Canadian Pacific Merger With CSX Would Be a Win-Win-Win

Railroad giant CSX (CSX) isn’t quite sold on the idea of selling itself to foreign rival Canadian Pacific Railway (CP), reports say, but this is the sort of tie-up that should motivate anyone holding CSX stock.

CSXCanadian Pacific approached CSX about a deal to create a sprawling $63 billion railroad covering huge swaths of the U.S. and Canada, but an actual agreement could prove elusive, according to media reports.

Partly it comes to down personalities and power struggles. Coming to agreements about who runs what and who reports to whom have scuttled plenty of deals in the past. As Canadian Pacific CEO E. Hunter Harrison told The New York Times about the challenges of pulling off megadeals:

“My experience in the past, and I’ve had too much of it, it’s more about social and egos than it is true bottom-line value to the shareholder.”

It would be a shame if personal obstacles prevented CSX from taking CP up on the idea.

CSX and CP to Cut Congestion

Historically, regulators have been reluctant to let the railroad industry to consolidate on this scale, but in this case it makes tremendous sense.

After all, CP and CSX’s route systems have very little overlap. That not only helps quash antitrust concerns, but could actually be hugely beneficial to anyone who operates on U.S. rails.

The fracking boom and huge surge in domestic energy production has caused a traffic jam in the nation’s congested rail network. It’s causing headaches for everyone from shippers to Amtrak. By combining CSX with CP, the route system would get a traffic cop, which would streamline and rationalize train movement, saving time and money.

Most importantly for anyone holding CSX stock, a merger with CP would fetch a fat premium at a time when shares are big-time laggards to the competition.

Helped by a multiyear cost-cutting program and other changes to operations, CP stock is on a market-crushing tear. It’s 25% for the year-to-date and has more than doubled over the last two years.

CSX stock, for its part, is up just 4% for the year-to-date, edging the S&P 500 by about a percentage point. Over the last two years, CSX is beating the broader market by about 5 percentage points. Since an individual stock is always riskier than the broader market, that sliver of outperformance isn’t worth it on a risk-adjusted basis.

There has been no word on what kind of premium CSX could get from CP, but there’s a good chance it could be a whopper. Whether deal talks go anywhere is a crapshoot at this point, but we’re sure to hear a lot more about this potential merger Tuesday afternoon. That’s when CSX reports third-quarter results.

It’s rare that a merger looks like such a smart move on the face of it, but this one appears to be a win for both railroads, as well as for anyone dependent an overcrowded network.

As of this writing, Dan Burrows did not hold a position in any of the aforementioned securities.

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