6 September 2007
CP Challenges Railgiants
Canadian Pacific Railway Ltd. pitted itself against two of the
largest U.S. railways yesterday by announcing plans to buy Dakota, Minnesota & Eastern Railroad Corp., and laying the groundwork
for a multi-billion-dollar investment in the coveted coal deposits of Wyoming's Powder River Basin.
Until now, Burlington Northern Santa Fe Corp. and Union Pacific Corp., have enjoyed exclusive access to the lucrative basin, which is
North America's largest and fastest-growing region for low-cost, low-sulfur coal. CP aims to
bust up that duopoly within the next five years by expanding into the area.
Canada's second-largest railway said yesterday it plans to purchase the privately held DM&E for at least
US$1.48-billion, with an additional US$1.05-billion payment contingent on whether it goes ahead with its
planned construction in the Powder River Basin by 2025.
Earlier this year, DM&E was granted federal approval to lay roughly 450 kilometres of new rail line in Wyoming to serve the basin
and upgrade an additional 965 kilometres of existing track in Minnesota and South Dakota. But its plans fell through when it was unable
to secure financing for the project in February.
While DM&E was still thought to be a threat to Burlington and Union Pacific's duopoly, being bought by CP brings that "threat
much closer to reality," according to Bear Stearns & Co. analyst Edward Wolfe. He also said it essentially removes CP as a
possible leveraged-buyout target, less than two months after it was the topic of such speculation.
CP's acquisition of DM&E is expected to close within 30 to 60 days, but is still subject to a review by the U.S. Surface
Transportation Board. If approved, it will increase CP's reach across the U.S. Midwest by adding more than 4,000 kilometres of track to
its network.
But the top-tier railways are not expected to just roll over and let CP move into their territory without a fight,
according to UBS analyst Rick Paterson. He said he expects Burlington and Union Pacific to oppose the transaction by lodging complaints
with federal regulators and, failing that, by using aggressive tactics like re-signing coal customers to
long-term shipping deals before CP has a chance to become operational in the region.
"They would probably lose the regulatory fight but they would just be playing for time and could delay approval for up to a
year," Mr. Paterson said in a note to clients.
Neither railway would comment on the sale yesterday.
Roughly 500 million tons of coal used domestically for thermal-energy generation are shipped out of the Powder River Basin
annually, with incremental volume increases of up to 7% a year.
"On the basis of that kind of production, and that kind of growth, I think there's lots of room for us to participate in the
marketplace," Fred Green, CP chief executive, said yesterday. "I would argue if [the Powder River project] is going to go
ahead, it could well be completed in five years."
He said most coal from the region is shipped into the western United States, but CP would look to Midwestern and Eastern utilities for
growth.
The expansion project was expected to cost upwards of US$6-billion, but CP is not willing to pay that amount, management
said yesterday. CP would likely invest closer to $4-billion over the next five years, with roughly $3-billion
allocated for the new tracks and another $1-billion for locomotives.
The remaining $2-billion in the original estimate was allocated for cars, which are typically paid for by the utilities or
shippers in transporting coal, and would not likely be paid for by CP.
Due to the size of the transaction, CP also said it had suspended its substantial share buyback program announced in March, in which it
planned to buy back 10% of its outstanding shares for cancellation. CP said yesterday only about a fifth of shares allocated for the
program had been purchased by the time of the DM&E deal.
The railway also maintained its earnings-per-share outlook for the year of between $4.30 and
$4.45.
|
