Canadian Pacific Railway, Kansas City Southern reach $27.2 billion deal after long bidding war

Canadian Pacific Railway said Sept. 15 it will acquire Kansas City Southern for $27.2 billion in the biggest North American railroad merger in two decades and pay an additional $1.4 billion to rival Canadian National to cover the breakup fees for its terminated deal with KCS.

The formal agreement to create the combined "Canadian Pacific Kansas City" with a Calgary headquarters comes after Canadian National opted not to make any more counteroffers and withdraw from the roughly six-months-long bidding war.

The Canadian Pacific-KCS combination would create the only end-to-end rail network from the Canadian oil sands into Mexico, including crude-by-rail to the US Gulf Coast and refined production shipments into Mexico. The CP-KCS combination is expected to prove more beneficial thanks to the revised United States-Mexico-Canada Agreement trade deal.

Going back to March, CP originally planned to acquire KCS for more than $25 billion, only for KCS to dump CP for CN's much larger offer. However, at the end of August, US regulators intervened and rejected a voting trust considered critical for closing CN's nearly $30 billion deal because of anti-competition concerns. Afterward, KCS decided to go back to CP and its increased offer.

"Our path to this historic agreement only reinforces our conviction in this once-in-a-lifetime partnership," said CP CEO Keith Creel in a statement. "We are excited to get to work bringing these two railroads together. By combining, we will unlock the full potential of our networks and our people while providing industry-best service for our customers."

Creel would remain CEO of the combined company. He added, "This perfect end-to-end combination creates the first U.S.-Mexico-Canada rail network with new single-line offerings that will deliver dramatically expanded market reach for CP and KCS customers, provide new competitive transportation options, and support North American economic growth."

With only seven major freight railroad companies left in North America, CP's argument was that only the two smallest, CP and KCS, should be allowed to merge because their networks do not overlap and meet neatly in Kansas City, Missouri. Canadian National has more routes that run parallel with the KCS network.

While remaining the smallest of the major US railroads by revenue, the combined company would still count 20,000 miles of rail, employing close to 20,000 people, and generating total revenues of about $8.7 billion based on 2020 actual revenues, the companies said, adding that the merger is expected to create more jobs and trigger efficiency, service and environmental improvements.

The companies touted the merger's creation of new single-line routes linking energy, chemical and merchandise shippers to more quickly and efficiently connect origin and destination facilities and reach new markets and global consumers.

The US Surface Transportation Board, which rejected the CN voting trust, previously approved a trust for the CP-KCS deal back in May.

The STB decided the now-defunct CN-KCS deal carried too many anti-competition risks and could set a precedent that would quickly trigger more consolidation within the rail industry.

CP and KCS said they expect to close the deal in the voting trust during the first quarter of 2022, but the acquisition would not be complete until the second half of 2022 after receiving full STB approval.

Regulatory questions

The White House recently expressed concerns about any more major railroad consolidation in a July executive order. That order came after the Justice Department had already stated its opposition to the CN-KCS deal and after the STB indicated the deal would face a high degree of regulatory scrutiny.

Also in question are STB's updated merger regulations from 2001 that require major deals to show they are in the public interest. Since then, no major rail mergers have come to fruition, not counting Berkshire Hathaway's 2010 acquisition of US leader BNSF.

The STB already waived the 2001 regulations to the CP deal with KCS because KCS is the smallest major US railroad and is more regionally focused with less overlap with competitors.

Still, even the CP-KCS has no regulatory certainty it will be approved either, although the hurdles are definitely smaller.

Canadian National windfall

CN confirmed Sept. 15 it was stepping away from the bidding war and will receive $1.4 billion in breakup fees and reimbursements.

CN CEO JJ Ruest expressed disappointment, but said it is the best option.

"We believe that the decision not to pursue our proposed merger with KCS any further is the right decision for CN as responsible fiduciaries of our shareholders' interests," Ruest said in a statement. "CN will continue to pursue profitable growth and opportunities for excellence as a leading Class I railroad, and we look forward to outlining more details on our strategic, operational and financial priorities in the near future."

Canadian Pacific will pay KCS's $700 million breakup fee to CN, while also reimbursing CN an additional $700 million for the breakup fee that was previously paid to CP when KCS terminated its original deal earlier this year.