CP, KCS Close Into Voting Trust

Canadian Pacific (CP) on Dec. 14 completed its acquisition of Kansas City Southern (KCS); KCS shares have been placed into a voting trust until the Surface Transportation Board (STB) issues a decision on railroads’ proposed combination, Canadian Pacific Kansas City, which is expected in fourth-quarter 2022.

CPKC—forming the first U.S.-Mexico-Canada rail network and representing an enterprise value of approximately US$31 billion (see financials below)—was backed by CP and KCS shareholders on Dec. 8 and Dec. 10, respectively.

KCS stockholders will receive 2.884 CP common shares and US$90 in cash for each share of KCS common stock held and US$37.50 in cash for each share of KCS preferred stock held, according to CP.

In September, CP and KCS agreed to merge, and STB confirmed that it approved the use of a voting trust for the transaction. Dave Starling, former KCS President and CEO, will oversee the trust, which “ensures KCS will operate independently of CP,” CP said. 

“Today is a historic day for our two iconic companies,” CP President and CEO Keith Creel said. “CPKC will become the backbone connecting our customers to new markets, enhancing competition in the U.S. rail network, and driving economic growth across North America while delivering significant environmental benefits. We are excited to reach this milestone on the path toward creating this unique truly North American railroad.”

“As a Board and management team, we are proud of the countless contributions and achievements of all those who work for Kansas City Southern,” KCS President and CEO Patrick J. Ottensmeyer said. “We are excited for the possibilities that will open to us through this combination with CP and we look forward to our next chapter.”

Upon STB approval, CP and KCS said, the railroads “expect to achieve full integration over the ensuing three years.”

For CP, BMO Capital Markets and Goldman Sachs & Co. LLC are serving as financial advisors; Sullivan & Cromwell LLP, Bennett Jones LLP and the Law Office of David L. Meyer are legal counsel; Creel, García-Cuéllar, Aiza y Enríquez, S.C. are Mexican legal counsel; and Evercore is the Board’s financial advisors and Blake, Cassels & Graydon LLP is the Board’s legal counsel.

For KCS, ‎BofA Securities and Morgan Stanley & Co. LLC are serving as financial advisors; Wachtell, Lipton, Rosen & Katz, Baker & Miller PLLC, Davies Ward Phillips & Vineberg LLP, WilmerHale, and White & Case, S.C. are legal counsel.

Financial Implications of Closing Into Trust

“To fund the cash consideration of the merger, CP’s wholly-owned subsidiary, Canadian Pacific Railway Company sold new debt of C$2.2 billion and US$6.7 billion, both of which are guaranteed by CP,” the Class I railroad reported. “The debt transactions closed on Nov. 24, 2021 and Dec. 2, 2021, respectively. CP expects to incur approximately C$21 million in interest expense in the quarter from the two issuances.

“Today [Dec. 14], CP issued 262,597,106 new common shares as the share consideration under the terms of the merger agreement resulting in approximately 721.4 million weighted average diluted shares outstanding in the quarter.

“During the period that KCS is held in voting trust, CP will account for its ownership under the equity method of accounting. From Dec. 14, 2021, onward, CP will report KCS’ earnings, adjusted for the amortization of the fair value write-up, on a single line of CP’s consolidated statements of income.”

Updated CP, KCS Outlook

“Following the impacts of the accelerated timeline of the transaction closing into trust and the impacts of the extreme weather in British Columbia, CP now expects full-year growth in adjusted diluted EPS in 2021 to be in the high single digits,” the Class I railroad reported. “CP expects full-year volumes to be approximately flat in 2021, as measured in revenue ton-miles, compared to 2020.

“CP’s revised guidance assumes an updated effective tax rate of approximately 24.0%. CP now expects other components of net periodic benefit recovery to increase by approximately C$45 million versus 2020 and continues to expect capital expenditures of C$1.55 billion.

“CP’s expectation for high single-digit growth in 2021 adjusted diluted EPS is relative to 2020’s adjusted diluted EPS of C$3.53. CP’s reported diluted EPS was C$3.59 in 2020.

“Although CP has provided a forward-looking non-GAAP measure (adjusted diluted EPS), management is unable to reconcile, without unreasonable efforts, the forward-looking adjusted diluted EPS to the most comparable GAAP measure (diluted EPS), due to unknown variables and uncertainty related to future results. These unknown variables may include unpredictable transactions of significant value. In recent years, CP has recognized acquisition-related costs (including legal, consulting and financing fees, and fair value gain or loss on foreign exchange (FX) forward contracts and interest rate hedges), the merger termination payment received, changes in income tax rates and a change to an uncertain tax item. KCS has also recognized significant merger costs and FX gains and losses. These or other similar, large unforeseen transactions affect diluted EPS but may be excluded from CP’s adjusted diluted EPS. Additionally, the U.S.-to-Canadian dollar FX rate is unpredictable and can have a significant impact on CP’s reported results but may be excluded from CP’s adjusted diluted EPS. In particular, CP excludes the FX impact of translating the company’s debt and lease liabilities from adjusted diluted EPS.”