When a bidding war put the fate of Santa Fe Pacific Corp. in doubt, the railroad's management turned to its banks.
The company announced a bank-backed $760 million stock repurchase plan boosting the value to Santa Fe shareholders of the final offer, which was approved this month.
It was just one way in which bank loans allowed the bidders to drive up the price for the Schaumburg, Ill.-based freight carrier.
Separate bank groups backing Union Pacific Corp., the hostile bidder, and Burlington Northern, the eventual winner, helped jack up the price to $3.85 billion, about $1.15 billion more than Burlington's initial offer.
It's unusual to have a stock repurchase as part of an acquisition, said Scott Flower, a railroad analyst at PaineWebber Inc. But he added it was "not surprising" given the heated competition.
"Our willingness to repurchase shares is clearly an indication of our commitment to the strategic transaction with Burlington Northern," said Patrick J. Ottsenmeyer, a senior vice president at Santa Fe. "It was driven by the nature of the bidding."
The readiness with which the railroads turned to banks to fuel successively higher bids demonstrates the mutual attraction of banks and investment grade companies. Pricing and repayment schedules made bank loans the method of choice for the railroads, said Mr. Ottsenmeyer.
For their part, banks were eager to participate in these multi-billion dollar investment grade deals. In several cases, banks participated in competing bids, ensuring themselves a position with the winning bidder no matter the outcome, and maintaining relationships with all three big western railroads.
A banker familiar with one of the loans suggested that banks were not just taking a Machiavellian approach to the bidding war by fueling progressively higher bids, but rather were ensuring the continued success of their own accounts by backing both bids.
"The transaction, no matter which way it went, would eliminate one of the major class one railroads from the bank market," said a banker. "I don't think anybody wanted to lose a relationship."
Several banks, however, contacted the railroad companies before making any commitments to competing loans.
"In some cases, the banks wanted to may sure it was okay with us," said Mr. Ottsenmeyer. "We were confident and comfortable with the so-called Chinese wall mechanism. We felt the banks that had been long-term relationship players to Santa Fe could continue to do that and support the needs of their other customers as well."
There was no overlap among the five lead banks on the Santa Fe loan and the three lead banks on the Union Pacific loan.
One of the most significant concern to bankers was the potential regulatory rejection from the Interstate Commerce Commission.
In the bidding process, Union Pacific had arranged to put Santa Fe in a trust until the merger received approval. Bankers expressed some concern with that limitation.
"We would rather see management controlling the company before 31 months (the anticipated regulatory review period)," said a banker close to the Union Pacific loan. "Union Pacific, however, was such a strong company that everyone got comfortable with the regulatory issues pretty quickly," said the banker.
A banker familiar with the Santa Fe loan said that the 20% up-front fees against the deal's failure was low for a takeover defense, but the appeal of the deal outweighed reimbursement concerns.
The readiness of banks to accept a potentially lower fee and of Santa Fe to assume a $1.56 billion loan, half of which funded the repurchase, was a testament to the strength of the commitment to the deal by the railroad and its bank group.
Denis Springer, the chief financial officer and senior vice president at Santa Fe, said that while there were strategic discussions about arranging the terms of the merger, Burlington and Santa Fe arranged their own, independent facilities. "We had to pursue the financing on our side and they on theirs," said Mr. Springer. "Until there is regulatory approval, we need to act as independent companies."
The companies do not anticipate any problems paying down the debt. "Burlington Northern and Santa Fe are assuming an incremental debt of $1.25 billion to repurchase shares," said Mr. Ottsenmeyer. "Both companies are solid investment grade companies and we expect the combination to be stronger than either company individually."
The market anticipates a successful regulatory review process. In hindsight, bankers suggested that route overlap between Union Pacific and Santa Fe would have created more regulatory problems than are expected for Burlington Northern.
Burlington Northern and Santa Fe requested and were granted an accelerated regulatory review process, which could be concluded by year end.
A quick merger approval could spark a round of mergers between East Coast and West Coast railroads - and new lending opportunities.
"The big eastern railroads have been waiting to see what shapes up in the West. Now that the Burlington Northern-Santa Fe deal is done, we will see both the new combination and Union Pacific jockeying to make a deal with other short lines and with the eastern railroads."
Another banker pointed out that Union Pacific has a great deal of "dry powder" ready for its own acquisitions.
PaineWebber analyst Scott Flower discounted an immediate spate of acquisitions. "It doesn't make a lot of sense for Union Pacific," said Mr. Flower.
Mr. Flower also doesn't see any big forces driving east-west consolidation.
Railroad followers who expect further deals soon acknowledge that "soon in the railroad industry is five years."
