In a not-so-modest proposal, CN throws a wrench in CP's plans and offers 21% premium bid for KCS
4/20/2021
By Pat Foran, Editor
Another month, another proposed mega merger.
Four weeks and two days after Canadian Pacific and Kansas City Southern announced their plans to merge, CN asked KCS to reconsider the agreement and take a look at its own, “clearly superior” offer, as CN President and CEO JJ Ruest put it in a letter this morning to the KCS board.
Whether shareholders ultimately think it is superior remains to be seen. If nothing else, CN’s proposal may prompt CP to up its offer, a couple industry analysts said. And while few others had yet to weigh in — including key shipper constituencies and any number of other links in the rail chain — as this piece was posted here, CN-KCS, like CP-KCS, likely would be approved, said independent transportation analyst Tony Hatch.
“Both deals would pass the STB approval process, the CN with more conditions,” Hatch said in an email to his clients. “The assertion that CN’s [proposal] is less problematic is wrong, however.”
The CN proposal offers KCS shareholders $325 per common share based on current market prices, which “implies a total enterprise value of $33.7 billion,” including the assumption of about $3.8 billion of KCS debt. Under CP’s proposal, CP would acquire KCS stock in a cash transaction worth $29 billion, including 3.8 billion of KCS debt. This represents, CN said:
- a 45% premium to KCS’ closing share price as of March 19;
- a 21% premium to “the implied value of the proposed transaction with CP,” based on CN’s and CP’s respective closing share prices on April 19;
- and $56 in additional value per share to KCS shareholder above the proposed transaction with CP.
“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,” said CN President and CEO JJ Ruest in a letter delivered to the KCS board. “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 [CP] and constitutes a ‘Company Superior Proposal’ under KCS’ merger agreement with CP.”
‘More fluid, rapid and cost-efficient options’
CN-KCS also would create “significant new revenue opportunities by connecting North America’s industry corridor” — to the tune of about $8 billion “across the Canadian transborder, the U.S. domestic, and the rapidly growing Mexico-U.S. markets,” Ruest wrote. CN also would add “more fluid, rapid and cost-efficient options” across a variety of network points, including Laredo, Michigan, southern Ontario and Detroit, he added. The expected revenues would be generated primarily by converting truck volumes. Meanwhile, “CN and KCS have highly complementary networks with minimal overlap,” Ruest wrote.
CN also pledged to continue operating the KCS business in the United States and Mexico under the Kansas City Southern name, and establish Kansas City as the headquarters of the combined company’s U.S. operations.
Five hours after CN’s announcement, KCS acknowledged the proposal in a press release titled Kansas City Southern Confirms Receipt of Unsolicited Proposal From Canadian National Railway, saying it would evaluate it and “respond in due course.”
Analysts weigh in
Industry analysts also responded to CN's proposal. Hatch was the first analyst’s comments I saw on Twitter. His early-morning tweets:
“Assuming promised resolution of route overlap (CN’s IC & the KCS in the Gulf/LA) this ALSO could pass STB muster & NOT trigger “final round consolidation.” CN’s case seems cogent tho this deal is more complex; the market will decide.”
“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 [CP].” – JJ Ruest, CN President and CEOCN“More thoughts on CNI+KSU — a deal that leaves CP — & star CEO Creel — unattached is a big DE-STABILIZER in the RR industry; CN’s earlier stand against KCS exemption also, assuming STB acceptance, adds risk as any Big 4 merger would be problematic — at best.”
A couple hours later, Hatch issued a more detailed response to his clients via email. Among his key comments:
“This [proposal] is obviously more complex … and where it is complex brings in the (petro) chemical industry, well-heeled, politically astute and usually spoiling for a fight with rails”
“CN hadn’t talked with shippers (yet), it seems, as part of the shock-and-awe strategy”
“CN’s J-line around Chicago is a plus for this; their unexpected fight (that may be way too strong a word for it — but Boy Howdy! Have I ever gotten some nasty push-back on my comments here) over their planned line sales in Wisconsin to Watco may prove an irritant in their STB relations.”
And like the rest of us, Hatch had a few questions:
- “Will KCS “insist on a large breakup fee?”
- “How will CN’s earlier stance on the (CP) merger impact this proposal?”
- “What will CP do? They have room, it seems, to up the ante”
- “Just how bad would CP+KSU be for CNI standalone?” Hatch said he continues to believe CP’s proposed north-south growth “is a ‘show-me’ concept,” and that CN-KCS would seem “more justified” for intermodal. That said, the “CBR/refined products and grain stories might rank as problems for CN share/opportunity,” he said. “In any event it isn’t like Conrail (and CSX) was — an existential threat, to use 21st C parlance — to Norfolk Southern way back in the last century.”
Questions also remain about just what KCS shareholders want (as well as who they are): “the upside of the newco — or folks who want $1 more?” Hatch asked.
“Both deals would pass the STB approval process, the CN with more conditions.” — Tony Hatch, independent transportation analystHe also posed the two questions many have been asking today: “Is this just an attempt by CN to break up the merger plans of its rival? Or to get them to raise their price and thus narrow their potential gains?” Hatch said he hasn’t thought (and doesn’t) think like this, but that if the answer is yes to both questions, then “it could be a win/win.”
Garrett Holland, senior research analyst for Baird Equity Research, characterized the “KSU bidding war” as being “positive” for U.S. rail valuations.
“CP likely revises its bid higher and leans into the strategic value of the combination and potentially more feasible regulatory review process,” Holland wrote in an April 20 email message to clients. “While we do not expect more rail M&A broadly, the premium transaction value is positive for U.S. rails and helps highlight the value of their networks.”
Holland also said he believes the CN proposal, while “financially superior and strategically compelling,” may involve “a more complicated regulatory review given the larger pro forma rail network.”
Certainly, CN’s hours-old proposal will prompt more analysts, observers and interested parties to speak their piece(s) in the days and weeks ahead. More to come on these and other Progressive Railroading information channels.
