Canadian National Railway Co.’s proposed US$30 billion takeover of Kansas City Southern is under attack after it failed to pass a key regulatory hurdle and faced an immediate call to drop the bid from one of its largest shareholders.

London-based TCI Fund Management Ltd., which owns more than 5 per cent of Canadian National’s shares, said Tuesday it’s imperative the rail operator walks away from the merger agreement after the U.S. Surface Transportation Board rejected a request for a voting trust central to the deal. That provided an opening for arch rival Canadian Pacific Railway Ltd., which said its competing offer still stands. 

If Canadian National persists in the face of the regulator’s opposition, it runs the risk of reputational damage and financial disaster, the fund said in a letter to the railway’s chairman, Robert Pace. 

“From the start, it has been clear and obvious the bid would fail. That the Board sanctioned the bid, together with potential fees of $2 billion, is an egregious failure of oversight and there must be accountability,” TCI Chief Executive Officer Chris Hohn and investment analyst Ben Walker wrote in the letter.  

The pair said Pace and Jean-Jacques Ruest, Canadian National’s CEO, should resign immediately; they urged the board to replace Ruest with Jim Vena, a former Union Pacific Corp. executive. They also called for a board seat for Gilbert Lamphere, who has previously been on the boards of Illinois Central Railroad, Canadian National and CSX Corp. 

Canadian National said in a statement it was disappointed with the STB’s decision and is evaluating available options. 

“We continue to believe that the combination of CN and KCS would enhance competition, expand North American trade and power economic prosperity, provide new and faster routes, increase supply chain efficiency and deliver other benefits to the public good,” it said.

Rival suitor Canadian Pacific lost no time reminding Kansas City Southern’s board of its US$27 billion merger proposal made on Aug. 10. The STB has already approved a voting trust for Canadian Pacific’s deal, which the railway said gives it “regulatory certainty.”

“The STB decision clearly shows that the CN-KCS merger proposal is illusory and not achievable,” Canadian Pacific CEO Keith Creel said in the statement.


TCI said the most pressing need at Canadian National is to improve operations as its financial performance lagged behind other railways since 2016. “CN owns a unique asset -- the best rail network in North America -- so it does not need to acquire KCS to prosper,” the fund said. 

“CN should also be the most efficient and fastest growing railroad in the industry, but change is needed to achieve this goal. History has shown that with the right leadership railroads can be fixed quickly. CN should be no different,” Hohn and Walker added. The Financial Times first reported the contents of the letter.

The voting trust would have allowed Kansas City Southern to be moved into a separate holding company while a regulatory review of the merger was completed. Kansas City Southern shareholders would be paid at that point -- essentially eliminating regulatory risk for its investors. 

Canadian National’s board is now faced with a decision to withdraw from the merger agreement, appeal the ruling, or try to proceed without a voting trust. But TCI argued that the STB’s rejection of the voting trust made it clear that regulators simply do not want the deal to happen. 

“An appeal cannot be won, and it is not an appeal you would want to win, so do not embark on what would be an expensive and undignified charade,” they said. “Continuing with the bid would not only be futile but, knowing it will ultimately end in failure, would also be unprofessional and disrespectful to everyone involved in the process. Instead, the company should withdraw and save billions of dollars in break fees.”