Kansas City Southern terminates deal with CN, opting to merge with CP Rail

Canadian National Railway said Wednesday that Kansas City Southern has terminated its merger agreement, bringing an end to the takeover battle between it and rival Canadian Pacific Railway.

CN (CNR.TO) said in a statement released Wednesday morning that KCS (KSU) will pay the railway a US$700 million termination fee as a result of the failed agreement. KCS will also refund CN the US$700 million break fee it received from the railway after it terminated its agreement with CP. (CP.TO)

CN chief executive J.J. Ruest said in a statement that while the company is disappointed the deal will not come into fruition, the decision to bid for KCS was "a bold and strategic move that still resulted in positive outcomes for CN."

"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.

"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.”

CN's bid was dealt a major blow after the U.S. Surface Transportation Board (STB) rejected the use of a voting trust that would allow the company to hold and operate KCS while it waited for additional regulatory approvals. CN's decision not to raise its offer for the U.S. railway now paves the path for a merger between the KCS and its rival CP, who originally proposed merging with the railway in March.

KCS said Wednesday it has re-entered a merger agreement with CP, which will cover the US$1.4 billion in break frees owed to CN. CP, which has received approval for its voting trust from the STB, has agreed to acquire KCS in a stock-and-cash transaction valued at US$31 billion, including US$3.8 billion in debt. If shareholders approve the transaction, the deal would result in the first railway in North America connecting Canada, the U.S. and Mexico.

"By combining, we will unlock the full potential of our networks and our people while providing industry-best service for our customers," CP chief executive Keith Creel said in a statement on Wednesday.

"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."

Shareholder blowback

CN has come under fire from one of its biggest shareholders over its decisions to bid for KCS. TCI Fund Management, a U.K.-based hedge fund, has called for Ruest to be replaced, as well as several board members. This week, TCI unveiled its proposed replacements, saying that a new board of directors will "help ensure CN is put on the right track."

"The bid for KCS exposed a basic misunderstanding of the railroad industry and regulatory environment," TCI founder Christopher Hohn said in a statement.

"The board consistently misjudged the STB and displayed flawed decision making, committing billions of dollars to an ill-conceived pursuit of an unattainable asset. CN should focus on getting better rather than bigger."

Alicja Siekierska is a senior reporter at Yahoo Finance Canada. Follow her on Twitter @alicjawithaj.

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