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Kansas City Southern (KSU) to be Acquired by Canadian National

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In a much-anticipated move, Kansas City Southern (KSU - Free Report) accepted the revised proposal of Canadian National Railway (CNI - Free Report) on May 13. Notably, both companies entered into a definitive merger agreement aimed at creating a premier railway for the 21st century.

Following the acknowledgement of Canadian National’s $33.6-billion offer, Kansas City Southern terminated the $29-billion deal it inked in March with Canadian Pacific Railway Limited (CP - Free Report) . Kansas City Southern paid $700 million as termination fee to Canadian Pacific, which will be reimbursed by Canadian National.

The Deal in Detail

The $33.6-billion enterprise value of the cash and stock deal struck with Canadian National includes the assumption of $3.8-billion outstanding debt of Kansas City Southern. The transaction is unanimously supported by both companies’ board members and is valued at $325 per share. Per the deal, each share of Kansas City Southern common stock will be exchanged for $200 in cash and 1.129 shares of common stock of the Canadian railroad operator.

The deal value implies a 45% premium to Kansas City Southern shares’ closing price on May 19. Kansas City Southern will fund the cash portion of the deal through a combination of its available cash balance and approximately $19 billion of new debt. Based on the proposed exchange ratio and Canadian National’s current quarterly dividend of C$0.615 per share, shareholders of Kansas City Southern are likely to receive the equivalent of $2.30 in dividends (annually) per share of the U.S. railroad operator.

Per Canadian National’s current estimates, by virtue of the merged entity, there will be EBITDA synergies of nearly $1 billion on an annual basis with the vast majority resulting from additional revenue opportunities. Moreover, the Canadian company anticipates the transaction to be accretive to its adjusted earnings per share in the first year after taking control of the U.S. railroad operator.

The combined entity will ensure a robust price competition apart from improving customer services. The conclusion of the deal will lead to establishing a safer, faster and stronger rail network connecting the United States, Mexico and Canada with a single owner. Moreover, the deal on materialization will drive growth as many benefits of the United States-Mexico-Canada agreement (USMCA) can be reaped in due course of time.  The merged entity is also likely to open up additional job opportunities.

Moreover, the deal on closure is expected to positively impact the environment with significant volumes of truck traffic likely to be converted into rails, thereby improving fuel efficiency and reducing costs. Notably, rail is four to five times more fuel efficient than trucking. Evidently, the combined entity might curb greenhouse gas emissions by 75%. Significantly, a single freight train can keep more than 300 trucks off the roads if the deal gets through.

Multiple Approvals Required Before Merger Becomes a Reality

The deal, however, will not be effective immediately. Regulatory nods from various bodies like the Surface Transportation Board (STB), the Federal Economic Competition Commission and Federal Telecommunications Institute in Mexico are required before the deal closes.

Notably, Canadian National proposed setting up a “plain vanilla” voting trust. Following approval of Kansas City Southern’s shareholders and fulfillment of customary closing conditions, Canadian National will acquire shares of Kansas City Southern and place the same into the voting trust.

Notably, shareholders of Kansas City Southern will receive their interest from the merger upon closure of the voting trust, which is expected in the second half of the current year. As a final step, approvals from STB and other regulatory bodies minding the deal are required for the merger to be executed in the second half of 2022, expectedly.

Meeting all regulatory conditions, Canadian National will continue to have its corporate headquarters in Montreal, Canada. The merged entity’s U.S. headquarters will be at Kansas City, MO The headquarters at Mexico will remain in its capital Mexico City and the operations center will be in Monterrey.

Zacks Rank & Key Pick

Both Kansas City Southern and Canadian National currently carry a Zacks Rank #3 (Hold). A better-ranked stock in the Zacks  Transportation  sector is Expeditors International of Washington (EXPD - Free Report) , currently sporting a Zacks Rank #1 (Strong Buy). You can see the complete list of today's Zacks #1 Rank stocks here.

Shares of Expeditors have surged in excess of 122% year to date.

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