A merger between Canadian railway CN (NYSE: CNI) and Kansas City Southern (NYSE: KSU) would created a formidable opponent for what should be the industry’s largest threat: long-haul trucking, CN executives said Tuesday morning in their pitch to acquire Kansas City Southern (KCS).
“What’s really missing in North America at this point is a true north-south railroad … that can really rival with truck,” said CN President and CEO JJ Ruest in a call explaining the bid to Wall Street analysts and investors.
CN sees $8 billion in market opportunities post-merger, including a $6 billion truck-addressable market with rapid future growth resulting from the reshoring trend and the trade agreement among the U.S., Canada and Mexico, according to Ruest and CN’s PowerPoint presentation.
CN’s $33.7 billion cash-and-stock offer to acquire KCS comes less than a month after KCS and Canadian Pacific (NYSE: CP) said CP was seeking to acquire KCS for $29 billion. The new CP-KCS railroad, pending regulatory and shareholder approval, would be named “CPKC.”
CN’s offer entails providing KCS shareholders $325 per common share based on current market prices, which equals a total enterprise value of $33.7 billion, including the assumption of approximately $3.8 billion of KCS debt.
As with CP, CN’s proposed acquisition would need approval from the Surface Transportation Board (STB) and from KCS shareholders. Should the merger proceed, KCS would keep its name and Kansas City, Missouri, would serve as the operating headquarters for the combined CN-KCS operations.
CN’s offer stressed the benefit of creating a railroad that would have a significant presence in Canada, the U.S. and Mexico, particularly at a time when the three countries have set a trade agreement in place and all three are seeking economic recovery post-coronavirus pandemic.
Broader industry efforts at nearshoring are another factor that makes a merger between KCS and CN timely, Ruest said.
CN said it is the “better partner” and is putting forth the “better bid” in its offer to acquire KCS, in part because its bid doesn’t need CN shareholder approval, unlike CP’s bid.
Should the offer proceed, CN expects STB to complete the review of its merger by the second half of 2022.
Particular regions and lines that could benefit from a CN-KCS merger are those where there are significant opportunities, including Kansas City to the East Coast via Chicago, as well as cross-border traffic from Lazaro Cardenas in western Mexico to Houston. Other opportunities would lie between points in Mexico to points in the Upper Midwest, such as St. Louis, Michigan, Chicago, Ohio and southern Ontario.
Thoughts on regulatory approval
One question will be whether KCS would seek to exempt itself from post-2001 rules governing Class I railroad mergers and acquisitions. The newer rules seek to look at whether a merger would enhance competition. Because of its size at the time, KCS was granted a waiver from these rules, and KCS and CP have been calling for STB to allow KCS to maintain that exemption.
CN, which was one of four Class I railroads that argued before STB that the proposed CP-KCS merger should be reviewed under the post-2001 new rules, said it would be prepared to go through the regulatory process under either format.
Like its competitor CP, CN would seek to form a plain vanilla voting trust as part of its process to acquire KCS. CN also said it needs to discuss with KCS leaders and its shareholders to further define what synergies might result.
“While we have not been afforded the opportunity to conduct confidential due diligence on KCS, we have spent considerable time and resources analyzing a potential combination of our two companies,” CN said in a Tuesday letter to KCS’ board of directors. “We are convinced that a transaction between CN and KCS on the terms outlined in this letter is clearly superior to the proposed transaction with Canadian Pacific Railway Limited (‘CP’) and constitutes a ‘Company Superior Proposal’ under KCS’ merger agreement with CP.”
KCS confirmed in a release Tuesday that it received “an unsolicited proposal” from CN that included a cash-and-stock transaction valued by CN at $325 per KCS share. The railroad also noted that it entered into a merger agreement with CP.
“The KCS board of directors will evaluate CN’s proposal in accordance with the terms of KCS’ merger agreement with CP, and will respond in due course. The KCS board of directors has not made any determination with respect to CN’s proposal at this time,” KCS said.
Meanwhile, CP put out a statement Tuesday saying that it has submitted additional letters to STB in support of the CP-KCS merger, bringing the total to over 405 supporters. The letters are from Bartlett Grain, Port of Milwaukee and Asociación Mexicana de la Industria Automotriz A.C., among others.
CN said Tuesday morning that it opted to jump into a merger and acquisition at a time that KCS is able to “crystallize its value,” according to Ruest.
“It’s not very often that a Class I becomes available,” Ruest said. There’s a bright future for a continental railroad that runs north-south, he said.
CN’s website describing the proposed merger is available here.
Initial Wall Street reaction
Wall Street analysts are still digesting the proposed merger, although initial reaction from Deutsche Bank analyst Amit Mehrotra noted that the CN-KCS merger could face more regulatory scrutiny because CN is a larger company than CP.
Another question is how KCS shareholders will review the value of both merger proposals, Mehrotra said.
“It’s important to note that CNI’s offer, given its much higher cash consideration as % of total deal value, implies that KSU shareholders will participate less in the combined entity, which we believe is an important consideration for KSU’s mgmt. and Board. We also believe KSU shareholders might be eager to roll their equity into an entity led by Keith Creel and the CP mgmt. team, who are widely considered the best Railroad operators in the industry,” Mehrotra said in a research note. “In this context, both offers need to be assessed with respect to total value (i.e. two-thirds of KSU equity rolled into CP-KSC vs. more upfront cash in CNI’s offer) … in which case the relative premium of CNI’s offer is up for debate, in our view.”
CP will report its first-quarter 2021 results and have an annual general meeting for shareholders on Wednesday, while CN will report its first-quarter results and have its annual general meeting on April 27.
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