In the biggest stock offering in U.S. history, the federal government this week will sell its 85% ownership in Consolidated Rail Corp. to the public.
Conrail, as the company is called, is the freight railroad that was put together in 1976 from the remnants of the Penn Central and five other bankrupt railroads to serve a 14,000-mile route system extending from Boston in the Northeast to Louisville in the south and Chicago and St. Louis in the Midwest.
And it has done a good job. When Conrail was formed, its tracks and boxcars were in wretched shape--the failed combination of the old Pennsylvania and New York Central railroads having gone bankrupt six years earlier. But with government assistance and some pretty decent management, Conrail has made a comeback, operating at a profit every year since 1981 on roughly $3 billion in annual revenues. Its stock will be sold to the public at a price ranging between $26 and $29 a share, or a maximum of $1.7 billion for the 58.75 million shares the government is selling.
Is the stock a buy? That depends. Short term, for several reasons, it may be. Investors, first of all, are enthusiastic. The six underwriting firms, led by Goldman, Sachs, announced recently that they were raising the offering price from $26 to $29 because investors were expressing so much interest.
Secondly, the Conrail issue, at roughly 10 times the company's per-share earnings last year, is modestly priced compared to the stocks of other railroads, including those of its direct competitors, the Norfolk & Southern and CSX, which sell at 12 and 13 times earnings respectively. "With the rising market, the government picked a terrific time to sell," notes analyst James Voytko of Paine Webber. "It could be attractive."
Long term, however, could be another question. Conrail, after all, is a railroad, and railroads are not growth businesses. In fact, most railroad companies--Conrail included--are shrinking, cutting back operations to levels at which they can make money. And when other railroad companies haven't been cutting back, they have been buying other businesses. Norfolk & Southern and Union Pacific now own trucking companies; CSX bought Sea Land, a shipping and container company.
There's no magic in mergers and acquisitions, of course, as so many companies have learned. But for railroads faced with inadequate returns on stockholders' investment--returns of 7.5% to 9%, comparable to bank certificates of deposit, for even good companies--the urge to merge is at least understandable.
Purely a Railroad
Conrail, however, remains purely a railroad, competing with trucks to haul the automobiles and chemicals of the industrial Midwest. You wouldn't call its business robust. For three decades before 1982, the company reports, freight volumes of Conrail and its predecessor companies declined. Conrail spent to improve its system and stopped the decline, and it brought its finances into line by, among other things, reducing the work force from 90,000 to 34,000.
But its freight haulage has not grown since 1984, and, indeed, the question asked by the Transportation Department in the years leading up to this week's stock sale was whether Conrail could survive on its own if recession hit the economy.
But if that's the question, why is the government selling stock to the public? Because politics defeated economics in the matter of Conrail. For two years before last August, Norfolk & Southern, one of the main railroads serving the Southeast, wanted to buy Conrail, consolidate some lines and create a strong North-South railroad in the East.
Transportation Secretary Elizabeth H. Dole approved the idea. But Conrail's management fought the merger, and Rep. John Dingell (D-Mich.) head of the House Energy and Commerce Committee, killed the deal. Dingell objected on grounds of competition, which is why he and his staff inserted a clause in the Conrail stock prospectus effectively decreeing that the company cannot merge or be acquired for three years.
Is monopoly a danger in railroads? Not really, but distrust of railroads has a long history among freight shippers and politicians, who fear rate gouging if railroads merge and consolidate service.
That fear had meaning in the robber baron era of the last century, but it's dated now. And it ignores the Interstate Highway Act of 1954, the 20th Century political event that brought the railroads tough competition from the trucking industry. That law built the truckers rights of way and changed the nation's freight patterns. It made the 18-wheeler the dominant freight hauler in our economy and made the railroad in many places a misty antique.
So, having done that to the railroads, Congress now wants to sell you one.