NEW YORK — Canadian Pacific Railway Ltd. was spurned after approaching U.S. railroad CSX Corp. with a merger proposal sometime in the past week, people familiar with the matter said.
It’s not clear whether Canadian Pacific plans another overture, said the people, who asked not to be named because details are private. Activist investor Bill Ackman, whose Pershing Square Capital Management is the second-largest shareholder, said consolidation would help the industry.
“There’s serious congestion,” Ackman said Monday in a Bloomberg Television interview. “A lot of that can be dealt with through some mergers that are actually pro-competitive.”
Combining Calgary-based Canadian Pacific with CSX, the third-biggest U.S. railroad, would create a company with a market value of about $62.5 billion, according to data compiled by Bloomberg. A merged carrier would have transcontinental reach, connecting CSX’s network in the eastern U.S. with a Canadian Pacific system spanning the width of Canada.
A deal would face regulatory scrutiny because there are so few major North American railroads, with just two in Canada and four in the U.S. Along with BNSF Railway, Canadian Pacific was ordered this year to make regular reports on its U.S. service because tie-ups on some tracks are slowing trains.
“Why CSX? I think valuation is attractive, more attractive than at other railroads,” said Keith Schoonmaker, a Chicago-based analyst with Morningstar Inc., in a telephone interview. “CSX has really been punished by the market because of its very high exposure to coal.”
Canadian Pacific trades at 28.9 times earnings, while CSX trades at 16.5 times, according to data gathered by Bloomberg. Coal accounted for $744 million of CSX’s $3.24 billion in third-quarter revenue, according to data compiled by Bloomberg Intelligence. That was the most for any one type of cargo.
Canadian Pacific could make another approach to CSX or may consider another target, one of the people said. The Wall Street Journal first reported the overture Sunday.
“CSX has a longstanding policy of not commenting on such rumors,” Melanie Cost, a spokeswoman for the Jacksonville, Florida-based railroad, wrote in an email. Canadian Pacific spokesman Marty Cej said: “We don’t comment on market rumor and speculation.”
Canadian Pacific Chief Executive Officer Hunter Harrison floated the idea of a U.S.-Canadian rail merger in an Oct. 3 Bloomberg Television interview, saying “any east-west combination” would be possible. Harrison had said as early as 2007 that investor pressure on the continent’s largest railways to merge would mount in the following years.
“Hunter has made the case for consolidation in the industry,” Ackman said Monday on Bloomberg Television.
Harrison, 69, the former CEO of Canadian National Railway Co., was hired out of retirement in 2012 after Pershing Square began buying shares in Canadian Pacific and Ackman started pushing for the ouster of incumbent Fred Green.
He has led a turnaround at Canadian Pacific, which had long been saddled with a reputation as North America’s least- efficient major railroad. It’s still smaller than Canadian National and the four railroads that dominate the U.S. industry: CSX and Norfolk Southern east of the Mississippi River and Union Pacific Corp. and BNSF Railway in the west.
“The rational number of railroads in North America is actually two for the whole continent,” Schoonmaker said. As long as two railroads have overlap in each region, that would be enough to keep the current level of competition, he said.
A U.S.-Canadian rail tie-up wouldn’t be unprecedented. BNSF, now owned by Warren Buffett’s Berkshire Hathaway Inc., tried to buy Canadian National before abandoning the deal under regulatory pressure. Canadian Pacific and Canadian National both have U.S. operations via acquisitions.
CSX, run by CEO and Chairman Michael Ward, is more than twice Canadian Pacific’s size when measured by sales, with $12 billion in 2013 revenue. Canadian Pacific’s total was C$6.13 billion ($5.49 billion).
Just because this offer was rebuffed doesn’t mean CSX won’t accept a future bid, Schoonmaker said.
“Who accepts the first offer?” he said. “We don’t know what kind of negotiations have already taken place but I don’t think Michael Ward and his board are fools when it comes to negotiating.”
Given that Canadian Pacific has a higher valuation based on its price-to-earnings ratio, it’s enough “for the merger math to potentially work,” said John Larkin, a Baltimore-based Stifel Financial Corp. analyst.
If such a merger eventually goes through, it would vault Canadian Pacific from its place as the smallest of the major North American railroads into the senior position in the east of the continent, Steven Paget, a Calgary-based analyst with FirstEnergy Capital Corp.
It would also set off a wave of mergers that could bring the industry down to two mega-railroads, Paget said. “This looks like the first start in what might be the final consolidation of North American railroad companies.”