Blogs & Comment

Canadian Pacific's regime-change train has left the station

Activist investor William Ackman's drive to draft Hunter Harrison to run the railway has serious momentum, despite the obstacles—such as an incumbent CEO.

(Photo: Spyros Bourboulis)

It’s not easy being Green, meaning rail executive Fred Green, not Kermit the Frog.

As CEO of Calgary-based Canadian Pacific Railway, Green is being pressured to leave the corporate swamp by activist shareholder William Ackman, who wants the struggling railway placed in the hands of industry legend Hunter Harrison, former head of CP’s Montreal-based rival, Canadian National Railway Co.

Ackman runs New York hedge fund Pershing Square Capital Management, which invests in companies that the fund’s managers consider undervalued for reasons that can be addressed via restructuring or management change. In late October, following a 31% decline in the value of CP shares since the beginning of 2011, Pershing disclosed it had acquired a significant stake in Canada’s second largest rail carrier. It has since increased to more than 14% of shares outstanding.

“Our plan,” Ackman wrote in a letter to CP’s board, “is to transform Canadian Pacific from the worst performing railroad in North America into one of the best by effectuating a cultural and operational transformation of Canadian Pacific, which begins with a new leader.” He added that he thinks “the vast majority of the company’s employees, shareholders, analysts, and other stakeholders” would support replacing Green with Harrison.

Green began his CP career in 1978 and rose up through the executive ranks, filling leadership positions in operations, sales and marketing. Since being named CP’s head conductor in 2006, the company’s annual profit has dropped 18%. And its ratio of operating costs to sales is now higher than all of CP’s North American peers.

Harrison, who grew up in Memphis partying with Elvis at Graceland, became a railroader oiling the underbelly of rail cars in 1964. He was CEO of Illinois Central when it was acquired for $3 billion by CN in 1998 under the leadership of former CN boss Paul Tellier. And since Harrison had turned the U.S. railway into the most efficient railway in North America, while revolutionizing the business by introducing the concept of scheduled freight service, Michael Sabia, who was CN’s CFO at the time, convinced Tellier to ask Harrison to stay on as chief operating officer.

Tellier offered Harrison the job in the dark, over dinner at Montreal’s exclusive Mount Royal Club, during the city’s infamous 1998 ice storm. Harrison told Tellier he was a no-bullshit guy who only knew one way to run a company. And he made it clear that he had no intention of learning another.

With equally massive egos, nobody expected the two men to get along. And they didn’t, at least not always, but that didn’t hurt the company. “Our styles are very different,” Harrison told me when I profiled him for Canadian Business in 2003. “I think a lot of people were waiting for a bomb to go off. To both our credit, that never happened.”

True enough. With Tellier managing corporate affairs and Harrison running the trains, they worked wonders. Despite frequently butting heads, the two men transformed the former basket-case Crown operation formed in 1919 into a shining example of private-sector efficiency, partly because they treated each other with respect. Harrison once threatened to beat the crap out of a labour leader for being rude to Tellier—not because executives deserve respect, but because people deserve respect.

When CN started setting the standard for railway performance, industry watchers joked that the company was lucky enough to have two of the best CEOs in the business. Thanks to Harrison’s performance bonus, of course, the working-class bulldog from Memphis was often paid more than the Oxford-educated Canadian. And when Tellier left CN to run Bombardier in 2003, Harrison proved he had what it takes to efficiently run boardrooms as well as trains.

Nevertheless, as Bloomberg reported, Ackman is pushing the limits of shareholder activism by aggressively and openly pushing CP’s board to hire Harrison because the company already has a leader in place and there appears to be limited boardroom support for a management shakeup.

CP’s board hasn’t actually come out and said it intends to stand by Green come what may. But in a letter to Ackman that was filed with regulators, chairman John Cleghorn tossed cold water on the proposal to ditch Green and hire Harrison by noting no CP director has expressed enthusiasm for the idea.

Cleghorn has suggested the proposal is moot because Harrison isn’t even in a position to take the top job at CP thanks to a non-compete clause in his CN retirement package. And he has accused Ackman of trying to use the media to push a self-serving agenda. But this battle isn’t over.

Keep in mind that Ackman is the guy who successfully pushed for changes at J.C. Penney after becoming the Texas-based retailer’s largest shareholder last year. And he clearly thinks there is a way to get Harrison on board. For his part, Harrison, who has so far turned down all requests for comment, obviously knows his legal obligations better than most and he is reportedly open to the idea of running CP.

Harrison has a history of upsetting Canadians. When he replaced Tellier, the move didn’t sit well with Quebec separatists, who cringed at the thought of an American running part of Quebec Inc. His early attempt at French didn’t help.

“Bo jer, Montreal,” Harrison twanged when first addressing CN shareholders at an annual meeting. But most people in the room, French and English alike, soon forgot about politics when Harrison started speaking about improving railway performance, which he has repeatedly proved he can do like nobody else in the business, so long as he is allowed to do things his way.

The mere suggestion that CP could be put in the hands of Harrison was enough to convince JPMorgan Chase analyst Thomas Wadewitz to raise his rating on CP (to neutral from underweight). “If Mr. Harrison is appointed CEO, it would provide a clear catalyst for operating improvement and margin expansion,” he explained in a research note. According to Edward Jones analyst Brian Yarbrough, Harrison’s operational brilliance could eventually boost CP earnings by more than a $1 billion a year.

Simply put, market reaction to Ackman’s proposal has put CP directors in a tough position since CP shares took off like a speeding locomotive after investors learned of the campaign to recruit Harrison.

And that’s why it ain’t easy being Fred Green these days.