the BNSF/CN combination, which are likely
to improve shipper service, from mergers that are likely to disrupt service. I
will address that task in detail when I propose refinements to the public
interest inquiry later in this statement.
B. The BNSF/CN Combination Will Not Require The Development Of Two
East-West Transcontinental U.S. Railways
Because you make the final decision, there is no reason to expect that
any transaction that would harm the public interest would ever get past your
review. Nonetheless, I feel compelled to address one of the most common
arguments we have heard for a moratorium on mergers. This is the argument that
our transaction will lead inevitably to the creation of two east-west U.S.
railroads. I will address your question regarding future industry structure at
greater length later, but let me touch on it here in the context of the
strategic responses that other railroads may take to our combination.
Absolutely nothing about our transaction requires the structure of the
industry to settle into only two transcontinental North American railroads, or
even to change from the current structure of two major western and two major
eastern roads in the United States. This is not to say, of course, that some
railroad's management might not be looking for an excuse to escape that
railroad's own service problems by pursuing another deal. Nor does it mean that
a beneficial consolidation proposal might not appear in the future once the rest
of the industry's service issues are under control. But if such a deal is
proposed, the marginal impacts of our transaction will not determine whether
that deal is or it is not consistent with the public interest.
The Board has ordered us to address these kinds of downstream effects
in our control application, and we will do so. We will show that our combination
should not have any serious impact on rational decisions about any potential
east-west combinations. This is primarily because the efficiencies of a BNSF/CN
combination arise predominantly in the form of better services on north-south
routes for the international market. This is where the growth is for rail
services and we are pursuing that market. Thus, we can imagine that CP might
want to emulate our NAFTA strategy by partnering even more closely with UP. But
better service for this market will not be satisfied by an east-west
transcontinental railroad in the U.S.
To be sure, our combination does enhance east-west capacity, but these
benefits are far more limited than our north-south benefits. Thus, while our
combination will also benefit competition in the few U.S. markets already served
by CN or BNSF east of the Mississippi, the traffic at issue there is but a small
part of the total served by CSX and NS. Our enhanced competition will pose no
threat to their survival and is not a reason for them to pursue (or this Board
to approve) a transaction that was not otherwise meritorious or timely.
In the end, our transaction will neither require inefficient
transactions nor preclude efficient transactions. Since that is the case, our
transaction is in this respect clearly consistent with the public interest.
Nothing bad in terms of downsteam effects will result from a BNSF/CN combination
and nothing good will be precluded.
While our competitors claim that they will be forced to merge because
of the BNSF/CN combination, others have suggested that a two major railroad
structure is inevitable for North America. As I will discuss at greater length
later, that may or may not be true. But if that structure is inevitable, then
our competitors are certainly wrong about the effect of our combination on their
strategic choices; our actions cannot determine what is already inevitable.
Again, there is no reason for you to let concern for a hypothetical two-railroad
structure delay consideration of the BNSF/CN transaction.
C. Even If The BNSF/CN Transaction Might Lead Other Railroads To
Consider New Transactions, Whether They Should Proceed Is
Ultimately A Question About Those Transactions And Not Ours.
In the end, the question about our transaction is whether it is in the
public interest. This Board would be abandoning its Congressional charter and
its duty to the public if it were to let its judgment of our transaction be
influenced by other railroads' threats to undertake transactions that would harm
the public interest. Just as we accept having our transaction judged by its
likely effects, including its real downstream effects, other transactions should
be judged by their effects. Our good actions cannot, as a matter of fact or
logic, ultimately be the cause of bad actions by others. Only they can take
those actions and only if you permit them.
IV. The Future Regulation and Structure of The North American Rail Industry
That brings me to the forward-looking questions on which your notice
asked for comments. What future consolidations might our industry see? Could
they result in two North American railroad systems? And what should your future
regulatory orientation be? These are legitimate questions, even if our
competitors have raised many of them at this time to serve their
anti-competitive purposes.
A. The Future Regulation of The Industry Requires More Emphasis on
Service In Control Proceedings
Let me begin with the last of these questions. What changes should
there be in the way that the industry is regulated?
On the most basic level, you should not change the formula that has
brought the railroad industry from the edge of disaster to the threshold of
success as a service-oriented industry. That formula permits the market to
function except when it must be curbed to prevent anti-competitive results or
harm to safety, the environment, or employees. It is up to the market
participants to propose transactions for your regulatory review, which either
denies the proposal or accepts it, with or without conditions. This has allowed
our industry to undergo its economic transformation over the past twenty years.
There are those who will claim that the current service problems of
some railroads warrant the reinstitution, either directly or indirectly, of an
uneconomic approach to regulation, particularly with regard to price. My view is
that the scope and nature of direct price regulation, (or indirect price
regulation through the delineation of access prices) is always a legitimate
topic for debate. That debate, however, has nothing to do with the quality of
railroad service that follows approval of a control transaction. Prices,
including access prices (and that is what the "access" debate is ultimately all
about), are another subject altogether. We are ready to join the access debate,
but so long as the Board remains determined to preclude any reduction in
competition through consolidation, resolution of that debate should not be a
prerequisite for determining the public interest in our transaction or any
other. There is simply no legitimate connection.
The service issue is directly related to the implementation of proposed
combinations, and it is important enough to deserve direct treatment within the
public interest standard. Accordingly, we think that it is time to refine the
public interest to respond to shipper concerns about severe post-merger service
disruptions. We need to raise the bar to assure that transactions achieve the
service results that applicants promise.
Congress recently ratified the public interest standard when it
reviewed the regulatory regime in 1995. Congress has not wavered from the public
interest standard, and neither should you. At the same time, however, you should
use the discretion that Congress has given you under the public interest rubric
to insure that a railroad's desire to grow and improve does not exceed it
capacity to deliver.
Just as you have integrated the review of safety and environmental
issues into the control case review process, you should now integrate the
service issue into that process. You should not let the industry's great
progress be further tarnished by service problems like those that followed UP/SP
and Conrail/CSX/NS transactions. Rather, you should sharpen the public interest
inquiry to address the shipper concerns that you have convened this proceeding
to hear - concerns that future combinations could also bring service
disruptions.
As I've said, we at CN have heard the same concerns from our shippers
and have responded with the service guarantees for the BNSF/CN combination. To
continue to be effective, your inquiry in control proceedings should likewise be
responsive to the general concerns that the shipping public has developed. In
your public interest inquiry, you should make a realistic determination as to
whether a proposed rail consolidation is likely to fulfill its potential by
delivering the anticipated efficiencies, or betray its promise by causing
service disruptions.
To be fair, a sharpened inquiry into post-merger service has to take
account of the totality of shippers' recent experiences with rail
consolidations. Those railroads that advocate a moratorium on progress do not
present a completely fair picture. They suggest that the recent history of major
rail transactions demonstrates that service disruptions must occur, or are even
likely to occur, but that portrayal is simply wrong. Service disruptions did
follow the recent UP/SP and Conrail/CSX/NS control transactions, but most others
since the Staggers Act encountered no substantial customer service difficulties.
I am proud that the CN/IC combination is in this successful category.
You should weigh the uneventful implementation of CN/IC and other
successful transactions as heavily as the disruptions that followed UP/SP and
Conrail/CSX/NS, each of which involved quite singular features not part of the
BNSF/CN combination. From this perspective, you can understand why we are so
confident that the BNSF/CN transaction is one that we can successfully implement
and why we can seriously guarantee that our transaction will not lessen service
from pre-merger levels.
It certainly appears that the shipping public can take such a balanced
perspective. As I've mentioned, CN's review of shipper letters advocating
caution towards future rail consolidations reveals that the vast majority
complain about service following the UP/SP and Conrail/CSX/NS control
transactions. Their fears are rooted in the past bad experience they had or they
heard that others had with those transactions: they are predominantly concerned
with the service of the railroads involved in those particular transactions, and
with the risk that service would again deteriorate if those railroads were to
engage in further mergers.
B. Four Factors To Guide Service Determinations in Control Proceedings
Thus, the real challenge in sharpening your inquiry regarding
post-merger service lies in separating the wheat from the chaff. The established
public interest standard allows you to inquire into whether the particular
railroads proposing to combine have the ability and wherewithal to provide good
service to their shippers. Just as you have been able to take a case-by-case
look at the competitive impacts of proposed consolidations in the past, you are
fully equipped to take the same differentiating approach towards the potential
for future service problems.
I propose that the following four factors guide your public interest
inquiry into the potential for post-merger service problems. First, you should
ask whether the railroads proposing to combine are still suffering from any
problems associated with their earlier consolidations. We will be addressing
that factor in our control application. We will demonstrate that both the CN/IC
and BN/SF transactions have now been successfully implemented. Indeed, the CN/IC
merger has already yielded significant improvements in CN's service. For
example, comparing 1998 to the second half of 1999, CN has increased car
velocity by an estimated 10% - 12%. While making these improvements, we have
maintained our safe operating record by following the Safety Integration Plan
("SIP") that we developed with FRA during the control proceedings.
We should not be alone in demonstrating our capacity to implement our
proposed combination. You should require the same from all future applicants.
This kind of frank examination of past problems will help avoid problems in the
future, while also allowing proper combinations to be consummated in an
expeditious fashion.
Second, you should ask whether the proposed transaction is more like
the past consolidations that have yielded efficiencies without service
disruptions, or is it more like past problematic transactions? This is another
factor we will be addressing in our control application. We will demonstrate
that the BNSF/CN combination shares many of the attributes of the more
successful mergers. For example, the BNSF/CN combination is the same kind of
relatively uncomplicated end-to-end transaction as was CN/IC. That was not the
nature of either UP/SP or Conrail/CSX/NS. Similarly, our application will
discuss the similarities of the information technology platforms of CN and BNSF.
And we will also discuss the fact that we will neither be displacing key
operating personnel nor making pervasive "day one" cut-overs of all activities.
The division of Conrail entailed both.
The problems of the past have provided the entire industry with
important lessons about how to avoid service disruptions. In all future control
proceedings, you should assure yourselves that those lessons have been taken to
heart before you approve the proposed transaction.
Third, you should ask whether the combining railroads are committed to
service guarantees that will insure that pre-merger service levels are
maintained or improved. As your hearing notice mentions, Representative Oberstar
has written you about rail mergers, and one of the things he said was that
"shippers are entitled to more assurance than they have received previously that
these mergers will make service better, not worse." I agree, and CN and BNSF are
willing to set a new standard for the industry by guaranteeing service levels
for our shippers.
This is something that should not be limited to only those shippers
served by BNSF/CN. No shipper should have to bear the risk that a combination
might lead to costly and disruptive service interruptions. Instead, it is the
combining railroads that should financially bear the risk. They are in the best
position to realistically assess that risk, and by bearing it, they will also
have the financial incentive to insure that service is not disrupted. This is
the kind of market-based solution that all shippers want and need, and you
should ask whether there is any good reason it is not in place before approving
any further combinations.
Fourth, you should determine whether the proponents of a transaction
have the financial wherewithal to overcome readily any service obstacles that
may appear unexpectedly after a transaction. Our debt free, cost reducing
BNSF/CN transaction will generate cash flows that will augment our current
ability to respond to service difficulties. Future applicants should likewise be
prepared to demonstrate that their cash flows and debt levels will permit them
to respond with alacrity to any service problems that require additional
financial resources.
These four factors are all refinements of the traditional public
interest inquiry that you have applied in the past. They all raise the bar to
future transactions. Yet, some will undoubtedly ask: if the Board was unable to
spot the service issues that ultimately plagued UP, CSX and NS, why should it be
able to do so in the future? The short answer is that the issue was never very
seriously on the table in past cases. In the Conrail division, service was
addressed but it was not the main issue; and it was hardly addressed at all in
UP/SP, where other issues occupied the attention of opponents.
It is unrealistic to expect that such a relatively low level of
attention to service will again be seen in control cases. This is one of the
reasons we want to get to a hearing on the merits in our case. We would like to
hear whether our colleagues in the industry, and our customers, have ideas that
we have not yet contemplated about how to improve post-transaction service.
Certainly, they have had experience with problems that we have not. And we would
appreciate their comments and guidance. This will not come, however, until the
opponent railroads abandon (or are forced to abandon) the notion that they can
persuade you to deny us a prompt and fair hearing and decision on the merits of
our combination.
Raising the service bar and applying it case by case contrasts greatly
- - and, to my mind, favorably - with the undifferentiating approach that the
delay proponents are advocating. A moratorium provides no answer to the
essential questions shippers have about whether any particular combination is
likely to encounter significant service disruptions. And the four factors I
propose make delay unnecessary, because all applicants can address these matters
in their initial applications, as BNSF and CN will be doing. If the Board
decides that it needs more evidence, after the initial development of the record
- - by both the applicants and the interested parties, who can introduce their own
evidence - the Board can cure the deficiency through either supplemental filings
(such as NS and CSX were required to file in CSX/NS, and UP was required to file
in UP/CNW) or rebuttal filings.
Moreover, a moratorium would threaten the consistency, stability and
predictability that the market derives from having settled rules. There was no
moratorium on further combinations when BNSF and CN agreed to their transaction
in December of 1999. To the contrary, only the month before, the Board
terminated a rulemaking proceeding "relating to new procedures for rail
acquisitions, mergers and consolidations," announcing that it would "continue
the case-by-case approach under which, as respects any particular major
transaction, we can adopt a procedural schedule best suited to the full and fair
development of the record for that transaction."(1) With that long-standing
regulatory structure in mind, we negotiated the terms of the consolidation,
initiated the SEC/proxy solicitation process, began Canadian proceedings, and
undertook the Board's control application process, including detailed
implementation planning.
- ----------
(1) Opinion in Ex Parte No. 282 (Sub-No. 19), 1999 WL 1069105 (served
November 24, 1999).
Thus, a moratorium would mean more than just the irretrievable loss of
public benefits amounting to tens of millions of dollars per month. It would
also disrupt the market's belief that it is operating with justifiable reliance
on the clear directions of the Board. A moratorium would instead suggest that
capital market participants who choose to invest in rail are buying into a
regulatory process that might change the rules midway down the very expensive
path to a sound combination. This result would be fundamentally inconsistent
with Congress' goal of expediting the review of Class I control transactions.
Congress emphasized expedition in the National Rail Policy and when it created
the Board in the ICC Termination Act of 1995, and it has never provided the
Board with express moratorium authority.
In short, there is no reason for delay. We urge you to develop a record
and make a decision based on the facts, including facts bearing on the
likelihood of implementation without severe service disruptions. Delay would be
contrary to "the expeditious handling and resolution of all proceedings" that
Congress required in the Rail Transportation Policy. Just as there is no reason
for you to now disregard your past success in administering the public interest
standard, there is also no reason for you to compromise the right to a prompt,
fair hearing and decision that Congress has granted railroads seeking permission
to combine. More time would only be necessary if the Board were to take up the
invitation of railroads such as UP to engage, once again, in the outdated
exercise of government planning that Congress has repeatedly rejected.(2)
- ----------
(2) Imitation is the sincerest form of flattery; so, let me flatter UP here by
noting that much of the modern drive to shorten merger proceedings came from UP.
UP became the arch opponent of the government planning approach to mergers after
the disastrous spectacle of the Rock Island case, which taught forever that
intrusive agency planning takes too long and is an enormous waste of resources
and that such central planning, in the absence of a total market failure, never
produces results any better than what the market produces on its own.
More recently, UP made a persuasive and successful argument in its CNW
control case that claims by the financially precarious SP that the CNW merger
should be put off until the Board had studied the future structure of the
industry, including the proposed BN/SF combination, should be denied because
delay would contravene the Rail Transportation Policy"s mandate that the Board
"minimize the need for Federal regulatory control over the rail transportation
system." That argument is equally persuasive here, and I have attached it for
your convenience.
C. The Future Structure And Financial Condition of The North American
Rail Industry
Finally, there are a few things I would like to say about the future
structure of the North American rail industry and its future financial
condition. There is a great deal of risk associated with this kind of exercise
in predicting the future. Nonetheless, as long as the touchstone for our
predictions remain the public interest standard and not the parochial interests
of one or another group of competitor railroads, the predictions that emerge
will have a proper grounding in the process that Congress has required for rail
consolidations.
I believe that there is a definable public interest here, one that is
easy to see in light of your past regulatory progress. The market-based
regulation of the past two decades has prompted the North American rail industry
to rationalize a patchwork of smaller lines into a much more efficient rail
network. Likewise, the future structure of the industry should also realize the
efficient use of resources. Market-based regulation has harnessed the power of
competition to create the efficient rail network of today, eschewing central
planning as anachronistic and perilous. Likewise, the future structure of the
industry should also be characterized by vigorous competition.
At the same time, however, the efficient rationalization of redundant
rail assets has largely been realized. That is why I believe that we are now
best served by refining the public interest inquiry with a renewed emphasis on
improved customer service. This is the essential focus if rail transportation is
to be more competitive with the other modes that also serve the "just in time"
needs of the modern commercial world.
Attention to customer service will ensure the legacy of a twenty-year
struggle to make the industry efficient enough to survive. However, the service
mandate does not detail any particular industry structure. It is of course
possible that two major North American railroads will emerge, but that
possibility is not a certainty nor even a probability. Nor is there any reason
to believe that the industry structure will ever become static. My belief is
that the railroad industry will continue its long history of changing along with
the economy at large. That is the only way rail can remain a competitive mode.
In recent years, we have seen the rail industry change dramatically
with the economy. For example, short lines have re-emerged as an important rail
sector. Similarly, NAFTA has increased the importance of improved north-south
routes, which was one of the factors behind the Board's approval of the CN/IC
combination last year. Other new forms of competition will undoubtedly emerge to
meet future market needs. Similarly, new capabilities may emerge that will allow
old structures to become effective in ways that are not yet possible.
I do not mean to imply by this that two North American railroad systems
would necessarily be a detriment to the public interest. As your hearing notice
states, the United States already has two dominant eastern railroads and two
dominant western ones. When you addressed the two-railroad structure in your
UP/SP and Conrail/CSX/NS decisions, you found that the conditions of the
industry rendered a two-railroad structure both viable and competitive. Your
logic in these decisions suggests that having two transcontinental U.S.
railroads would not be an inherently anti-competitive structure. Indeed, in
Canada we have long had two transcontinental railroads, and they have a history
of vigorously competing with each other.
I hope that my attempt to provide these answers to your future-looking
questions about industry structure does not blunt my overall points: all of
these issues are the proper province of your case-by-case public interest
inquiry. Whether the precedents I have discussed will hold in any particular
case is a matter of the public interest calculus to be applied in each
particular case.
Indeed, the case-by-case approach to the public interest inquiry places
the proper high level of trust in the two main forces that will continue to
shape the industry in the future as they have done in the past - the market and
the regulators. I believe that these two forces will lead to the right decision
about whether the two transcontinental road structure serves the interests of
the industry and the public interest. The marketplace and the regulators will
only be able to do so, however, when the actual merger proposals are made, and
not before. There is no need for speculative hypotheses when the facts at the
time when a concrete transaction is presented will decide the public interest
question.
We can trust the market's case-by-case approach to the move towards
efficiency. Management and shareholders make decisions one case at a time, and
they don't enter into major transactions and suffer the costs of a year or more
of regulatory review unless they think they are going to make a better company.
If there are predictable and unresolvable problems with execution or
integration, they won't enter into the transaction. There would simply be too
many risks and too many costs.
On this score, I think we are safe in assuming that the marketplace
will provide the best answer to the questions you asked about the future
financial condition of the railroad industry, and whether it will have the
necessary infrastructure, capacity and configuration to meet expected demands.
As you know, we need more capital per dollar of revenue than most industries.
Right now, we at CN have plenty of capacity, but as we grow, we need to be sure
that the markets will respond to agreed to expanded capacity. If you continue to
assure the railroads an economically rational and predictable system of
regulation and an opportunity to have a competitive return on capital, then we
and the rest of the railroad industry will be able to attract the capital needed
to maintain our financial condition and expand our infrastructure to meet
demand. Railroads will not be able to do so, however, if you let protectionist
politics disrupt the forces of the marketplace or change the regulatory ground
rules on which the market predicates its decisions. That was the compelling
lesson of the pre-Staggers Act era.
The question of the financial stability of the industry has come up a
lot recently in commentary on these hearings. Let me address that issue
directly. First, I must note that while stock prices for some carriers are at
the lowest point in many years, there is no carrier that is threatened with
collapse or otherwise so financially weak that the travails of its shareholders
pose a risk to the public interest.
Second, the one thing that we have learned over and over again in
market economies is that capital requirements are met where there is adequate
demand for that capital and there is no threat that the government will seek to
regulate the financial success of industry participants directly. By contrast,
when the government starts to handicap the market, picking winners and losers,
we know that we are going to get into trouble.
Third, this Board has made it possible to attract capital to our
industry despite below market returns because investors have been assured 1)
that if market demand is consistent with their expectations and the companies
execute well, they would eventually get their returns and 2) that the Board
would not intervene in the market except to protect the public from the
consequences of transactions that would be adverse to safety, the environment or
competition and other public interests.
Now we are hearing arguments for market intervention in the form of a
merger moratorium that would be designed to protect particular companies rather
than the environment for long term capital formation. That sort of intervention
would tell investors that they cannot rely on the returns warranted by
competitive success. Investors would find that regulation had become entirely
unpredictable to them, because it would not stem from economic principles but
from transitory circumstances of companies favored by the regulation.
Thus, the arguments for circumstantial intervention in the markets are
a sure formula for dramatically reducing the industry's capacity to attract
capital. Investors will not risk capital if they feel that the successes of the
companies they invest in will be curtailed to protect competitors. They can
instead invest in the many other industries where vigorous competition is
rewarded and not punished. So, if you want adequate capital in this industry,
you should stick to your proven formula of letting markets work, stepping in
only when market failures pose a real and lasting threat to the long term public
interest.
We can trust the market to decide when and if a transcontinental
consolidation proposal should be made. So long as we stick to a case-by-case
approach to consolidations that takes into account all of the real consequences
for transactions, we can also trust this Board to undertake a rigorous public
interest review of any such proposal. The Congressional mandate is clear; and I
believe that the Board has followed it faithfully in the past and will continue
to do so in the future. In this way, the Board is like the shareholders and
companies: if there are predictable and unresolvable problems with a
consolidation, the Board won't allow it to go forward.
V. Conclusion
The Board is the steward of the public interest. Over the past twenty
years, the public interest inquiry has allowed the railroad industry to remake
itself from a balkanized patchwork into a more efficient network. We must
continue to enhance that network whenever possible. The Board should preserve
the opportunity for progress by 1) denying calls for a moratorium on
consolidation proposals and 2) by promptly addressing each new proposal on its
own merits in a public interest inquiry shaped to focus more explicitly on
post-merger shipper service.
CN and North American Railways, Inc. have filed a registration statement on
Form F-4/S-4 with the United States Securities and Exchange Commission (SEC) in
connection with the securities to be issued in the combination. The
registration statement has not been declared effective. This filing also
includes the preliminary proxy statement for the shareholders' meeting to be
held for approval of the combination. Investors should read this document and
other documents filed with the SEC by CN, BNSF and North American Railways,
Inc. about the combination because they contain important information. These
documents may be obtained for free at the SEC Website, www.sec.gov, or the
website of the Canadian Securities Administration, www.sedar.com. Other filings
made by CN on forms 40-F and 6-K may be obtained for free from the CN Corporate
Secretary at 514.399.6569. Other filings made by BNSF on forms 10-K, 10-Q and
8-K may be obtained for free from the BNSF Corporate Secretary at 817.352.6856.
For information concerning participants in CN's solicitation of proxies for
approval of the combination, see "Certain Information Concerning Participants"
filed by CN under Rule 14a-12. For information concerning participants in
BNSF's solicitation of proxies for approval of the combination, see "Certain
Information Concerning Participants" filed by BNSF on Schedule 14A under Rule
14a-12.
This letter contains forward-looking statements regarding future events and the
future performance of CN, BNSF and the combined company that involve risk and
uncertainties that could cause actual results to differ materially. Those risks
and uncertainties include, but are not limited to, customer demand, industry
competition and regulatory developments, natural events such as severe weather,
floods and earthquakes, the effects of adverse economic conditions affecting
the Companies' shippers, changes in fuel prices and the ultimate outcome of
shipper claims, environmental investigations or proceedings and other types of
claims and litigations. We refer you to the documents that CN, BNSF and the
combined company file from time with the United States Securities and Exchange
Commission, such as a registration statement related to securities to be used
in connection with the proposed business combinations, as well and the
Companies' form 10-K, form 40-F, form 10-Q, form 8-K and form 6-K reports,
which contain additional important factors that could cause their results to
differ from their current expectations and the forward-looking statements
contained in this letter.
