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Canadian Pacific Railway to Buy Dakota for $1.5 Billion

Canadian Pacific Railway has agreed to buy the Dakota, Minnesota & Eastern Railroad for at least $1.5 billion cash to boost its network and provide the deep pockets to fund a project to gain access to the coal-rich Powder River Basin.

Canada's No. 2 railway will gain about 2,500 miles of track by acquiring DM&E, the largest U.S. regional railroad, from several owners, including London-based Electra Private Equity.

L.B. Foster Cowhich manufacturers products for the rail, construction, utility and energy markets, said Wednesday it expects to receive $151.5 million, or $14.24 a share, from the deal. Private equity house Candover Investments said its investment in DM&E is valued at 27.4 million pounds sterling, based on the initial deal.

CP Rail , which announced the deal late Tuesday, expects the closing in the next 30 to 60 days. It said the agreement includes a $1.48 billion cash payment at closing and future contingent payments of up to about $1 billion.

"The DM&E is a high-quality, growing regional railroad that complements our existing franchise," CP Rail Chief Executive Fred Green said in a statement.

CP Rail, based in Calgary, Alberta, said the acquisition should be accretive to earnings per share in 2008, and reaffirmed its 2007 EPS of between C$4.30 and C$4.45. CP also suspended activity under its current share buyback program, which began in March.

Anthony Hatch, a railroad analyst at New York-based ABH Consulting, said CP Rail was paying a "hefty price" for DM&E, which reflected not only its existing network but also the "real value of its project potential."

Sioux Falls, South Dakota-based DM&E, which operates in eight U.S. states, has long pursued a goal of becoming the third rail carrier in Wyoming's Powder River Basin, North America's largest and most rapidly growing source of low-cost, low-sulphur coal.

Union Pacific Corpand Burlington Northern Santa Fe Corpthe No. 1 and No. 2 U.S. railroads respectively, are currently the only companies hauling coal out of the basin.

DM&E's plans were stalled in late February, when the Federal Railroad Administration rejected the railroad's application for $2.3 billion in government funding for a $6 billion expansion project into the PRB.

Despite the government turndown, the railroad does have regulatory approval for construction, and was looking for a buyer who could afford to fund the basin project.

Up to $350 million more will be paid to Electra Private Equity if construction starts on the PRB expansion project before the end of 2025.

Additional payments of up to $707 million will be due if certain coal tonnage goals in the PRB are exceeded before the end of 2025.

In a research note, Bear Stearns analyst Edward Wolfe wrote that the deal represents a potential threat to the "duopoly" currently serving the PRB, but that regulatory approval for the sale to CP and necessary track investments mean it could be three or four years before that threat becomes reality.

The deal also "effectively removes CP as a potential LBO candidate", Wolfe added. "The issue is whether on top of the large price paid for DM&E, CP can also fund an estimated $3 billion build in to the PRB and still make a profit 4-5 years from now."

Wolfe also wrote that Bear Stearns believes Union Pacific "retains a right of first refusal on DM&E."

Canadian Pacific shares were down C$2.47 at C$70.96.

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