U.S. rail regulator deals blow to CN's US$29.8-billion bid to take over Kansas City Southern - The Globe and Mail

The U.S. rail regulator dealt a blow to Canadian National Railway Co.’s takeover dreams as it blocked CN’s first of two steps to take over U.S. carrier Kansas City Southern.

The Surface Transportation Board on Tuesday rejected CN’s proposal to create the voting trust in which it planned to independently own and operate KCS while awaiting STB approval of the takeover itself.

“The board has determined that the proposed voting trust is not consistent with the public interest standard under the board’s merger regulations,” the STB said in a statement.

The STB’s rejection throws into question CN’s US$29.8-billion for the U.S. railway announced in May and could allow rival bidder Canadian Pacific Railway Ltd. to re-enter the battle to build a railway that links Canada, the United States and Mexico.

In a 33-page ruling, the STB said CN and KCS did not convince the regulator the voting trust would be in the public interest.

The railways “have failed to establish that their use of a voting trust would have public benefits, and the board finds that using a voting trust, in the context of the impending control application, would give rise to potential public interest harms relating to both competition and divestiture. Accordingly, applicants’ motion to approve the use of a voting trust will be denied,” the STB said.

STB rulings can be appealed to the U.S. Court of Appeals. However, appealing a unanimous decision by a regulator while awaiting a ruling on the takeover from the same regulator would place CN in an awkward situation. And given the public interest concerns the STB raised, CN’s takeover appears to be a long shot.

Mathieu Gaudreault, a CN spokesman, declined to comment.

CN and KCS’s next moves were not immediately known. KCS shareholders, who are scheduled to vote on the CN takeover on Sept. 3, face a choice between approving a CN offer that does not come with the immediate payout that a voting trust would present, and waiting to pursue a cheaper offer from CP that has an already approved trust.

Shares of KCS tumbled on the news, falling to about US$284 from about US$293 on the New York Stock Exchange. CP shares also slipped, dropping to about $87.30 from above $90 on the Toronto Stock Exchange. CN shares rose slightly.

Voting trusts are features of some U.S. takeovers that are intended to preserve the operation independence and viability of an economically important company during the lengthy period in which the takeover is reviewed by regulators. Shareholders of the target company see the immediate benefit by selling their shares into the voting trust, which then operates the company independently of the would-be buyer. If the takeover is ultimately rejected, the company is sold out of the trust.

The STB cited opposition from groups that represent large rail customers, who argued CN would have no incentive to compete with a KCS that is held in a trust. Shippers expressed worry about “irreversible and adverse” damage to the rail industry and service if CN decided to abandon the takeover or saw it rejected. Others feared CN would break up KCS if the takeover never happened, eliminating network links with other railways.

”Many rail users said they are concerned that the 45-per-cent price premium CN has offered to acquire KCS, and the related debt burden it will incur to finance the purchase, would create incentives for CN to charge higher prices to current customers or decrease investment in CN’s network in order to improve financial performance,” the STB said.

CN said it would add US$19.3-billion debt to complete the takeover.

CN’s cash and share offer, worth US$200 a share plus 1.126 in CN shares, topped the latest cash-and-stock bid by rival CP, worth US$27.2-billion or US$300 a share.

Both Canadian railways are competing to expand their routes and link three countries that trade largely tariff-free. KCS has a network that begins in the industrial and agricultural heartland of the United States, touches the consumer-rich cities of Dallas and Houston, the port of New Orleans and Mexico’s Gulf and Pacific coasts.

A takeover of KCS would be the first major U.S. railway deal in more than 20 years.

The STB has already given approval to CP for its voting trust, a structure designed to ensure a takeover target remains viable and independent while the regulator weighs the takeover.

A combined CP-KCS would be the smallest of the large railways operating in the United States, and a merger of the two is not expected to face high hurdles in the regulatory process.

KCS has 6,500 employees and an 11,400-kilometre network that runs south from Springfield, Ill., to U.S. and Mexican ports on the Gulf of Mexico and the Pacific Ocean.

CP has a network that is 21,000 km, with 12,000 employees.

CN is Canada’s largest railway, with 24,500 employees and 32,000 kilometres of track in Canada and the United States.

The battle for KCS kicked off in March, when CP and the Kansas City, Mo.-based railway said they had a US$25.2-billion deal that would see Calgary-based CP take over the company to form a railway called CPKCS.

The STB approved the company’s voting trust, the first of two approvals required from the U.S. regulator.

However, CN moved to block that deal with a richer offer of US$29.8-billion. In May, KCS’s board accepted the CN deal, which came with US$700-million to cover the termination fee owed to CP.

CP refused to abandon the chase, despite being outbid. Keith Creel, CP’s chief executive officer, said he would not saddle CP with debt to engage in a bidding war. But on Aug. 10, he raised the share component of CP’s offer, and repeated his argument that CP’s deal was the only one that stood a chance of being approved by the STB.

The new bid increased the share exchange ratio but not the cash component of US$90 a share.

KCS’s board again declared CN’s bid superior.

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2021-08-31 17:45:36Z
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