Calgary Alberta - When Bill Ackman from New York came on the scene at Canadian Pacific Railway Ltd., Bill Girard from Toronto knew it would mean trouble, eventually.
 
In the four years since Mr. Ackman became Canadian Pacific's biggest shareholder and put his own management team in place, the bonds have benefited as the company's efficiency and profitability improved.
 
That looks set to change as Canadian Pacific said this week it was ready to let debt levels rise, diluting the value of its bonds, to return money to shareholders such as Mr. Ackman.
 
"When these guys come in to these companies, it's rarely a good thing for bondholders," said Mr. Girard, who holds a "marginal" amount of Canadian Pacific bonds in the $21 billion he manages for 1832 Asset Management LP.
 
"This whole share-buyback binge is a little bit out of hand in my credit-focused mind.
 
Companies are manufacturing earnings per share growth using debt and cash."
 
From Apple Inc. to Monsanto Co., sacrificing bondholders to boost share prices has grown more common in the U.S.
 
In Canada, a rating company last month called changes to Enbridge Inc.'s corporate structure and distribution policy a "permanent shift" to favour shareholders over bondholders.
 
And two years ago, Tim Hortons Inc. bowed to activist investors' demands to use debt to buy back shares.
 
John Pinette, a spokesman at Mr. Ackman's Pershing Square Capital Management, declined to comment.
 
Calgary-based Canadian Pacific's "strong investment grade credit ratings, underpinned by a robust business model, excellent liquidity, and prudent financial policies, provide ample protection to our bondholders," Mark Erceg, chief financial officer, said in an e-mailed response to questions.
 
The company is ready to move ahead with its share-repurchase program after renegotiating a bond covenant that limited debt levels, Mr. Erceq said on a 21 Jul 2015 earnings call.
 
The railway, which paused its buybacks this year to renegotiate the covenant terms, is prepared to let its debt-to-earnings ratio rise above 2.5 times from 2.2 times as it continues buying shares, he said.
 
Canadian Pacific has bought back 3 million shares and may buy more than 6 million additional shares under its repurchase plan.
 
The company has funded the buybacks almost entirely with cash from operations, tapping the bond market only once, for $700 million this year, since Mr. Ackman's management team came in.
 
That's about to change, said Joel Levington, an analyst with Bloomberg Intelligence in New York, who said in a report Thursday that Canadian Pacific may issue as much as $1.4 billion to fund buybacks, sending leverage to 2.3 times from 2.1 times at the end of the second quarter.
 
"They've knocked off a lot of the low-hanging fruit," he said in a telephone interview.
 
"Adding more debt is never a great thing if you're a bondholder."
 
Canadian Pacific's bonds, totalling $4.4 billion, have seen the premium investors demand to hold them over government debt rise faster this year than the average among transportation companies with U.S. debt, including competitor Canadian National Railway Co., according to Bank of America Merrill Lynch data.
 
Since May 20, when Canadian Pacific chief operating officer Keith Creel said they were pausing their buyback until they renegotiated the debt-level covenant, the spread on its most recent 10-year note has widened 24 basis points, while the previous 10-year issued in 2011 has widened 27 basis points, according to data compiled by Bloomberg.
 
The share price has fallen 19 percent since the beginning of May.
 
Even with the recent declines, Canadian Pacific's stock is still up more than 200 percent since its 2011 low, before Mr. Ackman revealed his stake.
 
Much of those gains have been due to the improvements to the business that Mr. Ackman drove, such as longer trains, shorter times idling at stations, and centralized train control, according to Mr. Levington.
 
These changes prompted Standard & Poor's to raise Canadian Pacific's credit rating twice last year to BBB+, the third-lowest investment grade ranking.
 
Mr. Erceg told investors this week Canadian Pacific can boost leverage to fund buybacks without affecting its credit rating.
 
"The rating definitely does have room within it for some shareholder returns and some increase in leverage," Jamie Koutsoukis, an analyst with Standard & Poor's who covers the company, said Thursday from Toronto.

Ari Altstedter and Greg Quinn.

       

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