Tranz Rail at war on many fronts

By FRAN O'SULLIVAN

Tranz Rail chief executive Michael Beard does not like to engage in takeover talk.

Not when it relates to his own company.

Investment bankers looking to stitch up deals to put a new cornerstone shareholder in charge at the beleaguered national rail operator should beware.

"The heavy fruit was picked early on," says Beard.

The consortium that bought New Zealand Rail from the National Government in 1993, then floated Tranz Rail three years later, benefited hugely as a participant in the first round of major privatisations of global rail assets.

"Because Tranz Rail was privatised early on in the piece, we're now on to the second stage of fruit-picking and it's quite a bit higher up the tree," says Beard. He says the most likely new buyer for a cornerstone stake would be another rail operator.

Tranz Rail's two remaining consortium members - merchant bank Fay, Richwhite and Wisconsin Central (now under Canadian ownership) - sold their major stakes in February at share prices double recent market prices.

The shareholders quit their stakes just months ahead of an admission by Beard and his new chief financial officer, Wayne Collins, that Tranz Rail would not "meet market expectations" when it releases its financial result for the June 30 year today.

There have since been two "please explain" notices from the Stock Exchange sparked by dramatic slides in the share price. Shareholders have not taken kindly to the company's responses.

The Securities Commission is investigating whether it should launch an insider trading inquiry after a request by the Shareholders Association to examine how much information about the company's deteriorating fortunes was available to the former major shareholders ahead of their share selldowns.

Under its feisty new chairwoman, Jane Diplock, the commission is taking a hard-nosed approach to its inquiries. But officials cannot say when they will issue a public report.

Also under examination are Tranz Rail's appalling market disclosure practices.

The Stock Exchange's market surveillance panel is heading that particular inquiry. Institutional shareholders that bought shares from Fay, Richwhite and Wisconsin Central's owners simmer over the fact that their value has since halved, although they recognise that Tranz Rail still has one significant strategic asset - its monopoly over the management of the national rail network.

Unlike the governments of other nations, Jim Bolger's National Administration did not place the network into a separate state-controlled company before privatising New Zealand Rail.

That factor alone gives Tranz Rail inherent strategic value if the Government opens negotiations, but it is a long-term value.

The reality is that Tranz Rail is now locked in a race against time to get itself back into good financial order - or face a major showdown with its institutional shareholders, customers and bankers.

That race has seen Beard and Collins battling on many fronts in recent months.

The most controversial issue has been suggestions by accounting experts such as Canterbury University's Allan Robb that Tranz Rail still needs a balance sheet cleanup despite its moves to be more open about sale and leaseback arrangements for major assets. There are questions about whether the company's decision to refocus has just been a giant asset-stripping operation to reduce debt and ensure dividends for shareholders.

The Tranz Rail pair have been negotiating with the company's banking syndicate over the coming renewal of a major credit facility, and frank talks have been held with credit rating agency Standard & Poor's.

The big downturn in profitability has seriously destabilised the company and raised questions over the strategy which Beard has employed since he became chief executive in May 2000.

If Beard is to fulfil his dream of having Tranz Rail remain in widespread ownership by institutional shareholders and "mum and dad" investors, he must quickly get some runs on the board.

The critics are quick to home in: Beard is too focused on the big picture; has too many balls in the air at once; is not sufficiently hardnosed at operational level. There are sustained doubts whether he will be able to deliver on ambitious three-year forecasts after his failure so far this year.

In an interview, Beard showed himself rueful about the size of the task he had taken on in transforming the rail company into a modern freight operator.

He said changing the culture had proved difficult - and costly - nothing like his smooth ride as chief executive of ANZDL, a shipping company with headquarters in Los Angeles.

"The naive expectation that I would come in and show them this bright new future and they would all fall down before me and say 'Yes' and change just like that just isn't the reality," he said.

The relationship with major users has been more difficult than he expected. They have formed their own action group to lobby the Government to break Tranz Rail's monopoly.

"Rail has had a very combative history with a lot of its key customers. It won't turn around overnight. As they see we are serious about our intents and want a good relationship, slowly but surely they will come in the right direction.

"Freight is a commodity industry. There is no sex appeal in paying more or over the odds. It is a very price-driven industry.

"We now have an open-book policy to lay it on the table. When we weren't transparent, they always had the fear we were gouging them ... The truth is we weren't, but we never chose to give them information."

The trouble is that some of the customers may now be eyeing Tranz Rail as a takeover target. This is no surprise to former chairman Ed Burkhardt, a key player in the consortium in 1993.

A classic cage-rattler, Burkhardt was ousted from Tranz Rail after a boardroom coup at Wisconsin Central three years ago.

But he still keeps a close eye on his former baby. He is pals with former Tranz Rail managing director Francis Small and keeps close contact with Finance Minister Michael Cullen's officials.

Burkhardt believes the root cause of Tranz Rail's problems is the decision to re-engineer the business to become a freight company. He says the debate raged for years at Tranz Rail board level.

"Initially, it was the Fay, Richwhite and Berkshire Partners board members pushing to clean out management, appoint non-railwaymen to the key positions and begin a programme of asset sales and financial engineering.

"This was resisted by the Wisconsin Central board members, at that point following my lead. Francis Small and I saw eye-to-eye on what was required, which was continuous service improvement and cost reduction, leading to improved competitiveness and increased market share."

Beard says that when he took on the job, there was a strong need for change. His stated goal is to be New Zealand's premier line-haul freight carrier providing high-quality service at competitive prices.

But Burkhardt believes the only way to optimise results in a light-density network is to go after every sector of transport business "as long as the revenues of each piece of business exceed the out-of-pocket cost of handling such business".

"This will result in a wide range of profitability between business segments, ranging from highly profitable to marginal profitability, but all worth handling as they contribute to the fixed costs of the corporation."

Burkhardt's own reign was clouded by a marked downturn in the late 1990s which he puts down to the Asia crisis.

Institutional shareholders such as Infratil's Lloyd Morrison have queried his self-interest on thisscore.

But Burkhardt says the correct response was to hunker down, reduce costs and wait it out, but the timing of the crisis coincided with the desire of Berkshire and Fay, Richwhite to get out.

Ultimately, Burkhardt and Small lost the argument after the core Wisconsin Central board members deserted to the other side.

Small was sidelined and Beard appointed to carry out board strategy.

The debate will continue - this time outside the boardroom. The major customers are still not convinced that the grand strategy is working.

Businessman Wayne Walden has been appointed chairman - marking a line in the sand from the Fay, Richwhite/Wisconsin Central stewardship.

"We need to have a growth story," says Beard.

It will be up to Walden to ensure Bearde delivers on it.