Fund Wants CN to End KCS Bid

With Tougher Pathway to Approval, Shareholder Sees Risk in CN's Pursuit of Kansas City Southern

Chris Clayton
By  Chris Clayton , DTN Ag Policy Editor
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Kansas City Southern lines run from Missouri into central Mexico, including access to multiple Mexican ports as well as ports along the Gulf Coast in the U.S. Both Canadian railroads see the opportunity of creating a single North American rail line with the enactment of the U.S.-Mexico-Canada Agreement last year. (Map from Kansas City Southern website, www.kcsouthern.com)

OMAHA (DTN) -- Canadian National Railway moved to push forward its pursuit of Kansas City Southern railroad despite a regulatory setback from the Surface Transportation Board and a letter from a major shareholder calling on Canadian National to end the proposed merger.

A regulatory ruling from the Surface Transportation Board raised concerns for executives at London-based investment fund TCI Fund Management Inc. that Canadian National could drain shareholder equity if it keeps pushing for the merger with KC Southern. The letter from shareholders called on Canadian National "to end this ill-advised adventure."

The bidding war over Kansas City Southern by the two Canadian rail lines has drawn a lot of attention from agricultural commodity exporters who see a single-line railroad across Canada and down through the central U.S. and deep into Mexico as a new potential pathway to more markets. Companies and co-ops have weighed in with hundreds of letters in support of either one rail line or the other.

Following an initial rejection for its proposed voting trust to manage KCS stock, Canadian National filed a request Tuesday with the Surface Transportation Board (STB) asking the agency to set up a review process for the voting trust CN wants to use for its acquisition of Kansas City Southern. STB had determined on Monday the CN-KCS trust was incomplete and required more information.

The fight now for Canadian National is getting a voting trust approved by the STB, especially given STB has already approved a voting trust for Canadian Pacific. The trust process set up for the merger of Class 1 railroads allows the railroads to buy shares of Kansas City Southern and hold them in an independent trust until all the regulatory requirements of a sale are completed.

The Department of Justice served notice last week that it opposes a CN-KCS trust because of the parallel lines each railroad has along the Mississippi River export corridor. DOJ stated that CN-KCS merger would harm competition for shippers.

TCI Fund Management, one of the largest shareholders for both Canadian National and Canadian Pacific railroads, wrote a letter to Canadian National's board president on Tuesday stating CN "should abandon its pursuit of KCS" unless Canadian National can amend the merger agreement in a way that eliminates the need for the Surface Transportation Board to approve a voting trust for KCS during the merger.

Canadian National is offering $33.6 billion for Kansas City Southern, topping the $29 billion bid proposed by Canadian Pacific. The two Canadian rail lines are battling for KC Southern lines that run from Missouri into central Mexico, including access to multiple Mexican ports as well as ports along the Gulf Coast in the U.S. Both Canadian railroads see the opportunity of creating a single North American rail line with the enactment of the U.S.-Mexico-Canada Agreement (USMCA) last year.

TCI Fund Management, based in London, owns at least 20.88 million shares of Canadian National stock, or about 2.93% of shares, valued at around $2.2 billion. TCI also owns about 11.17 million shares of Canadian Pacific, reflecting about 8.3% ownership in that railway.

In their letter to Canadian National's board, TCI executives stated, "We think it is negligent and hugely irresponsible for the CN board to commit $2 billion (Canadian) of shareholders' money on whether the STB will approve the voting trust for the CN-KCS transaction."

Under CN's deal with KC Southern, if the Surface Transportation Board rejects the CN-KCS deal, then the Canadian railway would pay $1 billion in U.S. dollars to KCS as a reverse break-up fee. CN also would cover the cost of a $700 million breakup fee that KCS would also have to pay Canadian Pacific.

TCI executives noted: "The STB is sending a clear signal and the CN board has a duty to listen. The risk that the voting trust is not approved is too great to ignore." The letter added that CN's board is "essentially making a $2 billion (Canadian) bet with company money" on a favorable STB decision that TCI sees as "extremely reckless."

If the STB eventually does not give final approval for the CN-KCS merger, then TCI executives see shareholder value in Canadian National at risk because the railroad would then also be forced to sell KC Southern, "So it is quite possible that CN could face a loss in excess" of $15 billion ($18 billion Canadian). "That would almost wipe out CN's entire shareholders' equity that has taken over 100 years to accumulate. It could also seriously jeopardize the future of the company," the TCI executives wrote.

The letter added: "CN already has a tremendous North American rail network; it does not need KCS to prosper in the future. It is time to end this ill-advised adventure."

Even with the Surface Transportation Board's multiple rulings leaning in favor of smaller Canadian Pacific and against Canadian National, CN noted in a news release Tuesday, "CN is confident in its ability to gain approval for the voting trust and ultimately close the combination with KCS, and looks forward to the STB promptly setting forth its timetable for reviewing the voting trust."

The STB ruled that Canadian National's application for a trust was incomplete. Now, going through a more complicated process to get that voting trust, the CN-KC Southern merger will require a comment period. CN's motion calls for a narrow window of a "three-business-day" comment period before the STB would make a decision. Canadian Pacific, pushing back, wrote the STB in a detailed letter about the process. "CN's proposal for a three-business-day comment period is not serious."

For more reporting on the moves by the two Canadian railroads, see "KCS Switches Tracks to CN from CP" at https://www.dtnpf.com/….

TCI's letter to Canadian National: https://www.tcifund.com/….

Chris Clayton can be reached at Chris.Clayton@dtn.com

Follow him on Twitter @ChrisClaytonDTN

Chris Clayton