UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
Form 10-K
 
   
þ
 ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
  For the fiscal year ended December 31, 20062009
or
o
 TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
  For the transition period from          to          
 
Commission filenumber: 1-4717
 
KANSAS CITY SOUTHERN
(Exact name of registrant as specified in its charter)
 
     
Delaware
(State or other jurisdiction of
incorporation or organization)

427 West 12th12th Street,
Kansas City, Missouri
(Address of principal executive offices)
  44-0663509
(I.R.S. Employer
Identification No.)

64105
(Zip Code)
 
816.983.1303
(Registrant’s telephone number, including area code)
None
(Former name, former address and former fiscal year, if changed since last report)
 
Securities registered pursuant to Section 12(b) of the Act:
 
   
Title of Each Class
 
Name of Each Exchange on Which Registered
 
Preferred Stock, Par Value $25 Per Share, 4%, Noncumulative New York Stock Exchange
Common Stock, $.01 Per Share Par Value New York Stock Exchange
 
Securities registered pursuant to Section 12(g) of the Act:
None
 
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.  Yes oþ     No þo
 
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act.  Yes o     No þ
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes þ     Noo
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 ofRegulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes o     No o
 
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 ofRegulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of thisForm 10-K or any amendment to thisForm 10-K.  o
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer, (as definedor a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” inRule 12b-2 of the Exchange Act).Act. (Check one):
Large accelerated filer þAccelerated filerþ     Accelerated filer o     Non-accelerated Filer oNon-accelerated filer oSmaller reporting company o
(Do not check if a smaller reporting company)
 
Indicate by check mark whether the registrant is a shell company (as defined inRule 12b-2 of the Exchange Act).  Yes o     No þ
 
The aggregate market value of common stock held by non-affiliates of the registrant was $2.03$1.49 billion at June 30, 2006.2009. There were 76,718,89196,519,854 shares of $.01 par common stock outstanding at February 15, 2007.4, 2010.
 
DOCUMENTS INCORPORATED BY REFERENCE
 
Kansas City Southern’s Definitive Proxy Statement for the 20072010 Annual Meeting of Stockholders which will be filed no later than 120 days after December 31, 2006,2009, is incorporated by reference in Parts I and III.
 


 

KANSAS CITY SOUTHERN
20062009FORM 10-K ANNUAL REPORT
 
Table of Contents
 
         
    Page
 
PART I
 Business 3
 Risk Factors 79
 Unresolved Staff Comments 1922
 Properties 1922
 Legal Proceedings 2123
 Submission of Matters to a Vote of Security Holders 2123
  Executive Officers of the Company 2123
 
 Market for the Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities 2325
 Selected Financial Data 2527
 Management’s Discussion and Analysis of Financial Condition and Results of Operations 27
 Quantitative and Qualitative Disclosures About Market Risk 5347
 Financial Statements and Supplementary Data 5548
 Changes in and Disagreements with Accountants on Accounting and Financial Disclosure 11199
 Controls and Procedures 11199
 Other Information 11199
 
 Directors, Executive Officers and Corporate Governance 111101
 Executive Compensation 112102
 Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters 112102
 Certain Relationships and Related Transactions, and Director Independence 113102
 Principal Accountant Fees and Services 113
102 
PART IV
 Exhibits and Financial Statement Schedules 113103
 123114
Registration Rights Agreement
Amended and Restated By-Laws
Third Supplemental Indenture
Second Supplemental Indenture
Form of Restricted Shares Award and Performance Shares Award Agreement
Kansas City Southern Annual Incentive Plan
The 2005 Credit Agreement
Amendment No. 1 and Waiver No. 1 to the 2005 Credit Agreement
Computation of Ratio of Earnings to Fixed Charges
Subsidiaries of the Company
Consent of KPMG LLP
Consent of PricewaterhouseCoopers
Consent of KPMG Cardenas Dosal, S.C.
Certification of Michael R. Haverty
Certification of Patrick J. Ottensmeyer
Section 1350 Certification of Michael R. Haverty
Section 1350 Certification of Patrick J. Ottensmeyer


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Item 1.  Business
 
COMPANY OVERVIEW
 
Kansas City Southern, (“KCS” or the “Company”), a Delaware corporation, is a holding company with domestic and international rail operations in North America that are strategically focused on the growing north/south freight corridor connecting key commercial and industrial markets in the central United States with major industrial cities in Mexico. As used herein, “KCS” or the “Company” may refer to Kansas City Southern or, as the context requires, to one or more subsidiaries of Kansas City Southern. KCS and its subsidiaries had approximately 6,4706,100 employees on December 31, 2006.2009. The Kansas City Southern Railway Company (“KCSR”), which was founded in 1887, is a U.S. Class I railroad. KCSR serves a ten-state region in the Midwestmidwest and Southeastsoutheast regions of the United States and has the shortest north/south rail route between Kansas City, Missouri and several key ports along the Gulf of Mexico in Alabama, Louisiana, Mississippi, and Texas.
 
KCS controls and owns all of the stock of Kansas City Southern de México, S. de R.L.S.A. de C.V. (“KCSM”),. KCS previously owned this stock through its wholly ownedwholly-owned subsidiary, Grupo KCSM, S.A. de C.V. (“Grupo KCSM”), formerly known as Grupo Transportación Ferroviaria Mexicana, S.A. de C.V., or Grupo TFM. Effective May 8, 2007, Grupo KCSM was merged into KCSM. Through its50-year Concessionconcession from the Mexican government (“the Concession”(the “Concession”), which could expire in 2047 unless extended, KCSM operates a primarykey commercial corridor of the Mexican railroad system and has as its core route a keythe most strategic portion of the shortest, most direct rail passageway between Mexico City and Laredo, Texas. KCSM serves most of Mexico’s principal industrial cities and three of its major shipping ports.seaports. KCSM’s rail lines areprovide exclusive rail access to the only ones that serveUnited States and Mexico border crossing at Nuevo Laredo, Mexico,Tamaulipas, the largest rail freight interchange point between the United States and Mexico. Under the Concession, KCSM has the right to control and operate the southern half of the rail bridge at Laredo, Texas, which spans the Rio Grande River between the United States and Mexico.
 
KCSM provides exclusive rail access to the Port of Lazaro Cardenas on the Pacific Ocean. The Mexican government is developing the port at Lazaro Cardenas principally to serve Mexican markets and as an alternative to the congested U.S. west coast ports of Long Beach and Los Angeles. KCSM is the sole provider of rail service to this port, which provides an alternate route for Asian traffic bound for the eastern, southern and midwestern United States. Traffic at Lazaro Cardenas is both domestic and import traffic, consisting of intermodal containers, minerals, iron, steel slabs, wire rods, and fertilizers.
The Company wholly owns, directly and indirectly through its wholly-owned subsidiaries, Mexrail, Inc. (“Mexrail”) which, in turn, wholly owns The Texas Mexican Railway Company (“Tex-Mex”). Tex-Mex operatesowns a157-mile rail line extending from Laredo, Texas to the port city of Corpus Christi, Texas, which connects the operations of KCSR with KCSM. Tex-Mex connects with KCSM at the United States/Mexico border at Laredo, Texas, and connects to KCSR through trackage rights at Beaumont, Texas. Through its ownership of Mexrail, the Company owns the northern half of the rail bridge at Laredo, Texas. Laredo is a principal international gateway through which more than half of all rail and truck traffic between the United States and Mexico crosses the border. The Company also controls the southern half of this bridge through its ownership of KCSM.
 
The KCS coordinated rail network (KCSR, KCSM and Tex-Mex) comprises approximately 6,000 miles of main and branch lines extending from the Midwestmidwest and Southeastsoutheast portions of the United States south into Mexico and connects with other Class I railroads, providing shippers with an effective alternative to other railroad routes and giving direct access to Mexico and the Southeastsoutheast and Southwestsouthwest United States through less congested interchange hubs.
 
KCS also owns a fifty percent equity investment in the stock of Panama Canal Railway Company (“PCRC”), which holdsan unconsolidated joint venture company owned equally by KCS andMi-Jack Products, Inc. (“Mi-Jack”), was awarded a concession from the concessionRepublic of Panama to reconstruct and operate the Panama Canal Railway, a47-milecoast-to-coast47-mile railroad located adjacent to the Panama Canal that provides international container shipping companies with a railway transportation option in lieu of the Panama Canal. The concession was awarded in 1998 for an initial term of 25 years with an automatic renewal for an additional 25 year term. The Panama Canal Railway is a north-south railroad handles containers in freight service acrosstraversing the Isthmus of Panama.Panama between the Atlantic and Pacific Oceans. PCRC’s wholly-owned subsidiary, Panarail Tourism


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Company (“Panarail”), a wholly owned subsidiary of PCRC, operates and promotes commuter and tourist railway servicespassenger service over the lines of PCRC.Panama Canal Railway.
 
Other subsidiaries and affiliates of KCS include the following:
 
 • Meridian Speedway, LLC (“MSLLC”), a ninetyseventy-two percent owned consolidated affiliate that owns the former KCSR rail line between Meridian, Mississippi and Shreveport, Louisiana, which is the portion of the KCSR rail line between Dallas, Texas and Meridian known as the “Meridian Speedway.” Norfolk Southern Corporation (“NS”) through its wholly-owned subsidiary, The Alabama Great Southern Railroad Company, owns the remaining tentwenty-eight percent of MSLLC. Ultimately KCS will own seventy percent and NS will own thirty percent of MSLLC upon the contribution of additional capital by NS to MSLLC;


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 • PABTEX GP, LLC,Pabtex, Inc., a wholly-owned and consolidated owner of a bulk materials handling facility with deep-water access to the Gulf of Mexico at Port Arthur, Texas that stores and transfers petroleum coke and soda ash from trucks and rail cars to ships, primarily for export;
 
 • Trans-Serve, Inc. (doing business as Superior Tie and Timber), a wholly-owned and consolidated operator of a railroad wood tie treatment facility;
 
 • Transfin Insurance, Ltd., a wholly-owned and consolidated captive insurance company, providing property, general liability and certain other insurance coverage to KCS and its subsidiaries and affiliates;
 
 • Southern Capital Corporation, LLC (“Southern Capital”), a fifty percent owned unconsolidated affiliate that leases locomotives and railother equipment; and
 
 • Ferrocarril y Terminal del Valle de México, S.A. de C.V. (“FTVM”), a twenty fivetwenty-five percent owned unconsolidated affiliate that provides railroad services as well as ancillary services in the greater Mexico City area.
   
MARKETS SERVED
2009 Revenues

Business Mix
Chemical and Petroleum.petroleum.  This sector includes products such as petroleum, rubber, plastics and miscellaneous chemicals. KCS transports chemical and petroleumthese products via tank and hopper cars to markets in the Southeastsoutheast and Northeastnortheast United States and throughout Mexico through interchanges with other rail carriers. Primary traffic includesThe products within the chemicals and plastics petroleum, oils, petroleum coke, rubberchannels are used in the automotive, housing and miscellaneous chemicals.

Forest Products and Metals.  KCS’ rail lines run throughpackaging industries as well as in the heartproduction of the Southeast United States timber-producing region. The Company believes that
other chemicals
 2006 Revenues
Business Mix
 
and plastic products. KCS hauls petroleum products across its network and as petroleum refineries have continued to increase their refining capacity, they have coordinated with KCS to develop additional long-term storage opportunities which complement a fluid freight railroad operation.
Industrial and consumer products.  KCS’ rail lines run through the heart of the southeast United States timber-producing region. The Company believes that forest products made from trees in this region are generally less expensive than those from other regions due to lower production costs. As a result, southern yellow pine products from the Southeastsoutheast are increasingly being used at the expense of western producers that have experienced capacity reductions because of environmental and public policy considerations. KCSRKCS serves paper mills directly and indirectly through its various short-line connections.
 
This product categorysector also includes metals minerals and ores such as iron, steel, zinc and copper. The majority of metals, minerals and ores mined, and steel produced in Mexico are used for domestic consumption.consumed within Mexico. The volume of Mexican steel exports fluctuates based on global market prices. Higher-end finished products such as steel coils are used by Mexican manufacturers in automobiles, household appliances and other consumer goods which are imported to the United States through Nuevo Laredo and through the seaports served by KCS’ rail lines. United States slab steel products are usednetwork.


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Agriculture and minerals.  The agriculture and minerals sector consists primarily in the manufacture of drill pipe for the oil industry.
Agricultural and Mineral.  Agricultural products consist of grain food and relatedfood products. Shipper demand for agriculturalagriculture products is affected by competition among sources of grain and grain products, as well as price fluctuations in international markets for key commodities. In the United States, KCS’ rail lines receive and originate shipments of grain and grain products for delivery to feed mills serving the poultry industry. KCS currently serves feed mills along its rail lines throughout Arkansas, Oklahoma, Texas, Louisiana, Mississippithe midwest and Alabama. Throughsoutheast United States and through its marketing agreements, KCS has access to sources of corn and other grain in Iowa and other Midwest states.the Midwest. United States export grain shipments and Mexico import grain shipments include primarily corn, wheat, and soybeans transported to Mexico via Laredo and to the Gulf of Mexico for overseas destinations. Over the long term, export grain shipments to Mexico are expected to increase as a result of Mexico’s reliance on grain imports.imports and KCS’ coordinated rail network is well positioned to meet these increases in demand. Food and related products consistconsists mainly of soybean meal, grain meal, oils, and canned goods, sugar and beer. Mineralsugar. Other shipments consist of a variety of products including ores, minerals, clay stone and cement.glass used across North America.


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Intermodal and Automotive.Intermodal.  The intermodal freight business consists primarily of hauling freight containers or truck trailers fromon behalf of steamship lines, motor carriers, and ocean liners,intermodal marketing companies with rail carriers serving as long-distance haulers. KCS serves and supports the U.S. and Mexican markets, as well as cross border traffic between the U.S. and Mexico. In light of the importance of trade between Asia and North America, the Company believes the Port of Lazaro Cardenas continues to be a strategically beneficial location for ocean carriers, manufacturers and retailers. The Asia/Mexico commerce is handled through the Port of Lazaro Cardenas in conjunction with cross border movement on the single coordinated rail network into markets in the U.S. The Company also provides premium service to customers over its line from Dallas through the Meridian Speedway — a critical link in creating the most direct transcontinental line between the southwest and southeast U.S.
Automotive.  KCS provides rail transportation to every facet of the automotive business consists primarily of moving parts toindustry supply chain, including automotive manufacturers, assembly plants and distribution centers throughout North America. Several U.S. automakers have moved assembly plants into central Mexico to take advantage of access to lower costs, which has driven a shift in production and distribution patterns from the U.S. to Mexico. In addition, KCS transports finished vehicles imported from Asia through a distribution facility at the Port of Lazaro Cardenas. As the automotive industry shifts production and distribution patterns, KCS is poised to distribution centers for market consumption in Northserve as a key partner with the automakers, with the technology and South America.rail network to quickly adapt to the automotive industry’s evolving transportation requirements.
 
Coal.  KCS hauls unit trains (trains transporting a single commodity from one source to one destination) of coal for teneight electric generating plants in the central United StatesStates. The coal originates from the Powder River Basin in Wyoming.Wyoming and is interchanged to KCS at Kansas City, Missouri. Coal mined in the Midwestmidwest United States is transported innon-unit trains to industrial consumers such as paper mills, steel mills, and cement companies. Petroleum coke is also included in the coal sector, which KCS transports from refineries in the United States to cement companies in Mexico as well as to vessels for international distribution through the Pabtex export terminal located in Port Arthur, Texas.
 
GOVERNMENT REGULATION
 
The Company’s United States operations are subject to federal, state and local laws and regulations generally applicable to all businesses. Rail operations are also subject to the regulatory jurisdiction of the Surface Transportation Board (“STB”) of the U.S. Department of Transportation (“DOT”), the Federal Railroad Administration of the DOT, the Occupational Safety and Health Administration (“OSHA”), as well as other federal and state regulatory agencies. The STB has jurisdiction over disputes and complaints involving certain rates, routes and services, the sale or abandonment of rail lines, applications for line extensions and construction, and consolidation or merger with, or acquisition of control of, rail common carriers. DOT and OSHA each has jurisdiction under several federal statutes over a number of safety and health aspects of rail operations, including the transportation of hazardous materials. In the fourth quarter of 2008, the President of the United States signed the Rail Safety Improvement Act of 2008 into law, which, among other things, revises hours of service rules for train and certain other railroad employees, mandates implementation of positive train control (a technology designed to help preventtrain-to-train collisions, overspeed derailments, incursions into rail work zones, and entry into main line track if a switch is misaligned) at certain locations (including main


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line track where toxic inhalation hazard or poison inhalation hazard movements occur or where passenger operations occur) by the end of 2015, addresses safety at rail crossings, increases the number of safety related employees of the Federal Railroad Administration, and increases fines that may be levied against railroads for safety violations. State agencies regulate some aspects of rail operations with respect to health and safety in areas not otherwise regulated by federal law.
 
KCS’ subsidiaries as well as its competitors, are subject to extensive federal, state and local environmental regulations. These laws cover discharges to water, air emissions, toxic substances, and the generation, handling, storage, transportation and disposal of waste and hazardous materials. These regulations have the effect of increasing the costs, risks and liabilities associated with rail operations. Environmental risks are also inherent in rail operations, which frequently involve transporting chemicals and other hazardous materials.
 
Primary regulatory jurisdiction for the Company’s Mexican operations is overseen by the Secretary of Communications and Transportation (“SCT”). The SCT establishes regulations concerning railway safety and operations, and it is responsible for resolving disputes between railways and between railways and customers. In addition, KCSM must register its maximum rates with the SCT and make regular reports to the SCT on investment and traffic volumes. See Note 1 to the Consolidated Financial Statements in Item 8 of thisForm 10-K “Description of the Business —The KCSM Concession.”
 
The Mexican operations are subject to Mexican federal and state laws and regulations relating to the protection of the environment through the establishment of standards for water discharge, water supply, emissions, noise pollution, hazardous substances and transportation and handling of hazardous and solid waste. The Mexican government may bring administrative and criminal proceedings and impose economic sanctions against companies that violate environmental laws, and temporarily or even permanently close non-complying facilities.
 
Noncompliance with applicable legal provisions may result in the imposition of fines, temporary or permanent shutdown of operations or other injunctive relief, criminal prosecution or the termination of the Concession. KCS believes that all facilities thatwhich it operates are in substantial compliance with applicable environmental laws, regulations and agency agreements. KCS maintains environmental reserves which are believed by management to be appropriate with respect to known and existing environmental contamination of its properties which KCS may be responsible to remedy. In addition, KCS’s subsidiaries are party to contracts and other legally binding obligations by which previous owners of certain facilities now owned by KCS are responsible to remedy contamination of such sites remaining from their previous ownership. There are currently no material legal or administrative proceedings pending against the Company with respect to any environmental matters and management does not believe that continued compliance with environmental laws will have any material adverse effect on the Company’s financial condition or results of operations.condition. KCS cannot predict the effect, if any, that unidentified environmental matters or the adoption of additional or more stringent environmental laws and regulations would have on the Company’s results of operations, cash flows or financial condition.
 
COMPETITION
 
The Company competes against other railroads, many of which are much larger and have significantly greater financial and other resources. Since 1994, there has been significant consolidation among major North American rail carriers. As a result, theThe railroad industry is now dominated by a few very large carriers.


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The larger western railroads (BNSF Railway Company and Union Pacific Railroad Company), in particular, are significant competitors toof KCS because of their substantial resources.resources and competitive routes. The ongoing impact of these mergerspast and future rail consolidation is uncertain. However, KCS believes that its investments and strategic alliances continue to competitively position the Company to attract additional rail traffic throughout its rail network.
 
In November 2005, Ferrocarril Mexicano, S.A. de C.V. (“Ferromex”) acquired control of and merged with Ferrocarril del Sureste,Ferrosur S.A. de C.V. (“Ferrosur”), creating Mexico’s largest railway. The merger between Ferromex and Ferrosur has been declared illegal by the Mexican Antitrust Commission. Both Ferromex and Ferrosur have challenged this ruling. These merged operations are much larger than KCSM, and they serve most of the major ports and cities in Mexico and together own fifty percent of FTVM, which serves all of the industries located within Mexico City. The merger between Ferromex and Ferrosur has been rejected by theComisión Federal de Competencia(Mexican Antitrust Commission, or “COFECO”). Both Ferromex and Ferrosur challenged COFECO’s decision.


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The Company is subject to competition from motor carriers, barge lines and other maritime shipping, which compete across certain routes in KCS’ operating areas. TruckIn the past, truck carriers have generally eroded the railroad industry’s share of total transportation revenues. Intermodal traffic and certain other traffic face highly price sensitive competition, particularly from motor carriers. However, rail carriers, including KCS, have placed an emphasis on competing in the intermodal marketplace and working with motor carriers and each other to provideend-to-end transportation of products.
 
While deregulation of U.S. freight rates has enhanced the ability of railroads to compete with each other and with alternative modes of transportation, this increased competition has generally resulted in downward pressure on freight rates. Competition with other railroads and other modes of transportation is generally based on the rates charged, the quality and reliability of the service provided and the quality of the carrier’s equipment for certain commodities.
 
EMPLOYEES AND LABOR RELATIONS
 
Labor relations in the U.S. railroad industry are subject to extensive governmental regulation under the Railway Labor Act (“RLA”). Under the RLA, national labor agreements are renegotiated on an industry-wide scale when they become open for modification, but their terms remain in effect until new agreements are reached. Typically, neither management nor laborreached or the RLA’s procedures (which include mediation, cooling-off periods, and the possibility of presidential intervention) are exhausted. Contract negotiations with the various unions generally take place over an extended period of time and the Company rarely experiences work stoppages during negotiations. Wages, health and welfare benefits, work rules and other issues have traditionally been addressed during these negotiations.
Approximately 80% of KCSR employees are permitted to take economic action until extended procedures are exhausted. Previously, these negotiations havecovered by various collective bargaining agreements. KCSR participates in industry-wide bargaining as a member of the National Carriers’ Conference Committee. A negotiating process for new, major collective bargaining agreements covering all of KCSR’s union employees has been underway since the bargaining round was initiated in November of 2009. Long term settlement agreements were reached during 2007 and 2008 covering all of KCSR’s unionized work force through January 1, 2010. The union labor negotiation has not historically resulted in any extended work interruptions. Understrike, boycott, or other disruption in the negotiating process which began on November 1, 1999, all unions reached new labor agreements with KCSR in 2005. Various collective bargaining agreements cover 81% of KCSR’s employees.Company’s business operations. The Company does not believe the expected settlements will have a material impact to the consolidated financial statements.
 
KCSM’sKCSM union employees are covered by one labor agreement, covering approximately 75% of its employeeswhich was renewed in 2005signed on June 23, 1997, between KCSM and is effectivetheSindicato de Trabajadores Ferrocarrileros de la República Mexicana (Mexican Railroad Union), for a two-year term ending in July 2007.of 50 years, for the purpose of regulating the relationship between the parties and improving conditions for the union employees. Approximately 80% of KCSM employees are covered by this labor agreement. The compensation terms of theunder this labor agreement are subject to renegotiation on an annual basis and all other terms are renegotiatedsubject to negotiation every two years. These negotiations haveIn June of 2009, the negotiation of the compensation terms and all other benefits was started with the Mexican Railroad Union. The union labor negotiation with the Mexican Railroad Union has not historically resulted in any strikes, boycottsstrike, boycott, or other significant disruptions ofdisruption in KCSM’s business operations. KCSM does not believe the expected settlements will have a material impact to the consolidated financial statements.
RAIL SECURITY
 
The responseCompany and its rail subsidiaries have made a concentrated, multi-disciplinary effort since the terrorist attacks on the United States on September 11, 2001, to Item 101continue securing the Company’s assets and personnel against the risk ofRegulation S-K under Part II Item 7 terrorism and other security risks. Many of thisForm 10-K,the specific measures the Company utilizes for these efforts are required to be kept confidential through arrangements with government agencies, such as the Department of Homeland Security (“DHS”), or through jointly-developed and implemented strategies and plans with connecting carriers. To protect the responses under Note 1confidentiality and Note 11sensitivity of the efforts the Company has made to safeguard against terrorism and other security incidents, the following paragraphs will provide only a general overview of some of these efforts. KCSR and KCSM utilize a security plan based on an industry wide security plan developed by Association of American Railroads (“AAR”) members which focuses on comprehensive risk assessments in five areas — hazardous materials; train operations; critical physical assets; military traffic; and information technology and communications. The security plan is kept


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confidential, with access to the Consolidated Financial Statementsplan tightly limited to members of management with direct security and anti-terrorism implementation responsibilities. KCSR and KCSM participate with other AAR members in Item 8periodic drills under the industry plan to test and refine its various provisions.
The Company’s security activities range from periodically mailing each employee a security awareness brochure (which is also posted under the “Employees” tab on the Company’s internet website, www.kcsouthern.com) to its ongoing development and implementation of thisForm 10-Ksecurity plans for rail facilities in areas labeled by the DHS as High Threat Urban Areas (“HTUAs”). The Company’s other activities to bolster security against terrorism include, but are incorporated by referencenot limited to, the following:
• Conferring regularly with other railroads’ security personnel and with industry experts on security issues;
• Analyzing routing alternatives and other strategies to reduce the distances that certain chemicals, which might be toxic if inhaled, are transported;
• Initiating a series of over 20 voluntary action items agreed to between AAR and DHS as enhancing security in the rail industry; and
• Including periodic security training as part of the scheduled training for operating employees and managers.
In addition, in partial response2008 the Company created a new leadership role titled “Director of Homeland Security” to this Item 1. Refer to Item 2, “Properties”, for further discussionoversee the ongoing and increasingly complex security efforts of the Company’s business.Company in both the United States and Mexico. The Company identified and retained an individual to fill the position who has an extensive law enforcement background, including being formerly employed as an analyst with the Federal Bureau of Investigation (“FBI”) for 12 years. This member of management remains a member of the FBI’s Joint Terrorism Task Force and is a valuable asset to the Company in implementing and developing anti-terrorism and other security initiatives.
During 2008, KCSR worked toward implementation of DHS’s Transport Worker Identification Card program for those employees requiring unescorted access to secure areas of port facilities, and during 2009, began implementing a contractor background check program for contractor employees having access to certain Company facilities.
While the risk of theft and vandalism is higher in Mexico, KCSM remains among the safest transportation for freight shipments in Mexico. KCSM’s record in rail safety is due in large part to the implementation of a multi-layered, safety and security process throughout the KCSM network. In addition to having its own internal system of checks and balances, the process is connected to, and supported by a high level of federal, state and local law enforcement. A primary focus of this effort involves maintaining train velocity, which reduces the likelihood for incidents to occur. By moving customers’ shipments more efficiently, KCSM is keeping the cargo secure.
 
AVAILABLE INFORMATION
 
KCS’ website (www.kcsouthern.com) provides at no cost theKCS’ Annual Reports onForm 10-K, Quarterly Reports onForm 10-Q, and Current Reports onForm 8-K, and amendments to those reports, as soon as reasonably practicable after the electronic filing of these reports is made with the Securities and Exchange Commission. In addition, KCS’ corporate governance guidelines, ethics and legal compliance policy, and the charters of the Audit Committee, the Finance Committee, the Nominating and Corporate Governance Committee and the Compensation and Organization Committee of the Board of Directors are available on theKCS’ website. These guidelines, policies and charters are available in print without charge to any stockholder requesting them. Written requests for these materials may be made to the Corporate Secretary, P.O. Box 219335, Kansas City, Missouri64121-9335 (or if by express delivery to 427 West 12th Street, Kansas City, Missouri 64105).


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See Item 8, Financial Statements and Supplementary Data — Note 1 “Description of the Business” and Note 17 “Geographic Information” for more information on the description and general development of the Company’s business and financial information about geographic areas.
 
Item 1A.  Risk Factors
 
Risks Related to an Investment in KCS’ Common Stock
 
The price of KCS’ common stock may fluctuate significantly, which may make it difficult for investors to resell common stock when they want to or at prices they find attractive.
 
The price of KCS’ common stock on the New York Stock Exchange (“NYSE”), listed under the ticker symbol “KSU”, constantly changes. The Company expects that the market price of its common stock will continue to fluctuate.
 
The Company’s stock price can fluctuate as a result of a variety of factors, many of which are beyond KCS’ control. These factors include, but are not limited to:
 
 • quarterly variations in operating results;
 
 • operating results that vary from the expectations of management, securities analysts, ratings agencies and investors;
 
 • changes in expectations as to future financial performance, including financial estimates by securities analysts, ratings agencies and investors;
 
 • developments generally affecting the railroad industry;
 
 • announcements by KCS or its competitors of significant contracts, acquisitions, joint marketing relationships, joint ventures or capital commitments;
 
 • the assertion or resolution of significant claims or proceedings against KCS;
 
 • KCS’ dividend policy and restrictions on the payment of dividends;
 
 • future sales of KCS’ equity or equity-linked securities;
 
 • the issuance of common stock in payment of dividends on preferred stock or upon conversion of preferred stock;stock or convertible debt; and
 
 • general domestic and international economic conditions.conditions including the availability of short- and long-term financing.
 
In addition, from time to time the stock market in general has experienced extreme volatility that has often been unrelated to the operating performance of a particular company. These broad market fluctuations may adversely affect the market price of KCS’ common stock.
 
KCS’ ability to pay cash dividends on its common stock is currently restricted,prohibited and KCS does not anticipate paying cash dividends on its common stock in the foreseeable future.
 
KCS has agreed, and may agree in the future, to restrictions on its ability to pay cash dividends on its common stock. In addition, to maintain its credit ratings, the Company may be limited in its ability to pay cash dividends on its common stock so that it can maintain an appropriate level of debt. During the first quarter of 2000, the boardBoard of directorsDirectors suspended common stock dividends. KCS does not anticipate making any cash dividend payments to its common stockholders forin the foreseeable future.
 
Holders of the Series C Preferred Stock and Series D Preferred Stock may have special voting rights if KCS fails to pay dividends on that preferred stock over a stated number of quarters.
 
Because of certain restrictions in the indentures governing notes issued by KCSR, KCS did not pay dividends on its Series C Preferred Stock or Series D Preferred Stock commencing on May 15, 2006, for the first quarter of 2006 until those dividend arrearages were made up in February 2007. If dividends on the Series C Preferred Stock or Series D Preferred Stock are in arrears for six consecutive quarters (or an equivalent number of days in the aggregate, whether or not consecutive), holders of the Series C Preferred Stock or Series D Preferred Stock as applicable, will be entitled to elect two of the authorized number of directors at the next annual stockholders’ meeting at which directors are elected and at each subsequent stockholders’ meeting until such time as all accumulated dividends are paid on the Series C Preferred Stock or


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Series D Preferred Stock as applicable, or set aside for payment. In addition, so long as dividends on the Series D Preferred Stock remain unpaid and for a period thereafter, KCS will not be eligible to register future


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offerings of securities onForm S-3 or to avail itself of the other benefits available to companies that qualify as “well-known seasoned issuers” under SEC rules, if KCS fails to pay dividends on its preferred stock. Thiswhich could adversely affect KCS’ ability to access capital markets and increase the cost of accessing capital markets, until the Company qualifies as a “well-known seasoned issuer.”markets.
 
Sales of substantial amounts of KCS’ common stock in the public market could adversely affect the prevailing market price of the common stock.
 
As of December 31, 2006,2009, there were 10,607,0688,763,107 shares of common stock issued or reserved for issuance under the 1991 Amended and Restated Stock Option and Performance Award Plan, the 2008 Stock Option and Performance Award Plan and the Employee Stock Purchase Plan, 2,061,2342,117,095 shares of common stock held by executive officers and directors outside those plans, and 20,389,1136,999,826 shares of common stock reserved for issuance upon conversion of the outstanding shares of convertible preferred stock. Sales of common stock by employees upon exercise of their options, sales by executive officers and directors subject to compliance with Rule 144 under the Securities Act, and sales of common stock that may be issued upon conversion of the outstanding preferred stock, or the perception that such sales could occur, may adversely affect the market price of KCS’ common stock.
 
KCS has provisions in its charter, bylaws and Rights Agreement that could deter, delay or prevent a third party from acquiring a controlling interest in KCS and that could deprive an investor of an opportunity to obtain a takeover premium for shares of KCS’ common stock.
 
KCS has provisions in its charter and bylaws that may delay or prevent unsolicited takeover bids from third parties. Theseparties, including provisions may deprive KCS’ stockholders of an opportunity to sell their shares at a premium over prevailing market prices. For example, the restated certificate of incorporation providesproviding for a classified board of directors. It further provides that the vote of 70% of the shares entitled to voteand supermajority stockholder approval requirements in the election of directors is required to amend the restated certificate of incorporationorder to increase the numbersize of the board of directors, to more than eighteen, abolish cumulative voting, for directors and abolish the classification of the board. The same vote requirement is imposed by the restated certificate of incorporation onBoard, or effect certain transactions involving mergers, consolidations, salesmerger, consolidation or leases of assets with or to certain owners of more than 5% of KCS’ outstanding stock entitled to vote in the election of directors.sale transactions. The bylaws provide that a stockholder must give the Company advance written notice of its intent to nominate a director or raise a matter at an annual meeting. In addition, the Company has adopted a Rights Agreement which under certain circumstances would significantly impair the ability of third parties to acquire control of KCS without prior approval of the boardBoard of directors.Directors. These provisions may deprive KCS’ stockholders of an opportunity to sell their shares at a premium over prevailing market prices.
The failure of a bank to fund a request (or any portion of such request) by KCS to borrow money under its existing revolving credit facility could reduce KCS’ ability to fund capital expenditures or otherwise properly fund its operations.
The Company and its subsidiaries are in an industry that requires continuing infrastructure improvements and acquisitions of capital assets, necessitating substantial expenditure of cash. KCSR has an existing revolving credit facility with multiple banking institutions to provide additional liquidity. If any of the banking institutions that are a party to such credit facility fails to fund a request (or any portion of such request) by KCSR to borrow money under its credit facility, KCS’ ability to fund capital expenditures, fund its operations and pay debt service could be reduced, each of which could result in a decline in the value of a stockholder’s investment in the Company.
The failure of any bank in which the Company deposits funds could reduce the amount of cash the Company has available to pay distributions and make additional investments.
Given the developments in the subprime mortgage and other financial markets, financial institutions have additional capital risks. The Company has diversified cash and cash equivalents among several banking institutions in an attempt to minimize exposure to any one of these entities. However, the Federal Deposit Insurance Corporation, or “FDIC,” only insures amounts up to $250,000 per depositor per insured bank. KCS currently has cash and cash equivalents and restricted cash deposited in certain financial institutions in excess of federally insured levels. If any of the banking institutions in which KCS has deposited funds ultimately fails, the Company may lose its deposits to the extent they are in excess of $250,000. The loss of the Company’s deposits could reduce the amount of cash the Company has available to distribute or invest and could result in a decline in the value of each stockholder’s investment in the Company.


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Risks Related to KCS’ Business
 
KCS competes against other railroads and other transportation providers.
 
The Company’s domestic and international operations are subject to competition from other railroads, in particularparticularly the Union Pacific Railroad Company (“UP”) and BNSF Railway Company (“BNSF”) in the United States and Ferromex in Mexico.Mexico, as well as from truck carriers, barge lines, and other maritime shippers. Many of KCS’ rail competitors are much larger and have significantly greater financial and other resources than KCS.KCS, which may enable rail competitors to reduce rates and make KCS’ freight services less competitive. KCS’ ability to respond to competitive pressures by matching rate reductions and decreasing rates without adversely affecting gross margins and operating results will depend on, among other things, the ability to reduce operating costs. KCS’ failure to respond to competitive pressures, and particularly rate competition, in a timely manner could have a material adverse effect on the Company’s results of operation and financial condition.
The railroad industry is dominated by a few large carriers. These larger railroads could attempt to use their size and pricing power to block other railroads’ access to efficient gateways and routing options that are currently and have historically been available. In addition, if there is future consolidation in the Company is subject to competition from truck carriersrailroad industry in the United States or Mexico, there can be no assurance that it will not have an adverse effect on operations.
Trucking, maritime, and from barge lines and other maritime shipping. Increased competition could result in downward pressure on freight rates. Competition with other railroads and other modes of transportation is generally based on the rates charged, the quality and reliability of the service provided and the quality of the carrier’s equipment for certain commodities. While KCS must build or acquire and maintain its infrastructure, truck carriers, maritime shippers and barges arecompetitors, while able to use publicrights-of-way. The trucking industry has in the past provided effectiveprovide rate and service competition to the railroad industry. Trucking requiresindustry, are able to use publicrights-of-way, require substantially smaller capital investment and maintenance expenditures than railroads and allowsallow for more frequent and flexible scheduling. Continuing competitive pressures, any reduction in margins due to competitive pressures, future improvements that increase the quality of alternative modes of transportation in the locations in which the Company operates, or legislation or regulations that provide motor carriers with additional advantages,


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such as increased size of vehicles and reduced weight restrictions, could result in downward pressure on freight rates, which in turn could have a material adverse effect on results of operations, financial condition and liquidity.
 
A materialcentral part of KCS’ growth strategy is based upon the conversion of truck traffic to rail. There can be no assurance the Company will have the abilitysucceed in its efforts to convert traffic from truck to rail transport or that the customers already converted will be retained. If the railroad industry in general and the Mexican operations in particular, areis unable to preserve theirits competitive advantages vis-à-vis the trucking industry, projected revenue growth from the Mexican operations could be adversely affected. Additionally, the revenue growth attributable to the Mexican operations could be affected by, among other factors, KCS’ inability to grow its existing customer base, negative macroeconomic developments impacting the United States or Mexican economies, and failure to capture additional cargo transport market share from the shipping industry and other railroads.
NAFTA called for Mexican trucks to have unrestricted access to highways in United States border states by 1995 and full access to all United States highways by January 2000. However, the United States did not follow that timetable because of concerns over Mexico’s trucking safety standards. In February 2001, a NAFTA tribunal ruled in an arbitration between the United States and Mexico that the United States must allow Mexican trucks to cross the border and operate on United States highways. On March 14, 2002, as part of its agreement under NAFTA, the U.S. Department of Transportation issued safety rules that allow Mexican truckers to apply for operating authority to transport goods beyond the20-mile commercial zones along the United States-Mexico border. These safety rules require Mexican motor carriers seeking to operate in the United States to, among other things, pass safety inspections, obtain valid insurance with a United States registered insurance company, conduct alcohol and drug testing for drivers and obtain a U.S. Department of Transportation identification number. Under the rules issued by the U.S. Department of Transportation, it was expected that the border would have been opened to Mexican motor carriers in 2002. However, in January 2003, in response to a lawsuit filed in May 2002 by a coalition of environmental, consumer and labor groups, the U.S. Court of Appeals for the Ninth Circuit issued a ruling which held that the rules issued by the U.S. Department of Transportation violated federal environmental laws because the Department of Transportation failed to adequately review the impact on United States air quality of rules allowing Mexican carriers to transport beyond the20-mile commercial zones along the United States-Mexico border. The Court of Appeals ruling required the Department of Transportation to provide an Environmental Impact Statement on the Mexican truck plan and to certify compliance with the United States Clean Air Act. The Department of Transportation requested the United States Supreme Court to review the Court of Appeals ruling and, on December 15, 2003, the Supreme Court granted the Department of Transportation’s request. On June 7, 2004, the Supreme Court unanimously overturned the Court of Appeals ruling. Although the Department of Transportation is no longer required to provide an Environmental Impact Statement under the Supreme Court’s ruling, the United States and Mexico must still complete negotiations on safety inspections before the border is opened. KCS cannot predict when these negotiations will be completed. There can be no assurance that truck transport between Mexico and the United States will not increase substantially in the future if the United States and Mexico complete the negotiations and the border is opened. Any such increase in truck traffic could affect KCS’ ability to continue converting traffic to rail from truck transport because it may result in an expansion in the availability, or an improvement in the quality, of the trucking services offered by Mexican carriers.
Through KCSM’s Concessioncarriers resulting from regulatory and administrative interpretations and implementation of certain provisions of the North American Free Trade Agreement (“NAFTA”), and KCS’ inability to grow its existing customer base and capture additional cargo transport market share because of competition from the Mexican government, the Company has the right to controlshipping industry and operate the southern half of the rail-bridge at Laredo, Texas. Under the Concession, KCSM must grant to Ferromex the right to operate over a north-south portion of KCSM’s rail lines between Ramos Arizpe near Monterrey and the city of Queretaro that constitutes over 600 kilometers (360 miles) of KCSM’s main track. Using these trackage rights, Ferromex may be able to compete with KCSM over KCSM’s rail lines for traffic between Mexico City and the United States. The Concession also requires KCSM to grant rights to use certain portions of its tracks to Ferrosur and the “belt railroad” operated in the greater Mexico City area by FTVM, thereby providing Ferrosur with more efficient access to certain Mexico City industries. As a result of having to grant trackage rights to other railroads, KCSM loses the capacity of using a portion of its tracks at all times.


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Ferromex, the operator of the largest railway system in Mexico, is in close proximity to KCSM’s rail lines. In particular, KCSM has experienced and continues to experience competition from Ferromex with respect to the transport of a variety of products. The rail lines operated by Ferromex run from Guadalajara and Mexico City to four United States border crossings west of the Nuevo Laredo-Laredo crossing, providing an alternative to KCSM’s routes for the transport of freight from those cities to the United States border. In addition, Ferromex directly competes with KCSM in some areas of its service territory, including Tampico, Saltillo, Monterrey and Mexico City. Ferrosur competes directly with KCSM for traffic to and from southeastern Mexico. Ferrosur, like KCSM, also services Mexico City and Puebla.
In November 2005, Grupo México, the controlling shareholder of Ferromex, acquired all of the shares of Ferrosur. The common control of Ferromex and Ferrosur would give Grupo México control over a nationwide railway system in Mexico and ownership of 50% of the shares of FTVM. The merger between Ferromex and Ferrosur has been declared illegal by the Mexican Antitrust Commission. Both Ferromex and Ferrosur have challenged this ruling. There can be no assurance as to whether Grupo México will be successful in challenging this ruling. If Grupo México is successful in its appeal, KCSM’s competitive position may be harmed.
On August 3, 2006, the Mexican Antitrust Commission announced an investigation into possible antitrust practices in the provision of rail cargo services. The targets of that investigation have not been identified, and while KCSM may be required to provide information in connection with the investigation, the Company does not believe KCSM’s operations are the subject of the inquiry, although there can be no assurance KCSM is not or would not become a subject of the inquiry.
Rate reductions by competitors could make KCS’ freight services less competitive, and KCS cannot assure that it would always be able to match these rate reductions. In recent years, KCS has experienced aggressive price competition from Ferromex in freight rates for agricultural products, which has adversely affected results of operations. KCS’ ability to respond to competitive pressures by decreasing rates without adversely affecting gross margins and operating results will depend on, among other things, the ability to reduce operating costs. KCS’ failure to respond to competitive pressures, and particularly rate competition, in a timely manner could have a material adverse effect on the Company’s financial condition.
In recent years, there has also been significant consolidation among major North American rail carriers. The resulting merged railroads could attempt to use their size and pricing power to block other railroads’ access to efficient gateways and routing options that are currently and have been historically available. There can be no assurance that further consolidation in the railroad industry, whether in the United States or Mexico, will not have an adverse effect on operations.railroads.
 
KCS’ business strategy, operations and growth rely significantly on agreements with other railroads and third parties.
 
Operation of KCS’ integrated rail network and its plans for growth and expansion rely significantly on agreements with other railroads and third parties, including joint ventures and other strategic alliances. KCS’ operations are dependent onalliances, as well as interchange, trackage rights, haulage rights and marketing agreements with other railroads and third parties that enable KCS to exchange traffic and utilize trackage the Company does not own. KCS’ ability to provide comprehensive rail service to its customers depends in large part upon its ability to maintain these agreements with other railroads and third parties. The termination of, or the failure to renew, these agreements could adversely affect KCS’ business, financial condition and results of operations. KCS is also dependent in part upon the financial health and efficient performance of other railroads. For example, some of KCSR’s traffic moves over the UP’s lines via trackage rights, a significant portion of KCSR’s grain shipments originate with another rail carrier pursuant to marketing agreements with that carrier, and BNSFthe UP is KCS’ largest partner in the interchange of total rail traffic. There can be no assurance that KCS will not be materially adversely affected by operational or financial difficulties of other railroads.


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KCSM’s operations are subject to certain trackage rights, haulage rights and interline service agreements with another Mexican rail carrier, some of which are in dispute.
 
Pursuant toThrough KCSM’s Concession from the Concession,Mexican government, KCSM is required to grant short and long distance trackage rights to use portions of its tracks to Ferromex, Ferrosur and FTVM.Ferromex. Applicable law stipulates that Ferromex Ferrosur and FTVM aresimilarly is required to grant to KCSM rights to use portions of their tracks. KCSM’s Concession classifies trackage rights as short trackage


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rights and long-distance trackage rights. Although all of these trackage rights have been granted under the Concession, no railroad hasKCSM and Ferromex have not actually operated under the long-distancelong distance trackage rights because, the means of setting rates for usage and often related terms of usage have not been agreed upon. Under the Mexican railroad services law and regulations,other than the rates to be charged pursuant to the Trackage Rights Agreement, dated February 9, 2010, between KCSM and Ferromex, the rates that may chargebe charged for the right to use itsthe tracks must behave not been agreed upon in writing between KCSM and Ferromex for the party to which those rights are granted. However, ifperiods beginning in 1998 through December 31, 2008.
If KCSM cannot reach an agreement onwith Ferromex for rates with rail carriers entitledapplicable for services prior to trackage rights on KCSM’s rail lines,January 1, 2009 which are not subject to the Trackage Rights Agreement, the SCT is entitled to set the rates in accordance with Mexican law and regulation,regulations, which rates may not adequately compensate KCSM. KCSM and Ferromex have not been able to agree upon the rates each of them is required to pay the other for interline services and haulage and trackage rights. KCSM and Ferromex arecurrently involved in judicial, civil commercial and administrative proceedings in connectionand negotiations with amountsFerromex regarding the rates payable to each other for trackage rights, interline services haulage and trackage rights. On March 13, 2002, the SCT issued a ruling setting the rates for trackage and haulage rights. On August 5, 2002, the SCT issued a ruling setting the rates for interline and terminal services. KCSM and Ferromex appealed both rulings to the Mexican Supreme Court. KCSM and Ferromex also requested and obtained a suspension of the effectiveness of the SCT rulings pending resolution of the litigation. In February 2006, the Mexican Supreme Court sustained KCSM’s appeal of the SCT’s trackage and haulage rights ruling, vacated the SCT ruling and ordered the SCTfor periods prior to issue a new ruling consistent with the Court’s opinion. The Company has not yet received the written opinion of the Mexican Supreme Court on the February 2006 ruling, nor has the Court decided the interline and terminal services appeal. On October 2, 2006, KCSM was served with a claim by Ferromex asking for information concerning the interline traffic between KCSM and Ferromex from January 1, 2002, to December 31, 2004. KCSM has filed an answer to this claim. KCS cannot predict the ultimate outcome2009. Certain of these matters,disputes continue under litigation. Any resolution of such procedures adverse to KCSM could have a negative impact on its results of operations in a particular quarter or whether the rates KCSM is ultimately permitted to charge will be sufficient to adequately compensate it for the use of its tracks by Ferromex.fiscal year.
 
The CompanyKCS’ debt capitalization ratio (total debt as a percentage of total debt plus equity) is highly leveraged and has significant debt service obligations.45.8%. KCS’ leverage could adversely affect its ability to fulfill obligations under various debt instruments and operate its business.
 
KCS’ level of debt could make it more difficult for it to borrow money in the future, may reduce the amount of money available to finance operations and other business activities, exposes the Company to the risk of increased interest rates, makes it more vulnerable to general economic downturns and adverse industry conditions, and could reduce flexibility in planning for, or responding to, changing business and economic conditions. KCS’ failure to comply with the financial and other restrictive covenants in its debt instruments, which, among other things, require KCS to maintain specified financial ratios and limit theits ability to incur debt and sell assets, could result in an event of default that, if not cured or waived, could have a material adverse effect on the Company’s business or prospects. If the Company does not have enough cash to service its debt, meet other obligations and fund other liquidity needs, KCS may be required to take actions such as requesting a waiver from lenders, reducing or delaying capital expenditures, selling assets, restructuring or refinancing all or part of the existing debt, or seeking additional equity capital. KCS cannot assure that any of these remedies including obtaining appropriate waivers from its lenders, can be effected on commercially reasonable terms or at all. In addition, the terms of existing or future debt agreements may restrict the Company from adopting anysome of these alternatives.
 
The indebtedness of KCSM exposes it to risks of exchange rate fluctuations because any devaluation of the peso would cause the cost of KCSM’s dollar-denominated debt to increase and could place the Company at a competitive disadvantage in Mexico, compared to Mexican competitors that have lessdollar-denominated debt and greater operating and financingfinancial flexibility than KCSM does.KCSM.
 
A downturn in the debt capital markets may increase the cost of borrowing and make financing difficult to obtain, each of which may have a material adverse effect on the Company’s results of operations and business.
Events in the financial markets may have an adverse impact on the debt capital markets and, as a result, credit may become more expensive and difficult to obtain. Lenders may impose more stringent restrictions on the terms of credit and there may be a general reduction in the amount of credit available in the markets in which KCS conducts business. The negative impact of tightening credit markets and adverse changes in the debt capital markets generally may have a material adverse effect on KCS’ business and results of operations resulting from, but not limited to, an inability to finance capital expansion on favorable terms, if at all, increased financing costs or financial terms with increasingly restrictive covenants.


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KCS’ business is capital intensive.
 
The Company’s business is capital intensive and requires substantial ongoing expenditures for, among other things, additions and improvements to roadway, structures and technology, acquisitions, and maintenance and repair of equipment and the rail system. KCS’ failure to make necessary capital expenditures to maintain its operations could impair its ability to serve existing customers or accommodate increases in traffic volumes.


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KCS has funded, and expects to continue to fund, capital expenditures with funds from operating cash flows, leases and, to a lesser extent, vendor financing. KCS may not be able to generate sufficient cash flows from its operations or obtain sufficient funds from external sources to fund capital expenditure requirements. If financing is available, it may not be obtainable on acceptable terms and within the limitations contained in the indentures and other agreements relating to KCS’ debt.
 
KCSM’s Concession from the Mexican government requires KCSM to make investments and undertake capital projects. If KCSM is unablefails to make such capital investments, KCSM’s business plan commitments with the Mexican government may be at risk, requiring KCSM to seek waivers of its business plan. There is no assurance that such waivers, if requested, would be granted by the SCT. KCSM may defer capital expenditures under its business plan with the permission of the SCT. However, the SCT might not grant this permission, and any failure by KCSM to comply with the capital investment commitments in its business plan could result in sanctions imposed by the SCT.SCT, and could result in revocation of the Concession if sanctions are imposed on five distinct occasions. The Company cannot assure that the Mexican government would grant any such permission or waiver. If such permission or waiver is not obtained in any instance and KCSM is sanctioned, its Concession might be at risk of revocation, which would materially adversely affect KCS’ financial condition and results of operations. See “KCSM’s Mexican Concession is subject to revocation or termination in certain circumstances” below.
KCS has funded, and expects to continue to fund capital expenditures with funds from operating cash flows, equipment leases, and debt financing. KCS may not be able to generate sufficient cash flows from its operations or obtain sufficient funds from external sources to fund capital expenditure requirements. Even if financing is available, it may not be obtainable on acceptable terms and within the limitations contained in the indentures and other agreements relating to KCS’ existing debt.
KCS depends on the stability and availability of its information technology systems to operate its business.
KCS relies on information technology in all aspects of its business. A significant disruption or failure of its information technology systems, including its computer hardware, software and communications equipment, could result in service interruptions, safety failures, security violations, regulatory compliance failures and the inability to protect corporate information assets against intruders or other operational difficulties. Although KCS has taken steps to mitigate these risks, a significant disruption could adversely affect KCS’ results of operations, financial condition, liquidity and ability to compete effectively. Additionally, if KCS is unable to acquire or implement new technology, it may suffer a competitive disadvantage, which could also have an adverse effect on KCS’ results of operations, financial condition or liquidity.
 
KCS’ business may be adversely affected by changes in general economic, weather or other conditions.
 
KCS’ operations may be adversely affected by changes in the economic conditions of the industries and geographic areas that produce and consume the freight that KCS transports. The relative strength or weakness of the United States and Mexican economies affect the businesses served by KCS. Prolonged negative changes in domestic and global economic conditions or disruptions of either or both of the financial and credit markets, including the availability of short and long-term debt financing, may affect KCS, as well as the producers and consumers of the commodities that KCS transports and may have a material adverse effect on KCS’ results of operations, financial condition, and liquidity.
PCRC and Panarail areis directly affected by the Panamanian localworld economy and trans-Pacific trade flows. In addition, KCS’ investments in Mexico and Panama expose the Company to risks associated with operating in Mexico and Panama, including, among others, cultural differences, varying labor, regulatory and operating practices, political risk and differences between the United States, Mexican and Panamanian economies. Historically, a stronger economy has resulted in improved results for KCS’ rail transportation operations. Conversely, when the economy has slowed, results have been less favorable. KCS’ revenues may be affected by prevailing economic conditions and, ifIf an economic slowdown or recession occurs in key markets, the volume of rail shipments is likely to be reduced.reduced, which could have a material adverse effect on KCS’ business and financial condition.


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The transportation industry is highly cyclical, generally tracking the cycles of the world economy. Although transportation markets are affected by general economic conditions, there are numerous specific factors within each particular market that may influence operating results. Some of KCS’ customers do business in industries that are highly cyclical, including the oil and gas, automotive, housing and agriculture industries. Any downturn in these industries could have a material adverse effect on operating results. Also, some of the products transported have had a historical pattern of price cyclicality which has typically been influenced by the general economic environment and by industry capacity and demand. For example, global steel and petrochemical prices have decreased in the past, and reduced demand for automotive vehicles and related shipments may result in decreased prices. KCS cannot assure that prices and demand for these products will not decline in the future, adversely affecting those industries and, in turn, the Company’s financial condition or results.
 
The Company’s operations may also be affected by natural disasters or adverse weather conditions. The Company operates in and along the Gulf Coast of the United States, and its facilities may be adversely affected by hurricanes, floods and other extreme weather conditions. For example, hurricanes haveconditions that adversely affected some of the Company’s shippers located along the Gulf Coastaffect KCS’ shipping, agricultural, chemical and caused interruptions in the flow of traffic within the southern United States and between the United States and Mexico. As another example, a weak harvest in the Midwest may substantially reduce the volume of business handled for agricultural productsother customers. Many of the goods and commodities transported by KCS experience cyclical demand. KCS’ results of operations can be expected to reflect this cyclical demand because of the significant fixed costs inherent in railroad operations. Significant reductions in the volume of rail shipments due to economic, weather, or other conditions could have a material adverse effect on KCS’ business, financial condition, results of operations, and cash flows.
 
The transportation industry is highly cyclical, generally tracking the cycles of the world economy. Although transportation markets areKCS’ business may be affected by general economic conditions, there are numerous specific factors within each particular market segment thatand regulatory responses to climate change.
KCS’ operations may influence operating results. Somebe adversely affected by restrictions, caps, taxes, or other controls on emissions of greenhouse gases, including diesel exhaust. Restrictions on emissions could also affect KCS’ customers do businessthat use commodities that KCS transports to produce energy, use significant amounts of energy in industriesproducing or delivering the commodities KCS transports, or manufacture or produce goods that are highly cyclical,consume significant amounts of energy or burn fossil fuels, including coal-fired power plants, chemical producers, farmers and food producers, and automakers and other manufacturers. Significant cost increases, government regulation, or changes of consumer preferences for goods or services relating to alternative sources of energy or emissions reductions could materially affect the oil and gas, automotive, housing and agricultural industries. Any downturnmarkets for the commodities KCS transports, which in these industriesturn could have a material adverse effect on operating results. Also, someKCS’ results of operations, financial condition and liquidity. Government incentives encouraging the use of alternative sources of energy could also affect certain customers and their respective markets for certain commodities KCS transports in an unpredictable manner that could alter traffic patterns, including, for example, the impacts of ethanol incentives on farming and ethanol producers. Any of these factors, individually or in conjunction with one or more of the products transportedother factors, or other unforeseen impacts of climate change could have had a historical patternmaterial adverse effect on KCS’ business, results of price cyclicality whichoperations, financial condition and liquidity.
KCS is exposed to the credit risk of its customers and counterparties and their failure to meet their financial obligations could adversely affect KCS’ business.
KCS’ business is subject to credit risk including the risk that a customer or counterparty will fail to meet its obligations when due. Customers and counterparties that owe the Company money may default on their obligations to the Company due to bankruptcy, lack of liquidity, operational failure or other reasons. Although the Company has typically been influencedprocedures for reviewing its receivables and credit exposures to specific customers and counterparties to address present credit concerns, default risk may arise from events or circumstances that are difficult to detect or foresee. Some of the Company’s risk management methods depend upon the evaluation of information regarding markets, clients or other matters that are publicly available or otherwise accessible by the general economic environmentCompany. That information may not, in all cases, be accurate, complete,up-to-date or properly evaluated. In addition, concerns about, or a default by, one customer or counterparty could lead to significant liquidity problems, losses or defaults by other customers or counterparties, which in turn could adversely affect the Company. The Company may be materially and by industry capacity and demand. For example, global steel and petrochemical prices have decreasedadversely affected in the past. KCS cannot assure that pricesevent of a significant default by its customers and demand for these products will not decline in the future, adversely affecting those industries and, in turn, the Company’s financial condition or results.counterparties.


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KCS’ business is subject to regulation by international, federal, state and local regulatory agencies.agencies, including tax, environmental, health, and safety laws and regulations that could require KCS to incur material costs or liabilities relating to tax, environmental, health, or safety compliance or remediation. KCS’ failure to comply with these regulations could have a material adverse effect on its operations.
 
KCS is subject to income taxes as well as non-income based taxes, in both the United States and Mexico. Significant judgment is required in determining the provision for income taxes and other tax liabilities. Changes in tax rates, enactment of new tax laws, and revisions of tax regulations could have a material adverse affect on the Company’s financial condition and operating results. Although KCS believes the tax estimates are reasonable, the final determination of tax audits, claims, or litigation could differ from what is reflected in KCS’ income tax provisions and accruals.
KCS is subject to governmental regulation by international, federal, state and local regulatory agencies with respect to its railroad operations, including the Department of Transportation and the Department of Homeland Security in the United States and the Secretary of Communications and Transportation in Mexico, as well as a variety of health, safety, labor, environmental, and other matters. Government regulation of the railroad industry is a significant determinant of the competitiveness and profitability of railroads. As part of the Rail Safety Improvement Act of 2008 in the United States, Class I railroad carriers and passenger and commuter rail operators must implement positive train control (a technology designed to help preventtrain-to-train collisions, overspeed derailments, incursions into rail work zones, and entry into main line track if a switch is misaligned) at certain locations (including main line track where toxic inhalation hazard or poison inhalation hazard movements occur or where passenger operations occur) by the end of 2015, which will add to operating costs, increase the number of employees the Company employs and require KCS to invest significant amounts of money into new safety technology. KCS’ inadvertent failure or inability to comply with applicable laws and regulations could have a material adverse effect on our financial condition, liquidity and operations, including limitations on operating activities until compliance with applicable requirements is achieved. These government agencies may change the legislative or regulatory framework within which the Company operates without providing any recourse for any adverse effects on its business that occur as a result of such change. Additionally, some of the regulations require KCS to obtain and maintain various licenses, permits and other authorizations. Any failure to maintain these licenses, permits, and other authorizations and KCS cannot assure that it will continue to be able to do so.could adversely affect KCS’ business.
 
The Company’s business is subject to environmental, health and safety laws and regulations that could require KCS to incur material costs or liabilities relating to environmental, health or safety compliance or remediation.
KCS’ operations are subject to extensive international, federal, state and local environmental, health and safety laws and regulations concerning, among other things, emissions to the air, discharges to waters, the handling, storage, transportation and disposal of waste and other materials, the cleanup of hazardous material or petroleum releases, decommissioning of underground storage tanks and noise pollution. Violations of these laws and regulations can result in substantial penalties, permit revocations, facility shutdowns and other civil and criminal sanctions. From time to time, certain of KCS’KCS facilities have not been in compliance with environmental, health and safety laws and regulations and there can be no assurancesassurance that KCS will always be in compliance with such laws and regulations in the future. TheEnvironmental liability under federal and state law in the United States can also extend to previously owned or operated properties, leased properties and properties owned by third parties, as well as to properties currently owned and used by the Company. Environmental liabilities may also arise from claims asserted by adjacent landowners or other third parties. Given the nature of its business, the Company incurs, and expects to continue to incur, environmental compliance costs, including, in particular, costs necessary to maintain compliance with requirements governing chemical and hazardous material shipping operations, refueling operations and repair facilities. New laws and regulations, stricter enforcement of existing requirements, new spills, releases or violations or the discovery of previously unknown contamination could require KCS to incur costs or become the basis for new or increased liabilities that could have a material adverse effect on KCS’ business, results of operations, financial condition and cash flows.
In the operation of a railroad, it is possible that derailments, explosions or other accidents may occur that could cause harm to the environment or to human life or health. As a result, KCS may incur costs in the future, which may be material, to address any such harm, including costs relating to the performance ofclean-ups, natural resources damages and compensatory or punitive damages relating to harm to property or individuals.
The U.S. Comprehensive Environmental Response, Compensation and Liability Act (“CERCLA” or “Superfund”) and similar state laws (known as “Superfund laws”) impose liability for the cost of remedial or removal actions, natural resources damages and related costs at certain sites identified as posing a threat to the environment or public health. CERCLA imposes joint, strict and several liability on the owners and operators of facilities in which hazardous waste and other hazardous substances are deposited or from which they are released or are likely to be released into the environment. Liability may be imposed, without regard to fault or the legality of the activity, on certain classes of persons, including the current and certain prior owners or operators of a site where hazardous substances have been released and persons that arranged for the disposal or treatment of hazardous substances. In addition, other potentially responsible parties, adjacent landowners or other third parties may initiate cost recovery actions or toxic tort litigation against sites subject to CERCLA or similar state laws. Given the nature of its business, KCS presently has environmental investigation and remediation obligations at certain sites, including a former foundry site in Alexandria, Louisiana, and will likely incur such obligations at additional sites in the future. Liabilities accrued for environmental costs represent the Company’s best estimate of the probable future obligation for the remediation and settlement of these sites. Although the recorded liability includesis the best estimate of all probable costs,clean-up costs can notcannot be predicted with anyabsolute certainty, and may exceed such estimates, due to various factors such as evolving environmental laws and regulations,


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changes in technology, the extent of other parties’ participation, developments in environmental surveys and studies, and the extent of corrective action that may ultimately be required. New laws and regulations, stricter enforcement of existing requirements, accidental spills, releases or violations or the discovery of previously unknown contamination could require KCS to incur costs or subject KCS to liabilities that could have a material adverse effect on KCS’ business, results of operations, financial condition, and cash flows.
 
The Company’s Mexican operations are subject to Mexican federal and state laws and regulations relating to the protection of the environment. The primary environmental law in Mexico is the General Law of Ecological Balance and Environmental Protection (the “Ecological Law”). The Mexican federal agency in charge of overseeing compliance with and enforcement of the federal environmental law is the Ministry of Environmental Protection and Natural Resources (“Semarnat”). The regulations issued under the Ecological Law and technical environmental requirements issued by Semarnat have promulgatedenvironment, including standards for, among other things, water discharge, water supply, emissions, noise pollution, hazardous substances and transportation and handling of hazardous and


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solid waste. As part of its enforcement powers, Semarnat is empowered to bringUnder applicable Mexican law and regulations, administrative and criminal proceedings may be brought and impose economic sanctions imposed against companies that violate environmental laws, and non-complying facilities may be temporarily or even permanently close non-complying facilities.closed. KCSM is also subject to the laws of various jurisdictions and international conferences with respect to the discharge of materials into the environment and to environmental laws and regulations issued by the governments of each of the Mexican states in which KCSM’s facilities are located. The terms of KCSM’s Concession from the Mexican government also impose environmental compliance obligations on KCSM. The Company cannot predict the effect, if any, that unidentified environmental matters or the adoption of additional or more stringent environmental laws and regulations would have on KCSM’s results of operations, cash flows or financial condition. Failure to comply with any environmental laws or regulations may result in the termination of KCSM’s Concession or in fines or penalties that may affect profitability.
KCS, as a common carrier by rail, is required by United States and Mexican laws to transport hazardous materials, which could expose KCS to significant costs and claims.
Under United States federal statutes and Mexican applicable laws, KCS’s common carrier responsibility requires it to transport hazardous materials. Any rail accident or other incident or accident on KCS’s network, facilities, or at the facilities of KCS’s customers involving the release of hazardous materials, including toxic inhalation hazard (or TIH) materials, could involve significant costs and claims for personal injury, property damage, and environmental penalties and remediation, which could have a material adverse effect on KCS’s results of operations, financial condition, and liquidity.
 
KCS’ business is vulnerable to rising fuel costs and disruptions in fuel supplies. Any significant increase in the cost of fuel that is not adequately covered by fuel surcharges, or severe disruption of fuel supplies, would have a material adverse effect on KCS’ business, results of operations and financial condition.
 
KCS incurs substantial fuel costs in its railroad operations and these costs represent a significant portion of its transportation expenses. Significant price increases for fuel may have a material adverse effect on operating results. Fuel expense increased from 16%During periods of consolidated operating costs during 2005 to 19% of consolidated operating costs during 2006.rising fuel prices, KCS has been able to pass the majority of these fuel cost increases on to customers in the form of fuel surcharges applied toeither in the form of an increase in the freight rate or direct customer billings. If KCS is unable to continue the existingrecapture its costs of fuel surcharge program for KCSR and expand the fuel surcharge program for KCSM,from its customers, operating results could be materially adversely affected.
On January 26, 2007, the Surface Transportation Board (the “STB”) issued a decision finding that the assessment by railroads of fuel surcharges that are based on a percentage of the base rate charged is an unreasonable practice. Railroads have 90 days following January 26 to comply with the decision. KCS is in the process of reviewing the manner by which it assesses fuel surcharges in order to timely comply with the decision. KCS cannot predict with certainty the impact that any changes to its fuel surcharge program may have on its business.
Fuel costs are affected by traffic levels, efficiency of operations and equipment, and petroleum market conditions. The supply and cost of fuel are subject to market conditions and are influenced by numerous factors beyond the Company’s control, including general economic conditions, world markets, government programs and regulations and competition. In addition, instability in the Middle East and interruptions in domestic production and refining due to hurricane damage may result in an increase in fuel prices. Fuel prices and supplies could also be affected by any limitation in the fuel supply or by any imposition of mandatory allocation or rationing regulations. In the event of a severe disruption of fuel supplies resulting from supply shortages, political unrest, a disruption of oil imports, weather events, war, or otherwise, and the resulting impact on fuel prices could materially adversely affect KCS’ operating results, financial condition, and cash flows.
 
KCS currently meets, and expects to continue to meet, fuel requirements for its Mexican operations almost exclusively through purchases at market prices from Petroleos Mexicanos,PEMEX Refinanción (“PEMEX”), the national oil company of Mexico, (“PEMEX”), a government-owned entity exclusively responsible for the distribution and sale of diesel fuel in Mexico. KCSM is party to a fuel supply contract with PEMEX of indefinite duration. Either party may terminate the contract upon 30 days written notice to the other at any time. If the fuel contract is terminated


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and KCSM is unable to acquire diesel fuel from alternate sources on acceptable terms, the Mexican operations could be materially adversely affected.
Market fluctuations could adversely impact KCS’s operating results as it hedges certain transactions.
From time to time, KCS may use various financial instruments to reduce its exposure to various market risks, including interest rates and fuel prices. While these financial instruments reduce the Company’s exposure to changes in market risks, the use of such instruments may ultimately limit the Company’s ability to benefit from lower fuel prices or interest rates due to amounts fixed at the time of entering into the hedge agreement.
 
The loss of key personnel could negatively affect business.
 
KCS’ success substantially depends on its ability to attract and retain key members of the senior management team and the principals of its foreign subsidiaries. Recruiting, motivating, and retaining qualified


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management personnel, particularly those with expertise in the railroad industry, are vital to operations and success. There is substantial competition for qualified management personnel and there can be no assurance that KCS will always be able to attract or retain qualified personnel. Employment agreements with senior management are terminable at any time by either party. If KCS loses one or more of these key executives or principals, its ability to successfully implement its business plans and the value of its common stock could be materially adversely affected.
 
A majority of KCS’ employees belong to labor unions. Strikes or work stoppages could adversely affect operations.
 
The Company is a party to collective bargaining agreements with various labor unions in the United States and Mexico. As of December 31, 2006,2009, approximately 81%80% of KCSR employeesKCSR’s and approximately 75% of KCSMKCSM’s employees were covered by labor contracts subject to collective labor contracts.bargaining. The Company may be subject to, among other things, strikes, work stoppages or work slowdowns as a result of disputes under these collective bargaining agreements and labor contracts or KCS’ potential inability to negotiate acceptable contracts with these unions. In the United States, because such agreements are generally negotiated on an industry-wide basis, determination of the terms and conditions of labor agreements have been and could continue to be beyond KCS’ control. KCS may, therefore, be subject to terms and conditions in industry-wide labor agreements that could have a material adverse affecteffect on its results of operations, financial positioncondition and cash flows. If the unionized workers in the United States or Mexico were to engage in a strike, work stoppage or other slowdown, if other employees were to become unionized, or if the terms and conditions in future labor agreements were renegotiated, KCS could experience a significant disruption of its operations and higher ongoing labor costs. Although the U.S. Railway Labor Act imposes restrictions on the right of United States railway workers to strike, there is no law in Mexico imposing similar restrictions on the right of railway workers in that country to strike.
 
KCS faces possible catastrophic loss and liability and its insurance may not be sufficient to cover its damages or damages to others.
 
The operation of any railroad carries with it an inherent risk of catastrophe, mechanical failure, collision, and property loss. In the course of KCS’ operations, spills or other environmental mishaps, cargo loss or damage, business interruption due to political developments, as well as labor disputes, strikes and adverse weather conditions, could result in a loss of revenues or increased liabilities and costs. Collisions, environmental mishaps, or other accidents can cause serious bodily injury, death, and extensive property damage, particularly when such accidents occur in heavily populated areas. Additionally, KCS’ operations may be affected from time to time by natural disasters such as earthquakes, volcanoes, floods, hurricanes or other storms. The occurrence of a major natural disaster could have a material adverse effect on KCS’ operations and financial condition. The Company maintains insurance that is consistent with industry practice against the accident-related risks involved in the conduct of its business and business interruption due to natural disaster. However, this insurance is subject to a number of limitations on coverage, depending on the nature of the risk insured against. This insurance may not be sufficient to cover KCS’ damages or damages to others and this insurance may not continue to be available at commercially reasonable rates. In addition, KCS is subject to the risk that one or more of its insurers may become insolvent and would be unable to pay a claim that may be made in the future. Even with insurance, if any catastrophic interruption of service occurs, KCS may not be able to restore service without a significant interruption to operations andwhich could have an adverse effect on KCS’ financial condition.


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KCS’ business may be affected by future acts of terrorism war or war.other acts of violence or crime.
 
Terrorist attacks, such as an attack on the Company’s chemical transportation activities, any government response thereto and war or risk of war may adversely affect KCS’ results of operations, financial condition, and cash flows. These acts may also impact the Company’s ability to raise capital or its future business opportunities. KCS’ rail lines and facilities could be direct targets or indirect casualties of acts of terror, which could cause significant business interruption and damage to KCS’ property. In recent years, there have been


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reported incidents of train cargo robberies in the United States and Mexico. Other acts of violence or crime could also adversely affect the Company’s business.
As a result, acts of terrorism or war or acts of crime or violence could result in increased costs and liabilities and decreased revenues. These acts could have a material adverse effect on KCS’ results of operations, financial condition, and cash flows.revenues for KCS. In addition, insurance premiums charged for some or all of the terrorismapplicable coverage currently maintained by KCS could increase dramatically or certain coverage may not be adequate to cover losses or may not be available in the future.
 
KCSM’s Mexican Concession is subject to revocation or termination in certain circumstances.circumstances which would prevent KCSM from operating its railroad and would have a material adverse effect on the Company’s business and financial condition.
 
KCSM operates under a50-yearthe Concession granted by the Mexican government.government, which is renewable for up to 50 years, subject to certain conditions. The Concession gives KCSM exclusive rights to provide freight transportation services over its rail lines for 30 years of the50-year Concession, subject to certain trackage rights.and haulage rights granted to other concessionaires. The SCT, which is principally responsible for regulating railroad services in Mexico. The SCTMexico, has broad powers to monitor KCSM’s compliance with the Concession and it can require KCSM to supply it with any technical, administrative and financial information it requests. Among other obligations, KCSM must comply with the investment commitments established in its business plan, which forms an integral part of the Concession, and must update the plan every five years. The SCT treats KCSM’s business plans confidentially. The SCT also monitors KCSM’s compliance with efficiency and safety standards established in the Concession. The SCT reviews, and may amend, these standards every five years.
 
The Mexican railroad services lawRailroad Services Law and regulations provide the Mexican government certain rights in its relationship with KCSM under the Concession, including the right to take over the management of KCSM and its railroad in certain extraordinary cases, such as imminent danger to national security. In the past, the Mexican government has used such power with respect to other privatized industries, including the telecommunications industry, to ensure continued service during labor disputes. In addition, under the Concession andArticle 47 of the Mexican railroad services lawRailroad Services Law and its regulations, the SCT, in consultation with the Mexican Antitrust Commission, reserves the right to set tariffsservice rates if it determines that effective competition does not exist.exist in the Mexican railroad industry. The Mexican Antitrust Commission, however, has not published guidelines regarding the factors that constitute a lack of competition. It is therefore unclear under what particular circumstances the Mexican Antitrust Commission would deem a lack of competition to exist. If the SCT intervenes and sets tariffs,service rates, the rates it sets may be too low to allow KCSM to operate profitably.
The Concession is renewable for up to 50 years, subject to certain conditions. The SCT may terminate the Concession if, among other things, there is an unjustified interruption in the operation of KCSM’s rail lines, KCSM charges tariffs higher than the tariffs it has registered with the SCT, KCSM restricts the ability of other Mexican rail operators to use its rail lines, KCSM fails to make payments for damages caused during the performance of services, KCSM fails to comply with any term or condition of the Mexican railroad services law and regulations, KCSM fails to make the capital investments required under its five-year business plan filed with the SCT, or KCSM fails to maintain an obligations compliance bond and insurance coverage as specified in the Mexican railroad services law and regulations. In addition, the Concession would revoke automatically if KCSM changes its nationality or assigns or creates any lien on the Concession without the SCT’s approval. The SCT may also terminate the Concession as a result of KCSM’s surrender of its rights under the Concession, or for reasons of public interest, by revocation or upon KCSM’s liquidation or bankruptcy. Revocation or termination of the Concession would prevent KCSM from operating its railroad and would materially adversely affect the Mexican operations and the ability to make payments on KCSM’s debt. If the Concession is revoked by the SCT, KCSM would receive no revenue, and its interest in its rail lines and all other fixtures covered by the Concession, as well as all improvements made by it, would revert to the Mexican government.
In April 2006, the SCT initiated sanction proceedings against KCSM, claiming that KCSM had failed to make the minimum capital investments projected for 2004 and 2005 under its five-year business plan filed with the SCT. Although the Company believes KCSM made capital expenditures exceeding the amounts


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projected in its business plan for 2004 and 2005, the SCT has objected to the nature of the investments made by KCSM. KCSM has responded to the SCT by providing evidence in support of its investments and explaining why it believes sanctions are not appropriate. The SCT has not yet responded to KCSM’s arguments. KCSM will have the right to challenge a negative ruling by the SCT before the Administrative Federal Court, and, if necessary, the right to challenge any negative ruling by the Administrative Federal Court before a Federal Magistrate’s Tribunal. However, if these proceedings are determined adversely to KCSM and sanctions are imposed, KCSM could be subject to fines, and could be subject to possible future revocation of the Concession if the SCT imposes sanctions on three additional occasions over the remaining term of the Concession.
 
Under the Concession, KCSM has the right to operate its rail lines, but it does not own the land, roadway or associated structures. If the Mexican government legally terminates the Concession, it would own, control, and manage such public domain assets used in the operation of KCSM’s rail lines. All other property not covered by the Concession, including all locomotives and railcars otherwise acquired, will remain KCSM’s property. The Mexican government will have the right to cause the Company to lease all service-related assets to it for a term of at least one year, automatically renewable for additional one-year terms up to five years. The Mexican government must exercise this right within four months after revocation of the Concession. In addition, the Mexican government will also have a right of first refusal with respect to certain transfers by KCSM of railroad equipment within 90 days after revocation of the Concession.
The Mexican government may also temporarily seize control of KCSM’s rail lines and its assets in the event of a natural disaster, war, significant public disturbancesdisturbance or imminent danger to the domestic peace or economy. In such a case, the SCT may restrict KCSM’s ability to exploit the Concession in such manner as the SCT deems necessary under the circumstances, but only for the duration of any of the foregoing events.
Mexican law requires that the Mexican government pay compensation if it effects a statutory appropriation for reasons of the public interest. With respect to a temporary seizure due to any cause other than international war, the Mexican railroad services lawRailroad Services Law and regulations provide that the Mexican government will indemnify an affected Concessionaireconcessionaire for an amount equal to damages caused and losses suffered. However, these payments may not be sufficient to compensate KCSM for its losses and may not be timely made.


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The SCT may revoke the Concession if KCSM is sanctioned on three distinct occasions for unjustly interrupting the operation of its rail lines or for charging tariffs higher than the tariffs it has registered with the SCT. In addition, the SCT may revoke the Concession if, among other things, KCSM is sanctioned on five distinct occasions because KCSM restricts the ability of other Mexican rail operators to use its rail lines; KCSM fails to make payments for damages caused during the performance of services; KCSM fails to comply with any term or condition of the Mexican Railroad Services Law and regulations or the Concession; KCSM fails to make the capital investments required under its five-year business plan filed with the SCT; or KCSM fails to maintain an obligations compliance bond and insurance coverage as specified in the Mexican Railroad Services Law and regulations. In addition, the Concession would revoke automatically if KCSM changes its nationality or assigns or creates any lien on the Concession, or if there is a change in control of KCSM without the SCT’s approval. The SCT may also terminate the Concession as a result of KCSM’s surrender of its rights under the Concession, or for reasons of public interest or upon KCSM’s liquidation or bankruptcy. Revocation or termination of the Concession would prevent KCSM from operating its railroad and would materially adversely affect the Mexican operations and the ability to make payments on KCSM’s debt. If the Concession is terminated or revoked by the SCT for any reason, KCSM would receive no compensation and its interest in its rail lines and all other fixtures covered by the Concession, as well as all improvements made by it, would revert to the Mexican government.
In April 2006, the SCT initiated proceedings against KCSM, claiming that KCSM had failed to make certain minimum capital investments projected for 2004 and 2005 under its five-year business plan filed with the SCT prior to its April 2005 acquisition by KCS (collectively, the “Capital Investment Proceedings”). KCSM believes it made capital expenditures exceeding the required amounts. KCSM responded to the SCT by providing evidence in support of its investments and explaining why it believes sanctions are not appropriate. In May 2007, KCSM was served with an SCT resolution regarding the Capital Investment Proceeding for 2004, in which the SCT resolved to impose no sanction. In June 2007, KCSM was served with an SCT resolution regarding the Capital Investment Proceeding for 2005, in which the SCT determined that KCSM had indeed failed to make the minimum capital investments required for such year, and imposed a minimal fine. KCSM has filed an action in the Mexican Administrative and Fiscal Federal Court challenging this ruling. KCSM will have the right to challenge any adverse ruling.
KCSM believes that even if a sanction is ultimately imposed as a consequence of the 2005 Capital Investment Proceeding, there will be no material adverse effect on its results of operations or financial condition. However, if a sanction were to be imposed, it would be considered a “generic” sanction under Mexican law (i.e., sanctions applied to conduct not specifically referred to in specific subsections of the Mexican railway law). If KCSM is ultimately sanctioned by the SCT for “generic” sanctions on five occasions over the term of the Concession, KCSM could be subject to possible future SCT action seeking revocation of the Concession. Such revocation would materially adversely affect the results of operations and financial condition of KCSM.
 
The Company’sKCS’ ownership of KCSM and operations in Mexico subject it to economic and political risks.
 
The Mexican government has exercised, and continues to exercise, significant influence over the Mexican economy. Accordingly, Mexican governmental actions concerning the economy and state-owned enterprises could have a significant impact on Mexican private sector entities in general and on theKCSM’s Mexican operations in particular. The national elections held on July 2, 2000, ended 71 years of rule by the Institutional Revolutionary Party and resulted in the increased representation of opposition parties in the Mexican Congress and in mayoral and gubernatorial positions. National elections were again held on July 2, 2006, which were disputed by the losing presidential candidate and his supporters. Although there have not yet been any material adverse repercussions resulting from this political change, multiparty rule is still relatively new in Mexico and could result in economic or political conditions that could materially and adversely affect the Mexican operations. KCS cannot predict the impact that this newthe political landscape, including the recently implemented multiparty rule, will have on the Mexican economy. Furthermore, KCSM’s financial condition, results of operations and prospects may be affected by currency fluctuations, inflation, interest rates, regulation, taxation, social instability and other political, social and economic developments in or affecting Mexico.
 
The Mexican economy in the past has suffered balance of payment deficits and shortages in foreign exchange reserves. Although Mexico has imposed foreign exchange controls in the past, there are currently no exchange controls in Mexico. Pursuant to the provisions of NAFTA, if Mexico experiences serious balance of payment difficulties or the threat of such difficulties in the future, Mexico would have the right to impose foreign exchange controls on investments made in Mexico, including those made by United States and


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Canadian investors. Any restrictive exchange control policy could adversely affect KCS’ ability to obtain dollars or to convert pesos into dollars for purposes of making interest and principal payments due on indebtedness, to the extent KCS may have to effect those conversions, and could adversely affect the Company’s investment in KCSM. This could have a material adverse effect on KCS’ business and financial condition.
Mexican national politicians are currently focused on certain regional, political and social tension,tensions, and reforms regarding fiscal and labor policies, gas, electricity, social security, and oil have not been and may not be approved. The social and political situation in Mexico could adversely affect the Mexican economy, which in turn could have a material adverse effect on KCS’ business, financial condition, and results of operation.
 
The Mexican economy in the past has suffered balance of payment deficits and shortages in foreign exchange reserves. There are currently no exchange controls in Mexico. However, Mexico has imposed foreign exchange controls in the past. Pursuant to the provisions of NAFTA, if Mexico experiences serious balance of payment difficulties or the threat of such difficulties in the future, Mexico would have the right to impose foreign exchange controls on investments made in Mexico, including those made by United States and Canadian investors. Any restrictive exchange control policy could adversely affect KCS’ ability to obtain dollars or to convert pesos into dollars for purposes of making interest and principal payments due on indebtedness, to the extent KCS may have to effect those conversions, and could adversely affect the Mexican economy or the Company’s investment in KCSM. This could have a material adverse effect on KCS’ business and financial condition.


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Securities of companies in emerging market countries tend to be influenced by economic and market conditions in other emerging market countries. Some emerging market countries, including Argentina and Brazil, have experienced significant economic downturns and market volatility in the past. These events have had an adverse effect on the economic conditions and securities markets of other emerging market countries, including Mexico.
Downturns in the United States economy or in trade between the United States and Asia or Mexico and fluctuations in the peso-dollar exchange rate would likely have adverse effects on KCS’ business and results of operations.
 
The level and timing of KCS’ Mexican business activity is heavily dependent upon the level of United States-Mexican trade and the effects of NAFTA on such trade. The Mexican operations depend on the United States and Mexican markets for the products KCSM transports, the relative position of Mexico and the United States in these markets at any given time, and tariffs or other barriers to trade. Downturns in the United States or Mexican economy or in trade between the United States and Mexico would likely have adverse effects on KCS’ business and results of operations. The Mexican operations depend on the United States and Mexican markets for the products KCSM transports, the relative position of Mexico and the United States in these markets at any given time, and tariffs or other barriers to trade. Any future downturn in the United States economy could have a material adverse effect on KCS’ results of operations and ourthe Company’s ability to meet debt service obligations. In addition, KCS has invested significant amounts in developing its intermodal operations at the Port of Lazaro Cardenas, in part to provide Asian importers with an alternative to the west coast ports of the United States, and the level of intermodal traffic depends, to an extent, on the volume of Asian shipments routed through Lazaro Cardenas. Reduction in trading volumes, which may be caused by factors beyond KCS’ control, including increased government regulations in light of recent concerns regarding the safety and quality of Asian-manufactured products, may adversely affect KCS’ business and results of operations.
 
Also, fluctuations in the peso-dollar exchange raterates could lead to shifts in the types and volumes of Mexican imports and exports. Although a decrease in the level of exports of some of the commodities that KCSM transports to the United States may be offset by a subsequent increase in imports of other commodities KCSM hauls into Mexico and vice versa, any offsetting increase might not occur on a timely basis, if at all. Future developments in United States-Mexican trade beyond the Company’s control may result in a reduction of freight volumes or in an unfavorable shift in the mix of products and commodities KCSM carries.
 
Any devaluation of the peso would cause the peso cost of KCSM’s dollar-denominated debt to increase, adversely affecting its ability to make payments on its indebtedness. Severe devaluation or depreciation of the peso may result in disruption of the international foreign exchange markets and may limit the ability to transfer pesos or to convert pesos into U.S. dollars for the purpose of making timely payments of interest and principal on the non-peso denominated indebtedness. Although the Mexican government currently does not restrict, and for many years has not restricted, the right or ability of Mexican or foreign persons or entities to convert pesos into U.S. dollars or to transfer foreign currencies out of Mexico, the Mexican government could, as in the past, institute restrictive exchange rate policies that could limit the ability to transfer or convert pesos into U.S. dollars or other currencies for the purpose of making timely payments of the U.S. dollar-denominated debt and contractual commitments. Devaluation or depreciation of the peso against the U.S. dollar may also adversely affect U.S. dollar prices for KCS’ securities. Currency fluctuations are likely to continue to have an effect on KCS’ financial condition in future periods.
 
KCSM has identified possible discrepancies in data provided by its prior information system.
KCSM installed a new operational information system in 2006. Based on testing of the data provided by this system, including a comparison of such data to data provided by KCSM’s prior information system, it is possible that the data provided by KCSM’s prior information system may have contained discrepancies. There is uncertainty as to what effect, if any, these discrepancies could have on KCSM’s financial condition or results of operations, however there can be no assurance that the effect will not be material.
Mexico may experience high levels of inflation in the future which could adversely affect KCS’ results of operations.
 
Mexico has a history of high levels of inflation and may experience high inflation in the future. During most of the 1980s and during the mid-mid andlate-1990s, late 1990s, Mexico experienced periods of high levels of inflation. The annual rates of inflation for the last fivethree years, as measured by changes in the National Consumer Price


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Index, as provided by Banco de Mexico,México, were 4.0%3.6% in 2006, 3.3%2009, 6.5% in 2005, 5.2%2008 and 3.8% in 2004, 4.0% in 2003 and 5.7% in 2002.2007. A substantial


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increase in the Mexican inflation rate would have the effect of increasing some of KCSM’s costs, which could adversely affect its results of operations and financial condition. High levels of inflation may also affect the balance of trade between Mexico and the United States, and other countries, which could adversely affect KCSM’s results of operations.
Risk Factors Relating to Ongoing Litigation
KCS is party to various legal proceedings and administrative actions arising in the ordinary course of business including those specifically mentioned below:
KCSM was named as a defendant in a lawsuit, which if adversely resolved, could result in KCS being ordered to return the stock of KCSM to the Federal Government of Mexico, thus losing its Concession to operate its Mexican railroad.
On December 9, 2009, KCSM was notified of a lawsuit filed by Minera México, S.A. de C.V. (“Minera México”), a subsidiary of Grupo México, S.A.B. de C.V. and an affiliate of Ferromex, against the Federal Government of Mexico, the SCT, Ferrocarriles Nacionales de México (“FNM”), KCSM, Nafta Rail, S.A. de C.V., a subsidiary of KCS (“Nafta Rail”), and KCS. The lawsuit claims that after the privatization bidding process for the acquisition of a majority interest in Ferrocarril del Noreste, S.A. de C.V. (“FNE”) (now KCSM) had concluded in 1997, in which the bidding was awarded to Transportación Ferroviaria Mexicana, S. de R.L. de C.V. (“TFM”) and the relevant stock purchase agreement was signed, the defendants improperly amended the stock purchase agreement and the purchasers paid a price lower than the price offered. The lawsuit alleges that the Mexican Federal Government, the SCT, FNM, KCSM, Nafta Rail and KCS violated a variety of the rules and regulations associated with the privatization bidding process. As a result of these alleged improprieties, Minera México claims the acquisition of FNE by KCS (through TFM) should be declared null and void and, consequently, the capital stock of FNE should be returned to the Federal Government of Mexico and Minera México, as the second place bidder in the bidding process, should be awarded the right to purchase the capital stock of FNE. On February 9, 2010, Minera México agreed to dismiss this lawsuit.
KCSM is involved in several disputes related to providing service to a Mexican subsidiary of a large U.S. auto manufacturer, which if adversely resolved could have a negative impact on its business and operations.
In March 2008, a Mexican subsidiary of a large U.S. Auto Manufacturer (the “Auto Manufacturer”) filed an arbitration suit against KCSM under a contract for services to the Auto Manufacturer’s plants in Mexico, which, as amended, had a stated termination date of January 31, 2008. The Auto Manufacturer claimed that the contract was implicitly extended and continued in effect beyond its stated termination date. The Auto Manufacturer is seeking a declaration by the arbitrator that the rates being assessed by KCSM are discriminatory, even though the rates being charged are within the legal rate limits set by Mexican law for such freight transportation. KCSM claimed that the contract did in fact expire on its stated termination date, and that services rendered thereafter are thus subject to the general terms and conditions (including rates) applicable in the absence of a specific contract, pursuant to Mexican law. Accordingly, KCSM filed a counterclaim against the Auto Manufacturer to, among other things, recover the applicable rate difference between the rates under the contract and KCSM’s rates. On May 18, 2009, the arbitrator issued an award on the first phase of the arbitration proceeding, ruling that the contract had terminated on May 8, 2008. As of the date of this filing, the second phase of the arbitration proceeding, regarding the claim that the rates assessed by KCSM are discriminatory, is in the evidentiary stage and has not been resolved. Management believes the final resolution of these claims will not have any material impact on KCSM’s results of operations.
In May 2008, the SCT initiated a proceeding against KCSM at the request of the Auto Manufacturer, alleging that KCSM impermissibly bundled international rail services and engaged in discriminatory pricing practices with respect to rail services provided by KCSM to the Auto Manufacturer. In March 2009, the SCT issued a decision determining that KCSM had engaged in the activities alleged, but imposed no sanction since


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this was the first time KCSM had engaged in such activities. On May 6, 2009, KCSM challenged the SCT’s decision and the appeal is currently pending in the Administrative and Fiscal Federal Court.
On July 23, 2008, the SCT delivered notice to KCSM of new proceedings against KCSM, claiming, among other things, that KCSM refused to grant Ferromex access to certain trackage over which Ferromex alleges it has trackage rights on six different occasions and thus denied Ferromex the ability to provide service to the Auto Manufacturer at this location.
KCSM believes it has defenses to the imposition of sanctions for the forgoing proceedings and is vigorously contesting these allegations. KCSM does not believe that these SCT proceedings will have a material adverse effect on its results of operations or financial condition. However, if KCSM is ultimately sanctioned by the SCT for “generic” sanctions on five occasions over the term of the Concession, KCSM could be subject to possible future SCT action seeking revocation of the Concession. Revocation of the Concession would materially adversely affect KCSM’s results of operations and financial condition.
 
Item 1B.  Unresolved Staff Comments
 
None.
 
Item 2.  Properties
 
Property information is provided for each of KCS’ two business segments, the United States (“U.S.”) and Mexico.
U.S. Segment.Track Configuration
 
Certain KCSR property statistics follow at December 31:
             
  2006  2005  2004 
 
Route miles — main and branch line  3,205   3,226   3,108 
Total track miles  4,446   4,372   4,353 
Miles of welded rail in service  2,321   2,320   2,322 
Main line welded rail percent  72%  72%  61%
Cross ties replaced  427,590   340,033   292,843 
KCSRoperates over a railroad system consisting of approximately 3,300 miles of main and Mexrail’s fleet of locomotivesbranch lines in ten states extending from the midwest and rolling stock consistedsoutheast portions of the following at December 31:
                         
  2006  2005  2004 
  Leased  Owned  Leased  Owned  Leased  Owned 
 
Locomotives  272   348   331   315   279   239 
                         
Rolling stock:
                        
Box cars  5,386   1,356   5,401   1,323   5,204   1,307 
Gondolas  1,037   176   1,093   185   720   83 
Hopper cars  4,222   743   4,323   989   3,084   802 
Flat cars (intermodal and other)  1,985   388   844   531   1,288   533 
Auto racks  198      198      198    
Tank cars  24   30   24   28   28   30 
Other     3             
                         
Total  12,852   2,696   11,883   3,056   10,522   2,755 
                         
             
Average age (in years):
 2006  2005  2004 
 
Road locomotives  22.9   25.2   26.0 
All locomotives  23.9   26.1   26.9 
KCSR, in support of its transportation operations, owns and operates repair shops, depots and office buildings along itsright-of-way. A major facility,United States south to the Deramus Yard, is located in Shreveport, Louisiana and includes a general office building, locomotive repair shop, car repair shops, customer service center, material warehouses and fueling facilities totaling 227,000 square feet. Other facilities owned by KCSR include a 21,000 square foot freight car repair shop in Kansas City, Missouri and 15,000 square feet of office space in Baton Rouge, Louisiana. A locomotive repair facility in Kansas City is owned and operated by General


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Electric Company (“GE”) and is used to maintain and repair locomotives that were manufactured by GE and are leased by KCSR.
KCSR owns 16.6% of the Kansas City Terminal Railway Company, which owns and operates 80Mexican border. Approximately 400 miles of track, and operates an additional eight milesKCSR’s system consists of track under trackage rights in greater Kansas City, Missouri.that permit KCSR also leases, for operating purposes, certain short sections of trackage owned by variousto operate its trains with its crews over other railroad companies and jointly owns certain other facilities with these railroads.
Mexico Segment.
Certain KCSM track statistics at December 31, 2006, follow(in miles):
             
  Under
  Track Usage
    
  Concession  Rights  Total 
 
Main track  2,645   541   3,186 
Sidings under centralized traffic control  116      116 
Spurs, yard tracks and other sidings  481      481 
             
Total  3,242   541   3,783 
             
All of KCSM’s track is standard gauge (56.5 inches) and is generally in good condition. Regarding the main track, 100% has 100 to 136-lbs. rail, 78% is continuously welded rail and 58% has concrete ties. Continuously welded rail reduces track maintenance and, in general, permits trains to travel at higher speeds. The Mexico City — Nuevo Laredo core route has 88% concrete ties and the portion of this route between Mexico City and Querétaro (a distance of 143 miles) has double track. KCSM has extended sidings on its tracks up to 10,000 feet, enabling longer trains to pass each other.
KCSM’s fleet of locomotives and rolling stock consisted of the following at December 31:
                 
  2006  2005 
  Leased  Owned  Leased  Owned 
 
Locomotives  113   344   75   323 
                 
Rolling stock:
                
Box cars  1,068   1,166   1,278   1,187 
Gondolas  2,520   1,817   2,922   1,824 
Hopper cars  2,416   570   2,518   580 
Flat cars (intermodal and other)  262   557   261   557 
Auto racks  1,552      1,556    
Tank cars  522   71   611   71 
Other     65      55 
                 
Total  8,340   4,246   9,146   4,274 
                 
railroad’s tracks.
 
Under its Concession from the Mexican government, KCSM has the right to operate the railapproximately 2,600 miles of main and branch lines, but does not own the land, roadway, or associated structures.structures and has approximately 700 miles of trackage rights. The Concession requires KCSM to make investments and undertake capital projects, including capital projectsas described in a business plan filed every five years with the Mexican government. KCSM may defer capital expenditures with respect to its five-year business plan with the permission of the SCT. However, should the SCT not grant this permission, KCSM’s failure to comply with the commitments in its business plan could result in fines and ultimately the Mexican government revoking the Concession. See Item 1A, “Risk Factors — KCSM’s Mexican Concession is subject to revocation or termination in certain circumstances which would prevent KCSM from operating its railroad and would have a material adverse effect on the Company’s business and financial condition.”
Equipment Configuration
As of December 31, 2009 and 2008, KCS owned or leased the following units of equipment:
                 
  2009  2008 
  Leased  Owned  Leased  Owned 
 
Locomotives  382   536   416   627 
                 
Rolling stock:
                
Box cars  6,199   875   6,460   1,581 
Gondolas  2,856   1,746   3,271   1,781 
Hoppers  4,949   882   5,841   923 
Flat cars (intermodal and other)  1,335   512   2,071   583 
Auto racks  1,761      1,753    
Tank cars  527   15   524   32 
Other     51      57 
                 
Total  17,627   4,081   19,920   4,957 
                 


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Average Age (In Years) of Leased and Owned Locomotives:
 2009 2008
 
Road locomotives  13.5   13.5 
All locomotives  20.0   19.3 
 
The responseCompany, at the date of this filing, has approximately 200 locomotives in storage which primarily reflects the current economic environment and some seasonality. Management believes that this equipment will be needed in the foreseeable future as the Company growsand/or economic conditions improve. The Company has continued to Item 102depreciate all stored locomotives; older locomotives will be retired in the normal course of business or in some cases disposed of through re-sale.
Regulation S-KProperty and Facilities
KCS operates numerous facilities, including terminals for intermodal and other freight; rail yards for train-building, switching,storage-in-transit under Item 1, “Business”,(the temporary storage of thiscustomer goods in rail cars prior to shipment) and other activities; offices to administer and manage operations; dispatch centers to direct traffic on the rail network; crew quarters to house train crews along the rail line; and shops and other facilities for fueling, maintenance, and repair of locomotives and maintenance of freight cars and other equipment.
Form 10-KCapital Expenditures
The Company’s cash capital expenditures for the three years ended December 31, 2009, 2008, and 2007, and planned 2010 capital expenditures are included in Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” is incorporated by reference in partial response — Liquidity and Capital Resources — Capital Expenditures”. See also Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Critical Accounting Policies and Estimates — Capitalization, Depreciation and Amortization of Property and Equipment, Including Concession Assets” regarding the Company’s policies and guidelines related to this Item 2.capital expenditures.


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Item 3.  Legal Proceedings
 
The matters discussedCompany is subject to various legal proceedings and claims that arise in Part II,the ordinary course of business. For more information on legal proceedings, see Item 1A, “Risk Factors — Risks Relating to Ongoing Litigation,” Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Critical Accounting Policies and Estimates — Provision for Environmental Remediation — Provision for CasualtyPersonal Injury Claims,” and — “Other Matters Litigation” are incorporated by reference in thisLitigation,” and Item 3.8, “Financial Statements and Supplementary Data — Note 12 Commitments and Contingencies,” and Item 9B, “Other Information”.
 
Item 4.  Submission of Matters to a Vote of Security Holders
 
No matters were submitted to a vote of security holders during the three month periodmonths ended December 31, 2006.2009.
 
Executive Officers of KCS and Subsidiaries.Subsidiaries
 
All executive officers are elected annually and serve at the discretion of the Board of Directors. All of the executive officers have employment agreements with KCSand/or its subsidiaries. The mailing address of the principal executive officers is 427 W. 12th12th Street, Kansas City, Missouri 64105.
 
Michael R. Haverty — Chairman of the Board and Chief Executive Officer — 6265 — The information in the Company’s Definitive Proxy Statement under the heading “The Board of Directors — Directors Serving Until the Annual Meeting of Stockholders in 2009”2012” with respect to Mr. Haverty is incorporated by reference.
 
ArthurDavid L. ShoenerStarling — KCS President and Chief Operating Officer — 60 — The information inMr. Starling joined KCS as President and Chief Operating Officer on July 1, 2008. Mr. Starling has also served as a Director, President and Chief Executive Officer of KCSR since July 1, 2008. He has served as Vice Chairman of the Definitive Proxy Statement in the description of “The Board of Directors — Directors Serving Until the Annual Meeting of Stockholders in 2008” with respect toKCSM since September 2009. Mr. Shoener is incorporated by reference.
Daniel W. Avramovich — Executive Vice President, Sales & Marketing — 55 — Joined KCS in May 2006 as Executive Vice President, Sales & Marketing. Prior to this, Mr. AvramovichStarling has served as President, Network Services — Americas for Exel plc from 2003 to 2006. From 2000 to 2003, he served as President, Exel Direct for Exel plc.
Patrick J. Ottensmeyer — Executive Vice PresidentChairman of the Board of Directors of Panama Canal Railway Company (“PCRC”), a joint venture company owned equally by KCS and Chief Financial Officer — 49 — Joined KCS in May 2006 as Executive Vice President and Chief Financial Officer.Mi-Jack Products,


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Inc., since July 2008. Prior to joining KCS, Mr. OttensmeyerStarling served as Financial Advisor/Chief Financial OfficerPresident and Director General of PCRC from 2001 to May 2006 for Intranasal Therapeutics, Inc.1999 through June 2008. From 2000 to 2001, he served as Corporate Vice President Finance and Treasurer for Dade-Behring Holdings, Inc. From 1993 to1988 through 1999, Mr. OttensmeyerStarling served as Vicein various leadership positions for American President Finance and Treasurer at BNSF Railway.Lines including most recently vice president Central Asia responsible for China, Taiwan.
 
Warren K. Erdman — Executive Vice President — Corporate Affairs — 51 — Served in this capacity since October 2007. He served as Senior Vice President — Corporate Affairs — 48 — Served in this capacity sinceof KCS and KCSR from January 2006.2006 to September 2007. Mr. Erdman served as Vice President - Corporate Affairs of KCS from April 15, 1997 to December 31, 2005 and as Vice President — Corporate Affairs of KCSR from May 1997 to December 31, 2005. Prior to joining KCS, Mr. Erdman wasserved as Chief of Staff to United States Senator Kit Bond of Missouri from 1987 to 1997.
 
Jerry W. HeavinLarry M. Lawrence — SeniorExecutive Vice President and Assistant to the Chairman International Engineering of KCSR — 5547 — Served in this capacity since January 2005, and a director of KCSR since July 2002.October 2007. Mr. HeavinLawrence served as Senior Vice President of Operations from July 2002 to December 2004. Mr. Heavin joined KCSR in September 2001 and served as Vice President of Engineering of KCSR until July 2002. Prior to joining KCSR, Mr. Heavin served as an independent engineering consultant from 1997 through August 2001.
Larry M. Lawrence — Senior Vice President and Assistant to Chairman — StrategiesChairman-Strategies and Staff Studies — 44 — Served in this capacity sinceof KCS from January 2006.2006 to September 2007. Mr. Lawrence served as Assistant to CEO — StaffCEO-Staff Studies and Planning of KCS from November 2001 until December 2005. Prior to joining KCS in 2001, Mr. Lawrence was a strategy consultant for 15 years with McKinsey, A. T. Kearney and KPMG.
 
Patrick J. Ottensmeyer — Executive Vice President Sales and Marketing — 52 — Served in this capacity since October 16, 2008. Mr. Ottensmeyer joined KCS in May 2006 as Executive Vice President and Chief Financial Officer. Prior to joining KCS, Mr. Ottensmeyer served as Chief Financial Officer of Intranasal Therapeutics, Inc. from 2001 to May 2006. From 2000 to 2001, he served as Corporate Vice President Finance and Treasurer for Dade-Behring Holdings, Inc. From 1993 to 1999, Mr. Ottensmeyer served as Vice President Finance and Treasurer at Burlington Northern Santa Fe Corporation and BNSF Railway and their predecessor companies.
Michael W. Upchurch — Executive Vice President and Chief Financial Officer — 49 — Served in this capacity since October 16, 2008. Mr. Upchurch joined KCS in March 2008 as Senior Vice President Purchasing and Financial Management. Prior to joining KCS, Mr. Upchurch served as Senior Vice President Finance of Red Development LLC, from December 2007 through February 2008. From September 2006 through December 2007, Mr. Upchurch worked as an independent consultant providing financial consulting services. From 1990 through September 2006, Mr. Upchurch served in various senior financial leadership positions at Sprint Nextel Corporation and its predecessor, Sprint Corporation, including Senior Vice President Financial Operations, Senior Vice President Finance Sprint Business Solutions and Senior Vice President Finance Long Distance Division.
José Guillermo Zozaya Delano —President and Executive Representative — KCSM — 57 — Has served in this position since April 20, 2006. Mr. Zozaya has 35 years of experience in law and government relations, most recently as the legal and government relations director for ExxonMobil México, S.A. de C.V., where he spent nine years prior to joining KCSM.
John E. Derry — Senior Vice President of Human Resources — 42 — Served in this capacity since July 2008. He served as Vice President of Human Resources from February 2008 until July 2008. Mr. Derry joined KCS from YRC Worldwide, Inc. where he served in various Human Resource functions from January 2004 to February 2008. From September 2006 to February 2008, Mr. Derry served as Vice President of Human Resources for Yellow Transportation. Prior to joining YRC Worldwide, Inc. Mr. Derry spent 17 years with General Mills Inc. in various operations, labor relations and human resource roles.
Mary K. Stadler — Senior Vice President and Chief Accounting Officer — 50 — Served in this capacity since March 2, 2009. From April 1990 through August 2008, Ms. Stadler served in various finance leadership positions at Sprint Nextel Corporation and its predecessor, Sprint Corporation, including Vice President — Finance Operations and most recently served as its Vice President — Assistant Controller.
Paul J. Weyandt — Senior Vice President — Finance and Treasurer — 5356 — Served in this capacity since April 2005. He served as Vice President and Treasurer of KCS and of KCSR from September 2001 until March 2005. Before joining KCS, Mr. Weyandt was a consultant to the Structured Finance Group of


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GE Capital Corporation from May 2001 to September 2001. Prior to consulting, Mr. Weyandt spent 23 years with BNSF Railway, most recently as Assistant Vice President Finance and Assistant Treasurer.


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William J. Wochner — Senior Vice President and Chief Legal Officer — 5962 — Served in this capacity since February 2007. ServedHe served as Vice President and Interim General Counsel from December 2006 to January 2007. From September 2006 to December 2006, Mr. Wochner served as Vice President and Associate General Counsel. From March 2005 to September 2006, Mr. Wochner served as Vice President Sales and Marketing/Contracts for KCSR. From February 1993 to March 2005, Mr. Wochner served as Vice President and General Solicitor of KCSR.
Richard M. Zuza — Senior Vice President — International Purchasing and Materials — 53 — Joined KCS in November 2005 as the Senior Vice President — International Purchasing and Materials. Prior to joining KCS, Mr. Zuza was Vice President of Procurement for Allstate Insurance Company from 1998 to 2005, Vice President of Purchasing for Gibson Greetings, Inc. for seven years and held a variety of purchasing positions with General Electric Company for 15 years.
Michael K. Borrows — Vice President — Financial Reporting and Tax — 39 — Joined KCS in June 2006 as Vice President — Financial Reporting and Tax. Prior to joining KCS, Mr. Borrows spent 11 years at BNSF Railway serving in a variety of financial roles, most recently as General Director Finance. Mr. Borrows is the Company’s Chief Accounting Officer.
 
There are no arrangements or understandings between the executive officers and any other person pursuant to which the executive officer was or is to be selected as an officer of KCS, except with respect to the executive officers who have entered into employment agreements designating the position(s) to be held by the executive officer.
 
None of the above officers is related to another, or to any of the directors of KCS, by family.


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Part II
 
Item 5.  Market for KCS’ Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
 
Market Information.Information
 
The Company’s Common Stockcommon stock is traded on the New York Stock Exchange. The informationExchange under the ticker symbol “KSU”. Information as to the high and low sales price of the Company’s common and preferred stock for the years ended December 31, 2009 and 2008 is set forth in response to Item 201 ofRegulation S-K in Note 8 and Note 1315 to the Consolidated Financial Statements in Item 8 of thisForm 10-K and is incorporated by reference in partial response to this Item 5.herein.
 
Dividend Policy.Policy
 
Common Stock.  KCS has not declared any cash dividends on its common stock during the last five fiscal years and it does not anticipate making any cash dividend payments to common stockholdersshareholders in the foreseeable future. Pursuant to KCSR’s credit agreement, KCS is prohibited from the payment of cash dividends on its common stock.
 
Preferred Stock.  Kansas City Southern is restricted from paying cash dividends on its Series C Preferred Stock and Series D Preferred Stock when its coverage ratio (as defined in the indentures for KCSR’s 71/2%8.0% Senior Notes and 91/2%13.0% Senior Notes) is less than 2.0:1. It is the Company’s intention to pay timely dividends on all Preferred Stockpreferred stock in either cash or stock, depending upon the terms of the preferred stock, when dividend payments are not restricted under the covenants of ourits various debt agreements and the Company has adequate levels of liquidity. In the event that dividends on the Series C Preferred Stock or Series D Preferred Stock are in arrears for six consecutive quarters (or an equivalent number of days in the aggregate, whether or not consecutive), holders of the Series C Preferred Stock or the Series D Preferred Stock, as applicable, will be entitled to elect two of the authorized number of directors at the next annual stockholders’ meeting, and at each subsequent stockholders’ meeting until such time as all accumulated dividends are paid on the Series C Preferred Stock or the Series D Preferred Stock, as applicable, or set aside for payment.
 
See Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Recent Developments” for a discussion of recent amendments to the indentures for KCSR’s 71/2% Senior Notes and 91/2% Senior Notes related to these dividend payments.
Holders.Holders
 
There were 4,9414,446 record holders of KCS common stock on February 15, 2007.4, 2010; however, the number of actual holders of KCS common stock is greater due to the practice of brokerage firms registering many shares for clients in the brokerage firm’s name.
 
Securities Authorized for Issuance Under Equity Compensation Plans
 
See Part III, Item 12, “Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters” for information about securities authorized for Issuanceissuance under KCS’ equity compensation plans.


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Performance Graph.Graph
 
The following graph shows the changes in value over the five years endingended December 31, 2006,2009, of an assumed investment of $100 in: (i) KCS’ common stock; (ii) the stocks that comprise the Dow Jones Transportation Average Index1Index(1); and (iii) the stocks that comprise the S&P 500 Index2Index(2). The table following the graph shows the value of those investments on December 31 for each of the years indicated. The values for the assumed investments depicted on the graph and in the table have been calculated assuming that any cash dividends are reinvested.
 
COMPARISON OF FIVE YEAR CUMULATIVE TOTAL RETURN

Among Kansas City Southern, the S & P&P 500 Index

and the Dow Jones Transportation Index
 
 
                                                
  2001  2002  2003  2004  2005  2006  2004  2005  2006  2007  2008  2009
Kansas City Southern   100.00    84.93    101.34    125.48    172.89    205.10    100.00    137.79    163.45    193.63    107.45    187.76 
S & P 500   100.00    77.90    100.24    111.15    116.61    135.03 
S&P 500   100.00    104.91    121.48    128.16    80.74    102.11 
Dow Jones Transportation Average   100.00    102.66    132.37    170.34    189.53    204.43    100.00    111.27    120.01    127.37    102.44    126.00 
                                    
 
1 The Dow Jones Transportation Average is an index prepared by Dow Jones & Co., Inc., an independent company.
2 The S&P 500 is an index prepared by Standard and Poor’s Corporation, an independent company. The S&P 500 Index reflects the change in weighted average market value for 500 companies whose shares are traded on the New York Stock Exchange, American Stock Exchange and the Nasdaq Stock Market.
(1)The Dow Jones Transportation Average is an index prepared by Dow Jones & Co., Inc., an independent company.
(2)The S&P 500 is an index prepared by Standard and Poor’s Corporation, an independent company. The S&P 500 Index reflects the change in weighted average market value for 500 companies whose shares are traded on the New York Stock Exchange, American Stock Exchange and the Nasdaq Stock Market.


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Item 6.  Selected Financial Data
 
The selected financial data below(in millions, except per share amounts)should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included under Item 7 of thisForm 10-K as well as the consolidated financial statements and the related notes and the Reports of Independent Registered Public Accounting Firms.notes.
 
                                        
 2006 2005(i) 2004 2003 2002  2009 2008 2007 2006 2005(i) 
Results of Operations
                    
Revenues $1,659.7  $1,352.0  $639.5  $581.3  $566.2  $1,480.2  $1,852.1  $1,742.8  $1,659.7  $1,352.0 
Equity in net earnings (losses) of unconsolidated affiliates  7.3   2.9   (4.5)  11.0   43.4 
Income before cumulative effect of accounting change and minority interest(ii)  109.2   83.1   24.4   3.3   57.2 
Earnings per common share — income (loss) before cumulative effect of accounting change:                    
Operating expenses  1,212.0   1,461.9   1,380.4   1,355.4   1,289.7 
           
Operating income $268.2  $390.2  $362.4  $304.3  $62.3 
           
Net income $69.0  $184.2  $154.2  $109.2  $83.1 
Earnings per common share:                    
Basic $1.20  $1.21  $0.25  $(0.04) $0.94  $0.61  $2.02  $1.77  $1.20  $1.21 
Diluted  1.08   1.10   0.25   (0.04)  0.91   0.61   1.86   1.57   1.08   1.10 
Financial Position
                    
Total assets $4,637.3  $4,423.6  $2,440.6  $2,152.9  $2,008.8  $5,479.1  $5,439.2  $4,928.2  $4,637.3  $4,423.6 
Total debt obligations  1,757.0   1,860.6   665.7   523.4   582.6 
Total debt obligations, including current portion  1,980.0   2,086.1   1,755.9   1,757.0   1,860.6 
Total stockholders’ equity  2,058.8   1,911.5   1,726.3   1,582.4   1,426.2 
Total equity(ii)  2,341.6   2,185.2   1,969.3   1,682.7   1,426.2 
Other Data Per Common Share
                    
Cash dividends per common share $  $  $  $  $  $  $  $  $  $ 
 
 
(i)AmountsThe 2005 results reflect the consolidation of Mexrail effective January 1, 2005 and KCSM effective April 1, 2005.
 
(ii)Income from continuing operations before cumulative effectThe adoption of the new accounting change andguidance on noncontrolling interests has resulted in the reclassification of amounts previously attributable to minority interest, fornow referred to as noncontrolling interest, to a separate component of total equity in the years ended December 31, 2005, 2004, 2003 and 2002 include certain unusual operating expenses and other income as further described in Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Results of Operations.” These costs and other income include charges for casualty claims, costs related to the acquisitions of Grupo KCSM and Mexrail, hurricane related charges, costs related to the implementation of the Management Control System (“MCS”), benefits received from the settlement of certain legal and insurance claims, severance costs and expenses associated with legal verdicts against KCS, and gains recorded on the sale of operating and non-operating property and investments.consolidated balance sheet.
The response to Item 301 ofRegulation S-K under Part II Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” of thisForm 10-K is incorporated by reference in partial response to this Item 6.
NON-GAAP FINANCIAL INFORMATION
The following tables present full year 2006 non-GAAP financial information previously disclosed by the Company on its website in conjunction with earnings releases, presentations and8-K filings. The non-GAAP information presented, which management believes is useful, should be considered in addition to, but not as a substitute or preferable to, other information prepared and presented in accordance with GAAP. However, the information is included herein as reference because Management may use this information for comparability purposes when discussing the performance of the Company’s business and believes that the non-GAAP information provided is meaningful and can be particularly useful in assessing comparability of the Company’s performance for the years ended December 31, 2005 and 2006.
Summary Income Statement Information
Calculation of 2005 non-GAAP year to date earnings includes: (i) KCSM’s first quarter 2005 amounts prior to its consolidation on April 1, 2005 and (ii) excludes charges related to the acquisition and the write-off


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of deferred profit sharing in the second quarter of 2005, (iii) excludes the unusually large charge to Casualty and insurance reflecting a comprehensive study as well as the first time adoption of an actuarial approach for projecting expense related to certain casualty claims, and (iv) excludes the one-time non-cash gain as a result of the VAT settlement with the Mexican Government in the third quarter of 2005.
             
  As Reported
  All
  Non-GAAP
 
  2005  Differences  2005 
 
Revenues $1,352.0   170.1  $1,522.1 
Depreciation and amortization  127.7   18.4   146.1 
Casualties and insurance  103.4   (34.8)  68.6 
KCSM employees’ statutory profit sharing  41.1   (35.1)  6.0 
Other operating expenses  1,017.5   105.8   1,123.3 
             
Total operating expenses  1,289.7   54.3   1,344.0 
             
Operating income (loss)  62.3   115.8   178.1 
VAT/Put settlement gain, net  131.9   (131.9)   
Other income (expense)  (118.2)  (29.2)  (147.4)
             
Income before income taxes  76.0   (45.3)  30.7 
             
Income tax (benefit)  (7.1)  17.8   10.7 
Minority interest  17.8   (16.1)  1.7 
             
Net income  100.9   (79.2)  21.7 
             
Preferred stock dividends  9.5      9.5 
             
Net income available to common shareholders  91.4   (79.2)  12.2 
             
Diluted Shares  92,747       77,002 
Diluted EPS $1.10      $0.16 
Calculation of Earnings Before Interest, Income Taxes, Depreciation and Amortization and Non-cash Equity Earnings from Unconsolidated Subsidiaries (a)
         
  Non-GAAP
    
  2005  2006 
 
GAAP Net Income
 $100.9  $108.9 
All differences  (79.2)   
         
Adjusted net income  21.7   108.9 
Adjusted Income tax provision (benefit)  10.7   45.4 
Interest expense  163.6   167.2 
Loss in equity in earnings of unconsolidated subs — see (a) below  (3.7)  (7.3)
Depreciation and amortization  146.1   155.0 
         
EBITDA $338.4  $469.2 
         


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Calculation of interest expense to include first quarter KCSM interest
         
  Non-GAAP
    
  2005  2006 
 
GAAP Interest Expense
 $133.5  $167.2 
All differences  30.1    
         
  $163.6  $167.2 
         
EBITDA $338.4  $469.2 
         
EBITDA Interest Coverage Ratio  2.07   2.81 
         
(a)For purpose of consistency, the Company uses the format of EBITDA specified in its bank covenants which also excludes non-cash earnings from unconsolidated subsidiaries.
Reconciliation of Free Cash Flow to Net Cash Provided by Operating Activities
         
  2005  2006 
 
Free Cash Flow $(119.4) $97.2 
Proceeds from issuance of long-term debt  644.7   616.3 
Repayment of long-term debt  (521.5)  (658.5)
Other financing activities  (11.3)  (7.1)
         
GAAP Net Increase (Decrease) in cash and cash equivalents
 $(7.5) $47.9 
         
 
Item 7.  Management’s Discussion and Analysis of Financial Condition and Results of Operations
 
The following discussion is intended to clarify and focus on Kansas City Southern’s results of operations, certain changes in its financial position, liquidity, capital structure and business developments for the periods covered by the consolidated financial statements included under Item 8 of thisForm 10-K. This discussion should be read in conjunction with thesethe included consolidated financial statements, the related notes, and the Reports of Independent Registered Public Accounting Firm thereon, and other information included in this report.
 
See “Management’s DiscussionCAUTIONARY INFORMATION
The discussions set forth in this Annual Report onForm 10-K may contain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and AnalysisSection 21E of Financial Conditionthe Securities Exchange Act of 1934, as amended. In addition, management may make forward-looking statements orally or in other writings, including, but not limited to, in press releases, quarterly earnings calls, executive presentations, in the annual report to stockholders and Resultsin other filings with the Securities and Exchange Commission. Readers can identify these forward-looking statements by the use of Operations — Cautionary Information” for cautionarysuch verbs as “expects,” “anticipates,” “believes” or similar verbs or conjugations of such verbs. These statements involve a number of risks and uncertainties. Actual results could materially differ from those anticipated by such forward-looking statements. Such differences could be caused by a number of factors or combination of factors including, but not limited to, the factors identified below and those discussed under Item 1A of thisForm 10-K, “Risk


27


Factors.” Readers are strongly encouraged to consider these factors and the following factors when evaluating any forward-looking statements concerning the Company:
• fluctuations in the market price for the Company’s common stock;
• KCS’ dividend policy and restrictions on its ability to pay dividends on its common stock;
• KCS’ high degree of leverage;
• the Company’s potential need for and ability to obtain additional financing;
• KCS’ ability to successfully implement its business strategy, including the strategy to convert customers from using trucking services to rail transportation services;
• the impact of competition, including competition from other rail carriers, trucking companies and maritime shippers in the United States and Mexico;
• United States, Mexican and global economic, political and social conditions;
• the effects of the North American Free Trade Agreement, or NAFTA, on the level of trade among the United States, Mexico and Canada;
• uncertainties regarding the litigation KCS faces and any future claims and litigation;
• the effects of employee training, stability of the existing information technology systems, technological improvements and capital expenditures on labor productivity, operating efficiencies and service reliability;
• the adverse impact of any termination or revocation of KCSM’s Concession by the Mexican government;
• legal or regulatory developments in the United States, Mexico or Canada;
• KCS’ ability to generate sufficient cash, including its ability to collect on its customer receivables, to pay principal and interest on its debt, meet its obligations and fund its other liquidity needs;
• the effects of adverse general economic conditions affecting customer demand and the industries and geographic areas that produce and consume the commodities KCS carries;
• material adverse changes in economic and industry conditions, including the availability of short and long-term financing, both within the United States and Mexico and globally;
• natural events such as severe weather, fire, floods, hurricanes, earthquakes or other disruptions to the Company’s operating systems, structures and equipment or the ability of customers to produce or deliver their products;
• KCS’ business may be affected by market and regulatory responses to climate change;
• disruption in fuel supplies, changes in fuel prices and the Company’s ability to assess fuel surcharges;
• KCS’ ability to attract and retain qualified management personnel;
• changes in labor costs and labor difficulties, including work stoppages affecting either operations or customers’ abilities to deliver goods for shipment;
• credit risk of customers and counterparties and their failure to meet their financial obligations;
• the outcome of claims and litigation, including those related to environmental contamination, personal injuries, and occupational illnesses arising from hearing loss, repetitive motion and exposure to asbestos and diesel fumes;
• acts of terrorism or risk of terrorist activities;
• war or risk of war;


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• political and economic conditions in Mexico and the level of trade between the United States and Mexico; and
• legislative, regulatory, or legal developments involving taxation, including enactment of new foreign, federal or state income or other tax rates, revisions of controlling authority, and the outcome of tax claims and litigation.
Forward-looking statements reflect only as of the date on which they are made. The Company will not update any forward-looking comments.statements to reflect future events, developments, or other information. If KCS does update one or more forward-looking statements, no inference should be drawn that additional updates will be made regarding that statement or any other forward-looking statements.
 
CORPORATE OVERVIEW
 
Kansas City Southern, a Delaware corporation, is a transportation holding company with principal operationsthat has railroad investments in the U.S., Mexico and Panama. In the U.S., the Company serves the central and south central U.S. Its international holdings serve northeastern and central Mexico and the port cities of Lazaro Cardenas, Tampico and Veracruz, and a fifty percent interest in Panama Canal Railway Company providesocean-to-ocean freight and passenger service along the Panama Canal. KCS’ North American rail transportationholdings and itsstrategic alliances are primary components of a NAFTA railway system, linking the commercial and industrial centers of the U.S., Canada and Mexico. Its principal subsidiaries and affiliates includinginclude the following:
 
 • The Kansas City Southern Railway Company (“KCSR”), a wholly-owned subsidiary;
• Kansas City Southern de México, S.A. de C.V. (“KCSM”), which became a wholly-owned subsidiary as of April 1, 2005, when KCS completed its acquisition of KCSM;
 
 • Mexrail, Inc. (“Mexrail”), a wholly-owned consolidated subsidiary; which, in turn, wholly owns The Texas Mexican Railway Company (“Tex-Mex”);
 
 • Meridian Speedway, LLC (“MSLLC”), a ninetyseventy-two percent owned consolidated affiliate;
 
 • Kansas City Southern de México, S. de R.L. de C.V.Panama Canal Railway Company (“KCSM”). On April 1, 2005, KCS completed its acquisition of control of KCSM and as of that date, KCSM became a consolidated subsidiary of KCS. On September 12, 2005, the Company and its subsidiaries, Grupo KCSM, S.A. de C.V. (“Grupo KCSM”) and KCSM, along with the Mexican holding company Grupo TMM, S.A. (“TMM”PCRC”), entered into a settlement agreementfifty percent owned unconsolidated affiliate, that provides international container shipping companies with the Mexican government resolving the controversies and disputes between the companies and the Mexican government concerning the payment of a VAT refund to KCSM and the purchaserailway transportation option in lieu of the remaining sharesPanama Canal and owns all of KCSM owned by the Mexican government. As a resultcommon stock of this settlement, KCS and its subsidiaries now wholly own Grupo KCSM and KCSM. For the first quarter of 2005, KCS accounted for its investment in KCSM on the equity basis of accounting.Panarail Tourism Company (“Panarail”);


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 • Southern Capital Corporation, LLC (“Southern Capital”), a fifty percent owned unconsolidated affiliate that owns and leases locomotives and other rail equipment;
• Panama Canal Railway Company (“PCRC”), a fifty percent owned unconsolidated affiliate which owns all of the common stock of Panarail Tourism Company (“Panarail”). and
 
 • Ferrocarril y Terminal del Valle de México, S.A. de C.V. (“FTVM”), a twenty fivetwenty-five percent owned unconsolidated affiliate that provides railroad services as well as ancillary services in the greater Mexico City area.
 
KCS, as the holding company, supplies its various subsidiaries with managerial, legal, tax, financial and accounting services, in addition to managingmanagement services for various other “non-operating” investments.
 
EXECUTIVE SUMMARY
 
20062009 Financial Overview.Overview
This has been a pivotal year for Kansas City Southern. With the uncertain state of the world economy, KCS, like so many other companies, has had to make difficult decisions about where to invest valuable resources for growth in the future. The Company has remained focused on maximizing the value of the cross border network and the vision to be a strong, independent transportation company that consistently delivers exceptional service to its customers and increasing value to its shareholders. Management believes the Company’s efforts leave it well positioned as the global economy begins to recover.
 
The Company achievedreported 2009 earnings of $0.61 per diluted share on consolidated net income of $108.9$68.0 million for the year ended December 31, 2009, compared to annual earnings of $1.86 per diluted share on consolidated net income of $183.9 million for 2008. This earnings decline reflects a 20% reduction in


29


revenues in 2006,2009 as compared to net income of $100.9 million in 2005. The 2005 net income includes a non-recurring gain of $131.9 million related to the VAT/Put settlement. Excluding this non recurring item, net income increased $139.9 million over the prior year.
Operating income increased $242 million in 2006 to $304.3 million as compared to $62.3 million in 2005. The increase in operating income was driven primarily by increased revenues during the year. The Company achieved record revenues of $1,659.7 million in 2006, which was a 23% increase over revenues of $1,352 million in 2005. Revenue in 2006 included a full year of consolidated results. The2008. This significant revenue increasedecline was primarily driven by price increases, newthe economic downturn that has affected most business sectors, and expanding businesshas resulted in both the U.S.industry-wide declines in carload/unit volumes. The revenue declines were partially offset by reduced fuel costs, reflecting reduced consumption and Mexico,prices, and increased efficiency. The revenue declines were further mitigated by the continued integration of KCSMCompany’s cost containment measures including modifications to the Company’s operations in response to volumes; however, due to increased depreciation and amortization expense and because certain operating costs are fixed in the consolidated results. Revenue growthshort-term, operating expenses as a percentage of revenues increased to 81.9% in 2006 was 9% over 2005, including pro forma KCSM revenue for the full year2009, as compared to 78.9% in 2005.2008.
 
Cash flows from operations increaseddecreased to $267.5$292.9 million in 2006as compared with $178.8to $413.0 million in 2005, an increase of $88.7 million.for the years ended December 31, 2009 and 2008, respectively. The decrease is primarily due to lower carload/unit volumes as previously discussed. Capital expenditures are a significant use of cash flows annually duefor KCS and were $349.2 million for 2009, a 35% decrease compared to 2008. Despite the downturn in the economy, the Company continued to focus on the completion of strategic projects. During the second quarter of 2009, the Company completed construction and opened the newly rehabilitated line from Rosenberg to Victoria, Texas which diverts KCSR’s operations from 157 miles of trackage rights to a more direct route, reducing the mileage between Laredo and Houston/Beaumont by 67 miles. In addition, the line reopened regular train service to the capital intensive naturearea, bringing needed rail capacity to south Texas to reduce highway congestion and the number of railroad operations. Cash used for capital expenditures in 2006 was $241.8 million as comparedtrucks on Texas highways. It also makes regional business more competitive, leading to $275.7 million in 2005.future growth and jobs.
 
2007 Outlook.
Kansas City Southern expects to continue to integrate U.S. and Mexico operations and management with a focus on execution and realizing the full value of the network KCS has built. Consolidated revenue growth in 2007 is expected to be in line with 2005 — 2006 (including KCSM’s 2005 proforma results). Price increases and higher volume are expected to be key drivers of growth while KCS continues to position its network to increase length of haul and cross border traffic, where carload growth is expected to outpace economic growth and intermodal growth is expected to increase substantially.
With continued productivity increases in operations as well as the projected revenue growth, the full year operating ratio for 2007 is expected to fall below 80%; although,During 2009, the Company believes seasonalitywas focused on improving KCS’ financial condition and liquidity position. KCSM paid off its bank term loan and revolver using the proceeds of business will have an impact on the currentquarter-over-quarter improvement trendsa $200.0 million debt offering in the first half of the year.
The Company believes that liquidity will continue to improve as will the Company’s key credit statistics with anticipated improvements in operating income, continued focus on working capital reduction and otherquarter. KCS also strengthened its balance sheet opportunities.
The Company projects cash capital expenditures to maintainand liquidity through the railroad and meet anticipated future demand will be approximately $270 million in 2007. KCS also plans to acquire 150 new locomotives through operating lease arrangements at a costsale of about $3004,330,208 shares of common stock with net proceeds of $73.9 million. It is currently projected that U.S. operations will take delivery of 60 locomotives and 90 locomotives will be used in Mexico.
Panama Canal Railway, an equity investment of KCS, is also expected to continue strong growth in volumes and cash flow.


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RECENT DEVELOPMENTS
Preferred Stock Dividends.  On January 12, 2007, the Company declared a cash dividend on the 4.25% Redeemable Cumulative Convertible Perpetual Preferred stock, series C (“Series C Preferred Stock”) and a stock dividend on the 5.125% Cumulative Convertible Perpetual Preferred Stock, Series D (“Series D Preferred Stock”) for dividends in arrears that were due May 15, 2006, August 15, 2006 and November 15, 2006, and the dividend payment due February 15, 2007. The dividend was paid February 15, 2007, to stockholders of record on February 5, 2007. The Company also declared a cash dividend on the 4%, noncumulative Preferred Stock, payable April 3, 2007, to stockholders of record on March 12, 2007.
Consent Solicitation.  On January 29, 2007, KCSR commenced a consent solicitation to amend the indentures under which KCSR’s 91/2% Senior Notes due 2008 (“91/2% Notes”) and 71/2% Senior Notes due 2009 (“71/2% Notes” and together with the 91/2% Notes, the “Notes”) were issued. The purpose of the consent solicitation was to (i) resolve an inconsistency in the inclusion of certain expenses, but not the income, of restricted subsidiaries in the calculation of the consolidated coverage ratio under the indentures, (ii) amend the definition of refinancing indebtedness to allow the inclusion of certain related premiums, interest, fees and expenses in permitted refinancing indebtedness and (iii) obtain waivers of any defaults arising from certain actions taken in the absence of such proposed amendments. On February 5, 2007, KCSR obtained the requisite consents from the holders of each series of Notes to amend their respective indentures as described above and executed supplemental indentures containing such amendments and waivers.
Credit Facility Waiver.  On January 31, 2007, KCS provided written notice to the lenders under the 2006 Credit Agreement of certain representation and other defaults under the 2006 Credit Agreement arising from the potential defaults which existed under the KCSR indentures as described above. These defaults limited KCSR’s access to the revolving credit facility. In its notice of default, the Company also requested that the lenders waive these defaults. On February 5, 2007 the Company received a waiver of such defaults from all of the lenders under the 2006 Credit Agreement. The Company is currently not in default of the 2006 Credit Agreement and has access to the revolving credit facility.
Claims Asserted under the TMM Acquisition Agreement.  As part of the acquisition of Grupo KCSM in 2005, KCS issued escrow notes to TMM totaling $47.0 million which are subject to reduction for certain potential losses related to incorrect representations and warranties or breaches of covenants in the Acquisition Agreement by TMM. On January 29, 2007, KCS advised TMM that KCS intended to assert claims for indemnification under the Acquisition Agreement related to representations and warranties made by TMM. On February 1, 2007, KCS received a notice from TMM indicating that TMM would seek damages from KCS under the Acquisition Agreement, aggregating approximately $43 million as well as other unspecified damages. The parties are obligated under the Acquisition Agreement to attempt to resolve their differences informally and, if not successful, then to submit them to binding arbitration.
 
RESULTS OF OPERATIONS
 
Year Ended December 31, 2006, Compared2009, compared with the Year Ended December 31, 20052008
Net Income.  Consolidated net income increased $139.9 million excluding the 2005 non-recurringVAT/Put settlement for the year ended December 31, 2006, compared to the same period in 2005. Including the $131.9 million VAT/Put settlement in 2005, consolidated net income increased $8 million. Operating income increased by $242.0 million primarily driven by targeted price increases and fuel surcharge, new and expanded existing business in both the U.S. and Mexico segments, and the integration of KCSM operations and a full year of consolidated operating results. Operating expenses increased by only 5% due to increased efficiencies from the integration of KCSM.


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The following summarizes the consolidated income statement components of KCS(in millions).:
 
                                
     Change      Change 
 2006 2005 Dollars Percent  2009 2008 Dollars Percent 
Revenues $1,659.7  $1,352.0  $307.7   23% $1,480.2  $1,852.1  $(371.9)  (20)%
         
Operating expenses  1,355.4   1,289.7   65.7   5%  1,212.0   1,461.9   (249.9)  (17)%
                  
Operating income  304.3   62.3   242.0   388%  268.2   390.2   (122.0)  (31)%
Equity in net earnings of unconsolidated affiliates  7.3   2.9   4.4   152%  7.7   18.0   (10.3)  (57)%
Interest expense  (167.2)  (133.5)  (33.7)  25%  (173.7)  (138.9)  (34.8)  25%
VAT/Put settlement gain, net     131.9   (131.9)  (100)%
Other income  10.2   12.4   (2.2)  (18)%
Debt retirement costs  (5.9)  (5.6)  (0.3)  5%
Foreign exchange gain (loss)  2.1   (21.0)  23.1   (110)%
Other income, net  5.2   6.0   (0.8)  (13)%
                  
Income before income taxes and minority interest  154.6   76.0   78.6   103%
Income tax provision (benefit)  45.4   (7.1)  52.5   (739)%
         
Income before minority interest  109.2   83.1   26.1   31%
Minority interest  0.3   (17.8)  18.1   (102)%
Income before income taxes and noncontrolling interest  103.6   248.7   (145.1)  (58)%
Income tax expense  34.6   64.5   (29.9)  (46)%
                  
Net income $108.9  $100.9  $8.0   8%  69.0   184.2   (115.2)  (63)%
Noncontrolling interest  1.0   0.3   0.7   233%
                  
Net income attributable to Kansas City Southern and subsidiaries $68.0  $183.9  $(115.9)  (63)%
         


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U.S. Segment.Revenues
 
Revenues.The following summarizes U.S. revenues(in millions)and carloadscarload/unit statistics(in thousands).  Certain prior period carloads and intermodal units have been reclassified to reflect changes in the business groups and to conform to the current period presentation.revenue per carload/unit:
 
                                 
  Revenues  Carloads and Intermodal Units 
        Change        Change 
  2006  2005  Dollars  Percent  2006  2005  Units  Percent 
 
General commodities:
                                
Chemical and petroleum $173.5  $153.5  $20.0   13%  158.8   155.7   3.1   2%
Forest products and metals  241.2   219.0   22.2   10%  199.0   211.7   (12.7)  (6)%
Agricultural and mineral  198.2   179.2   19.0   11%  170.1   183.1   (13.0)  (7)%
                                 
Total general commodities  612.9   551.7   61.2   11%  527.9   550.5   (22.6)  (4)%
Intermodal and automotive  74.8   76.6   (1.8)  (2)%  339.4   335.9   3.5   1%
Coal  141.0   122.3   18.7   15%  255.9   233.4   22.5   10%
                                 
Carload revenues, units and intermodal units  828.7   750.6   78.1   10%  1,123.2   1,119.8   3.4   0%
                                 
Other revenue  57.0   53.8   3.2   6%                
                                 
Total revenues $885.7  $804.4  $81.3   10%                
                                 
                                     
  Revenues  Carloads and Units  Revenue per Carload/Unit 
  2009  2008  % Change  2009  2008  % Change  2009  2008  % Change 
 
Chemical and petroleum $323.4  $347.8   (7)%  238.3   240.2   (1)% $1,357  $1,448   (6)%
Industrial and consumer products  344.4   508.6   (32)%  267.0   367.6   (27)%  1,290   1,384   (7)%
Agriculture and minerals  360.0   455.0   (21)%  246.3   293.3   (16)%  1,462   1,551   (6)%
                                     
Total general commodities  1,027.8   1,311.4   (22)%  751.6   901.1   (17)%  1,367   1,455   (6)%
Coal  187.2   203.7   (8)%  301.2   301.3      622   676   (8)%
Intermodal  143.4   160.6   (11)%  516.4   520.9   (1)%  278   308   (10)%
Automotive  52.9   105.6   (50)%  51.7   101.6   (49)%  1,023   1,039   (2)%
                                     
Subtotal  1,411.3   1,781.3   (21)%  1,620.9   1,824.9   (11)% $871  $976   (11)%
                                     
Other revenue  68.9   70.8   (3)%                        
                                     
Total revenues(i) $1,480.2  $1,852.1   (20)%                        
                                     
(i) Included in revenues:                                    
Fuel surcharge $77.9  $200.3                             
                                     
 
Freight revenues include both revenue for transportation services and fuel surcharges. For the year ended December 31, 2006,2009, revenues increased $81.3decreased $371.9 million compared to the prior year. Theyear, primarily due to the overall decrease in carload/unit volumes resulting from the downturn in the economy, decreased fuel surcharge, and the effect of unfavorable fluctuations in the value of the U.S. segment experienced revenue increasesdollar against the value of the Mexican peso for revenues denominated in all commodity groups exceptMexican pesos, partially offset by an increase in core pricing. Revenue per carload/unit decreased by 11% for the intermodalyear ended December 31, 2009, reflecting unfavorable commodity mix in addition to the factors discussed above.
KCS’s fuel surcharge is a mechanism to adjust revenue based upon changing fuel prices. Fuel surcharges are calculated differently depending on the type of commodity transported. For most commodities, fuel surcharge is calculated using a fuel price from a prior time period that can be as much as 60 days earlier. In a period of volatile fuel prices or changing customer business mix, changes in fuel expense and automotive business, which decreased slightly due to a decline in automotive business driven by lower output and short term plant shutdowns in 2006. Overall increases in the majority of the commodities were driven by targeted price improvements, including increased fuel surcharges. surcharge may significantly differ.


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The following discussion provides an analysis of revenues by commodity group.group:
 
Revenues by commodity
group for 2009

     Chemical and petroleum.  Revenues decreased $24.4 million for the year ended December 31, 2009, primarily due to a decline in the fuel surcharge and unfavorable fluctuations in the value of the U.S. dollar against the value of the Mexican peso. Revenues decreased in chemical products used to manufacture glass and paint as a result of the downturn in the automotive and construction industries. Petroleum products also declined year over year due to an unfavorable customer mix, partially offset by an increase in volumes.
                
Industrial and consumer products.  Revenues decreased $164.2 million for the year ended December 31, 2009, due to decreases in volume, fuel surcharge and unfavorable fluctuations in the value of the U.S. dollar against the value of the Mexican peso. Volumes in metals and scrap decreased as a result of weak demand for pipe used in oil drilling and slab shipments used in automobiles and appliances. Forest products were affected by decreased demand that resulted in temporary mill shutdowns to bring inventory in line with demand.
               
Agriculture and minerals.  Revenues decreased $95.0 million for the year ended December 31, 2009, due to decreases in volume, fuel surcharge and unfavorable fluctuations in the value of the U.S. dollar against the value of the Mexican peso. Grain traffic accounted for the majority of the decrease as traffic patterns shifted due to a combination of factors. There was an abundant supply of grain, primarily corn that was grown in Mexico, as well as an abundant supply of alternative grains which drove a change in origination and traffic patterns. In addition, significantly lower vessel freight rates from U.S. ports along the Gulf of Mexico drove a substitution from rail to vessel for certain shipments to Mexico. The decrease was partially offset by an increase in food products revenue driven by new business.
                
Chemical and Petroleum.  Revenues increased for all of the chemical and petroleum products for the year ended December 31, 2006, due to targeted rate increases in the petroleum, agricultural chemicals and industrial gases sectors, and increased traffic volumes. Pricing improvement and stronger economic conditions during 2006 accounted for a majority of the growth in revenue in the year, while growth in the third and fourth quarters also reflected the Gulf Coast refineries’ recovery from the past year’s hurricanes.


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Forest Products and Metals.  Revenues increased in forest products and metal commodities for the year ended December 31, 2006, primarily due to targeted rate increases. Decreases in volume can be attributed to the lumber and chip products due to rising mortgage rates. This volume decline was only partially offset by increases in volume from higher production in the metals, rolled paper and military products.
Agricultural and Mineral.  Revenues increased in all agricultural and mineral products for the year ended December 31, 2006, due to targeted rate adjustments and an increase in velocity over certain corridors and business sectors. Overall improvement in velocity of unit grain and mineral trains accounted for a majority of the revenue growth during 2006. Declining market conditions during the third and fourth quarters of the year accounted for the decline in volume with the primary decrease in export grain.
Intermodal and Automotive.  Revenues decreased in the intermodal and automotive business for the year ended December 31, 2006, due to declines in the automotive business from suspended production at an automotive plant for a majority of the year. This decrease was offset partially by increased revenues in the intermodal business which were driven by higher volumes from existing customers as well as the generation of new intermodal business.
 
Coal.  Revenues increased for the year ended December 31, 2006, as a result of higher traffic volumes at certain electric generating stations in order to rebuild inventory stockpiles. The ability to rebuild stockpiles has been made possible by improved efficiencies at the coal mines and increased velocity achieved by KCSR and origin carriers.
Operating Expenses.  For the year ended December 31, 2006, U.S. operating expenses increased $0.8 million. The following summarizes the Company’s U.S. operating expenses(in millions).
                 
        Change 
  2006  2005  Dollars  Percent 
 
Compensation and benefits $264.3  $244.8  $19.5   8%
Purchased services  82.8   84.6   (1.8)  (2)%
Fuel  140.8   123.8   17.0   14%
Equipment costs  82.7   68.9   13.8   20%
Depreciation and amortization  65.7   60.0   5.7   10%
Casualties and insurance  44.9   88.7   (43.8)  (49)%
Other  78.9   88.5   (9.6)  (11)%
                 
Total operating expenses $760.1  $759.3  $0.8   0%
                 
Compensation and benefits.  Compensation and benefits expense increased $19.5decreased $16.5 million for the year ended December 31, 2006, compared2009, primarily due to 2005 as the result of increased incentive compensation, annual salary increases, increasea reduction in management headcount,fuel surcharge and an increasea decline in stock based compensation. Incentive compensation is tiedpetroleum coke shipments going to the financial results ofcement and steel industry markets in Mexico, which continue to be affected by the Company and accounted for $9.3 million of the increase. Stock based compensationdecline in construction projects. Unit coal volumes to existing electric generation customers increased by $2.9 million partially asduring 2009; however, related revenue per unit declined primarily due to a result of the implementation of SFAS No. 123(R). Additionally, the remaining increase is the result of annual salary increases and certain increasesreduction in headcount.fuel surcharge.
 
Purchased services.Intermodal.  Purchased services expenseRevenues decreased $1.8$17.2 million for the year ended December 31, 2006, compared2009, primarily due to a decline in the fuel surcharge and an unfavorable change in product mix. The decrease in volume is due to the same period in 2005. The decrease was primarilyloss of business driven by decreasesunfavorable fluctuations in legal costs, locomotive repair coststhe value of the U.S. dollar against the value of the Mexican peso, reduced demand in consumer retail, and rental income received on locomotives leased to Mexico operations on a short-term basis.aggressive truck competition. The decreases werevolume reduction was partially offset by increases in joint facilities expenses due to higher traffic and an increase in autohaulage business and truck repair expense.a fourth quarter increase in cross border automotive parts shipments.
 
Fuel.Automotive.  Fuel expense increased $17.0Revenues decreased $52.7 million for the year ended December 31, 2006, compared2009, due to 2005 primarily as a result of a 7.9% increasedecline in volume and unfavorable fluctuations in the average price per gallonvalue of the U.S. dollar against the value of the Mexican peso. The volume decrease was driven by the continued overall downturn in the automotive industry caused by consumer uncertainty and a 7.2% increasetightening credit markets. In addition, the bankruptcy of two U.S. automotive companies resulted in consumption.several unscheduled plant shutdowns in the first half of 2009. The decline in volume was partially offset by government incentive programs that were established during the second and third quarters of 2009.


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Operating expenses
 
Operating expenses, as shown below (Equipment costs.in millions  Equipment costs increased $13.8), decreased $249.9 million for the year ended December 31, 2006, compared to 2005 as a result of entering into two new locomotive lease agreements for $14.8 million and new


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freight car leases for $4.5 million during the year. This increase was offset by a decrease in car hire expense due to a reduction in the use of non-KCSR freight cars.
Depreciation and amortization.  Depreciation and amortization expense increased $5.7 million for the year ended December 31, 2006, compared to 2005, primarily as a result of an increase in assets placed into service during the year. This increase was partially offset by an updated depreciation study which was completed during the year and resulted in a $3.0 million reduction in expense in the 4th quarter.
Casualties and insurance.  Casualties and insurance expense decreased $43.8 million for the year ended December 31, 2006, compared to 2005. During the third quarter of 2005, the Company recorded a $37.8 million pre-tax charge for personal injury liabilities based upon an actuarial study in 2005. The remaining decrease in 2006 was primarily driven by a lower number of incidence as well as a decrease in the severity of derailments during the year2009, when compared to the prior year.
Other.  Other expense decreased $9.6 million for the year ended December 31, 2006, compared to 2005same period in 2008, primarily due to a $13.9 million reimbursement from the Mexico segment for shared service expenses paid by the U.S. segment during 2006. This was offset by an increase of $6.7 million in materialsdecreased carload/unit volumes, fuel expense, cost containment measures and supplies primarily as a result of price increases in freight car wheels.
Mexico Segment.
KCS acquired a controlling interest in Grupo KCSM effective April 1, 2005. The 2005 results reflect charges and costs associated with the acquisition and integration, as well as the effect of valuation adjustments as required by purchase accounting. Since April 1, 2005, the financial results of Grupo KCSM have been consolidated into KCS. Prior to that date, the investment for Grupo KCSM was accounted for under the equity method. Although not consolidated prior to April 1, 2005, revenue and expense information below includes Grupo KCSM results for the 1st quarter of 2005 for comparative purposes. Accounting policies for Grupo KCSM prior to the acquisition were materially consistent with U.S. operations, however, certain adjustments have been made to the results presented for comparability.
Revenues.  Mexico’s revenues(in millions)and carloads statistics(in thousands)follow.
                                 
  Revenues  Carloads and Intermodal Units 
     Comparative
  Change     Comparative
  Change 
  2006  2005  Dollars  Percent  2006  2005  Units  Percent 
 
General commodities:
                                
Chemical and petroleum $145.9  $126.5  $19.4   15%  102.0   97.0   5.0   5%
Forest products and metals  213.0   186.2   26.8   14%  187.5   197.3   (9.8)  (5)%
Agricultural and mineral  232.7   219.2   13.5   6%  196.0   200.1   (4.1)  (2)%
                                 
Total general commodities  591.6   531.9   59.7   11%  485.5   494.4   (8.9)  (2)%
Intermodal and automotive  162.4   173.0   (10.6)  (6)%  312.0   326.8   (14.8)  (5)%
                                 
Carload revenues, units and intermodal units  754.0   704.9   49.1   7%  797.5   821.2   (23.7)  (3)%
                                 
Other revenue  20.0   12.7   7.3   57%                
                                 
Total revenues $774.0  $717.6  $56.4   8%                
                                 
Revenues for the year ended December 31, 2006 totaled $774.0 million compared to $717.6 million for the comparable year ended December 31, 2005, which represented an increase of $56.4 million. Revenues increased despite a decrease in carloads mainly due to a reductionfavorable fluctuations in the movement in finished vehicles for exportation. The increase in 2006 was mainly attributable to targeted rate increases and fuel surcharge. Carloads are a standard measure used by KCS to determine the volumevalue of traffic transported over its rail lines. Imports into Mexico from the U.S., Canada and overseas represented approximately 56.3% and 56.2% of total revenues in 2006 and 2005, respectively. Approximately 77.8% of total revenues in 2006 were attributable to international freight.


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Chemical and Petroleum Products.  Revenues rose $19.4 million in 2006 primarily due to price increases, fuel surcharge revenue and volume increases over the prior year. The volume recovery increase was largely attributable to Hurricanes Katrina and Rita which had adversely impacted the Gulf coast refineries. Volume recovery was seen in fuel oil, diesel, gasoline and pet coke during 2006.
Forest Products and Metals.  Revenues increased $26.8 million in 2006 compared to 2005, primarily due to price strategies, longer hauls and increased fuel surcharge. Targeted rate increases were implemented in 2006 for movements of steel slabs and steel coil imports. Increased revenue was seen from longer hauls to Laredo as a result of a customer’s relocation of its distribution center from Zacatecas to Tuxtepec. Increases in the number of cross border paper imports were seen during the year as well.
Agriculture and Mineral.  Revenues from agricultural products increased $13.5 million compared to 2005 primarily as a result of targeted rate increases and fuel surcharges. Volume increases in corn and sugar were partially offset by reductions in import shipments of soybeans, sorghum and wheat products. Revenues also grew due to an embargo on Ferromex lines. There was also increased activity during the last quarter of 2006 not expected to be imported through theU.S.-Mexico border. The fructose market increased and it is still growing without quotas on imports. The revenue increase has been favorable with movements of grain and products from U.S. origin to destinations on the KCSM lines. These increases were negatively affected by a reduction of volumes of sand and clay products, and lower traffic in route from Jaltipan to Queretaro, due to dwell times at Ferrovalle. Additionally revenues were also affected by the reduction in consumption of limestone in Lázaro Cárdenas during the second quarter 2006.
Intermodal and Automotive.  Intermodal revenue increased $7.8 million during 2006 compared to 2005, as a result of increased numbers of steamship carriers that call at the port of Lázaro Cárdenas and consistent transit times on Intermodal trains. Automotive revenue decreased $18.4 million in 2006 compared to 2005, as a result of a reduction in the movement of finished vehicles for exportation to the U.S. and Canadian markets. Additionally,dollar against the movements of importation of finished vehicles, as well as the domestic distribution of these vehicles, have declined due to the logistics of their transportation.
Operating Expenses.  The following summarizes Mexico operating expenses(in millions):
                 
     Comparative  Change 
  2006  2005  Dollars  Percent 
 
Compensation and benefits $123.4  $124.4  $(1.0)  (1)%
Purchased services  131.0   145.5   (14.5)  (10)%
Fuel  112.8   106.3   6.5   6%
Equipment costs  97.0   102.5   (5.5)  (5)%
Depreciation and amortization  89.3   88.9   0.4   0%
Casualties and insurance  8.5   17.0   (8.5)  (50)%
KCSM employees’ statutory profit sharing  5.9   41.6   (35.7)  (86)%
Other  27.4   47.3   (19.9)  (42)%
                 
Total operating expenses $595.3  $673.5  $(78.2)  (12)%
                 
Compensation and benefits.  For the year ended December 31, 2006, salaries, wages and employee benefits decreased $1.0 million compared to 2005. The decrease reflects a reduction in headcount and the depreciation effectvalue of the Mexican peso against the U.S. dollar during 2006. This decrease was partially offset by the annual salaries increase and the increase in wages and fringe benefits resulting from labor negotiations in July 2006.
Purchased services.  Purchased services decreased $14.5 million in 2006 compared to 2005. Certain trackage rights that were not used during 2006 resulting in lower costs, amortization of deferred credits established in connection with the push down of purchase accounting, and additional capitalization of certain overhead costs, reduced purchased services during the year. These decreases were slightly offset by increases in management and professional fees during 2006.


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Fuel.  Fuel expenses increased $6.5 million in 2006 compared to 2005 primarily due to the volatility of fuel prices during 2006. KCSM’s average price per gallon for fuel increased 4.6% in 2006 as compared to the prior year.
Equipment cost.  Equipment cost decreased $5.5 million compared to 2005. This decrease was attributed mainly to a reduction in the use of non-KCSM freight cars as a result of velocity and operations improvement. This decrease was partially offset by the amortization of certain deferred charges and credits established in connection with the push down of purchase accounting related to the fair value of operating leases for freight cars.
Casualties and insurance.  During 2006, casualties and insurance decreased $8.5 million compared to 2005. This decrease was primarily the result of lower costs associated with derailments compared to activity that occurred during the second and third quarter of 2005.
Employees’ statutory profit sharing.  The $35.7 million decrease in employee statutory profit sharing expense for the year ended December 31, 2006 compared to 2005 was a result of four Supreme Court decisions in May of last year which denied the deductibility of NOL’s in a company’s profit sharing liability calculation. As a result of these court rulings the deferred profit sharing asset associated with these NOL’s was written down during 2005, which resulted in a non-cash charge to income of $35.6 million.
Other.  Other expenses decreased $19.9 million compared to December 31, 2005. This decrease primarily reflects lower bad debt expense as compared to 2005 of approximately $9.3 million, the recognition of transition cost of $2.0 million in 2005, a charge due to the revaluation of the inventory parts associated with the maintenance of the catenary line in the second quarter 2005 of $1.6 million and losses on sale of property prior to adoption of the group method of depreciation on April 1, 2005, partially offset by a $1.3 million increase in other leases.
Consolidated Non-Operating Expenses.
Consolidated Interest Expense.  Consolidated interest expense increased $33.7 million for the year ended December 31, 2006, driven primarily by the additional three months of KCSM interest expense. KCSM’s interest expense for the three months ended March 31, 2005, was $27.4 million. The remaining difference was due to higher average balances of and increased interest rates on floating rate debt in the current year.
Consolidated Debt Retirement Costs.  Consolidated debt retirement costs increased $0.4 million for the year ended December 31, 2006, compared to the year ended December 31, 2005. During the year ended December 31, 2006, KCSR entered into an amended and restated credit agreement and wrote off $2.2 million and KCSM refinanced its 10.25% senior notes and wrote off $2.6 million in unamortized debt issuance costs. For the year ended December 31, 2005, $4.4 million in unamortized debt issuance costs were written off in connection with the refinancing of KCSM’s 11.75% debentures and its first amended and restated credit agreement.
Foreign Exchange.  For the year ended December 31, 2006, the foreign exchange loss of $3.7 million compared to a gain of $3.5 million for the same period in 2005. During the year 2006 the U.S. dollar appreciated approximately 1.7% relative to the Mexican peso.
Equity in Net Earnings (Losses) of Unconsolidated Affiliates.  Equity in earnings from unconsolidated affiliates was $7.3 million for the year ended December 31, 2006, compared to $2.9 million for the year ended December 31, 2005. Significant components of this change follow:
• Equity in losses from the operations of PCRC was $1.0 million for the year ended December 31, 2006, compared to $1.7 million for the same period in 2005. The decrease in losses of $.7 million is the result of a 13.1% increase in volume.
• Equity in earnings of Southern Capital was $5.4 million for the year ended December 31, 2006, versus $2.8 million for the same period in 2005. The $2.6 million increase in earnings is the result of a reduction in depreciation expense as a majority of the locomotives owned by Southern Capital became fully depreciated during the year.


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• KCSM’s equity in earnings of FTVM was $2.9 million for the year ended December 31, 2006, compared to $2.9 million for the same period in 2005.
• Equity in losses of KCSM was $1.0 million for the year ended December 31, 2005.
Other Income.  Other income increased $5.4 million for the year ended December 31, 2006, due to the sale of land and other long term assets that were not associated with KCS’s railroad operations during 2006.
Consolidated Income Tax Provision (Benefit).  For the year ended December 31, 2006, KCS’ income tax expense was $45.4 million, a change of $52.5 million as compared to a $7.1 million benefit for the year ended December 31, 2005. The effective tax rate increased from (9.3%) to 29.4% for the years ended December 31, 2005 and 2006, respectively. This increase was primarily attributable to the absence of one-time items such as the non-taxable VAT/Put settlement which occurred in 2005 and the 2005 write-off of deferred profit sharing in Mexico.
Following the acquisition of control of Grupo KCSM in 2005, the Company has not provided U.S. federal income taxes on the undistributed earnings of Grupo KCSM since the Company intends to reinvest such earnings indefinitely outside of the United States.
Year Ended December 31, 2005, Compared with the Year Ended December 31, 2004
Net Income.  Consolidated net income for 2005 increased $76.5 million compared to 2004 primarily as a result of a $131.9 million gain resulting from the VAT/Put Settlement, partially offset by a reduction in operating income of $21.2 million. Additionally, consolidated net income increased due to a reduction in provision for income taxes of $30.7 million.
The reduction in consolidated operating income was driven primarily by an additional $37.8 million charge in 2005 to recognize additional costs related to occupational and personal injury claims determined as a result of the annual actuarial study, which was completed during the third quarter of 2005, and the write off of KCSM’s deferred tax asset related to statutory profit sharing. On a consolidated basis, both revenues and operating expenses were significantly impacted by the acquisitions completed during the year. In addition to the acquisitions, revenue growth for 2005 continued to be driven by increased volume, targeted rate increases and increased fuel surcharges to help offset rising fuel prices. Consolidated operating costs generally increased consistent with the volume increases, although price increases also impacted compensation and benefits and fuel expense.
The following table summarizes the consolidated income statement components of KCS(denominated in millions).  Certain prior period amounts have been reclassified to reflect changes to the current period presentation.
                 
        Change 
  2005  2004  Dollars  Percent 
 
Revenues $1,352.0  $639.5  $712.5   111%
Operating expenses  1,289.7   556.0   733.7   132%
                 
Operating income  62.3   83.5   (21.2)  (25)%
Equity in net earnings (losses) of unconsolidated affiliates  2.9   (4.5)  7.4   (164)%
Interest expense  (133.5)  (44.4)  (89.1)  201%
VAT/Put settlement gain, net  131.9      131.9    
Other income  12.4   13.4   (1.0)  (7)%
                 
Income before income taxes and minority interest  76.0   48.0   28.0   58%
Income tax provision (benefit)  (7.1)  23.6   (30.7)  (130)%
                 
Income before minority interest  83.1   24.4   58.7   241%
Minority interest  (17.8)     (17.8)   
                 
Net income $100.9  $24.4  $76.5   314%
                 


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U.S. Segment.
Revenues.  The following table summarizes U.S. revenues, including the revenues and separate carload statistics of KCSR, and Mexrail, for the year ended December 31, 2005(in millions). For the year ended December 31, 2004, the revenue and carload statistics are KCSR only.Mexican pesos. Certain prior period amounts have been reclassified to conform to the current periodyear presentation.
 
                                 
  Revenues  Carloads and Intermodal Units 
        Change        Change 
  2005  2004  Dollars  Percent  2005  2004  Units  Percent 
 
General commodities:
                                
Chemical and petroleum $153.5  $135.0  $18.5   14%  155.7   147.9   7.8   5%
Forest products and metals  219.0   169.6   49.4   29%  211.7   197.3   14.4   7%
Agricultural and mineral  179.2   125.2   54.0   43%  183.1   149.4   33.7   23%
                                 
Total general commodities  551.7   429.8   121.9   28%  550.5   494.6   55.9   11%
Intermodal and automotive  76.6   66.8   9.8   15%  335.9   342.8   (6.9)  (2)%
Coal  122.3   92.1   30.2   33%  233.4   194.7   38.7   20%
                                 
Carload revenues, units and intermodal units  750.6   588.7   161.9   28%  1,119.8   1,032.1   87.7   8%
                                 
Other revenue  53.8   50.8   3.0   6%                
                                 
Total revenues $804.4  $639.5  $164.9   26%                
                                 
For the year ended December 31, 2005, U.S. revenues increased $164.9 million. The Mexrail acquisition accounted for $73.3 million of the increase in revenues for the year ended December 31, 2005. U.S. revenue also experienced increases in all commodity groups due to a combination of higher carloadings, targeted price improvements and increased fuel surcharge revenue. Fuel surcharges increased to $52.0 million, which accounted for $35.3 million of the increase in revenues for the year ended December 31, 2005, compared to the same period in 2004. The following discussion provides an analysis of the segment’s revenues by commodity group. Pending completion of the ongoing effort to change the Tex-Mex mark and finalize its merger into KCS operations, carload data are presented based on the combination of the carloads for KCSR and Mexrail, without elimination for cars interchanged between the two roads.
Chemical and Petroleum.  For the year ended December 31, 2005, U.S. chemical and petroleum products experienced increases in revenues in all commodity groups with the exception of inorganic chemicals. These increases were attributed to higher production, certain targeted rate increases and fuel surcharges. These revenue increases were partially offset by the effects of plant and production shutdowns resulting from the hurricanes during the second half of 2005. The impact of the Mexrail consolidation increased revenues $12.1 million in the chemical and petroleum product commodities for the year ended December 31, 2005.
Forest Products and Metals.  For the year ended December 31, 2005, forest products and metals revenue for the U.S. segment experienced growth in all commodities compared to the same period in 2004. For the year to date period, these increases resulted primarily from certain targeted rate increases and fuel surcharges partially offset by the impact of hurricanes in the 3rd quarter of 2005. For the year ended December 31, 2005, the consolidation of Mexrail contributed $19.0 million to forest products and metals revenue.
Agricultural and Mineral.  U.S. revenues in the agricultural and mineral products business unit increased for the year ended December 31, 2005. The increases were primarily the result of targeted rate increases and fuel surcharges. Additionally, for the year ended December 31, 2005, all commodities, except grain, experienced increased traffic due to increased production. U.S. segment domestic grain carloads decreased, primarily due to a slowdown in equipment cycle times resulting in lower equipment availability for the year while the impact of local harvests moving to local feed mills reduced traffic in the third quarter of 2005 compared to the same period in 2004. Export grain carloads decreased primarily as a result of a decrease in gulf coast export traffic including the effects of hurricane weather in the gulf coast region. For the year ended


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December 31, 2005, the consolidation of Mexrail contributed $30.7 million to agricultural and mineral products revenue.
Intermodal and Automotive.  Revenue for the U.S. segment intermodal and automotive commodity group for the year ended December 31, 2005, increased $9.8 million compared to the same period in 2004. Excluding the impact of the acquisition of Mexrail, intermodal traffic declined for the year ended December 31, 2005. The declines were the result of changes in shipper traffic patterns as well as the effects of hurricane weather during the third quarter of 2005. Automotive traffic decreased as a result of decreased volumes from manufacturers for the year ended December 31, 2005. For the year ended December 31, 2005, the consolidation of Mexrail contributed $5.5 million to intermodal and automotive products revenue.
Coal.  Increases in U.S. segment coal revenues for the year ended December 31, 2005, compared to the same period in 2004 were due primarily to the addition of two new coal customers that were previously served by other railroads, certain targeted rate increases related to renegotiated contracts and overall increases in carloadings and traffic volumes at certain electric generating stations in response to demand. Mexrail has no significant coal revenues.
Operating Expenses.  For the year ended December 31, 2005, U.S. operating expenses increased $203.3 million (36.6%), when compared to the same period in 2004. Of this increase, $83.3 million was attributable to the consolidation of Mexrail’s operations for the year ended December 31, 2005. The following table summarizes U.S. operating expenses of KCSR and Mexrail for the year ended December 31, 2005(in millions).  For the year ended December 31, 2004, the operating expenses are KCSR only.
                                
     Change      Change 
 2005 2004 Dollars Percent  2009 2008 Dollars Percent 
Compensation and benefits $244.8  $213.0  $31.8   15% $328.8  $369.9  $(41.1)  (11)%
Purchased services  84.6   62.3   22.3   36%  171.3   209.1   (37.8)  (18)%
Fuel  123.8   66.4   57.4   86%  189.4   324.6   (135.2)  (42)%
Equipment costs  68.9   50.4   18.5   37%  164.1   178.6   (14.5)  (8)%
Depreciation and amortization  60.0   53.5   6.5   12%  182.5   168.6   13.9   8%
Casualties and insurance  88.7   42.4   46.3   109%  43.1   72.7   (29.6)  (41)%
Other  88.5   68.0   20.5   30%
Materials and other  132.8   138.4   (5.6)  (4)%
                  
Total operating expenses $759.3  $556.0  $203.3   37% $1,212.0  $1,461.9  $(249.9)  (17)%
                  
 
Compensation and benefits.  Increases in compensationCompensation and benefits expensedecreased $41.1 million for the year ended December 31, 2005,2009, compared to 2008, primarily due to labor reductions in response to declining carload/unit volumes, with further expense decreases in Mexico due to favorable fluctuations in the same period in 2004 were primarily the result of annual wage and salary rate increases which were effective July 1, 2004, as well as higher employee counts. For the year ended December 31, 2005, the consolidation of Mexrail added $19.4 million to compensation and benefits expense. The average headcount for the year ended December 31, 2005, was approximately 3,060 compared to approximately 2,740 for the same period in 2004, including an increase of employees as a resultvalue of the consolidationU.S. dollar against the value of Mexrail.the Mexican peso.
 
Purchased services.  Purchased services expensedecreased $37.8 million for the year ended December 31, 2005, increased2009, compared to the same period in 2004,2008, primarily due to lower locomotive maintenance expense as a result of fewer locomotives in service, newer fleet and renegotiated maintenance contracts. Corporate expenses decreased as a result of cost containment measures. In addition, the consolidationCompany recognized a deferred credit of Mexrail’s operations. Mexrail has historically contracted for services$6.1 million related to the partial cancellation of a maintenance contract in the maintenance of equipment and way and structures. Accordingly, Mexrail contributed $19.72009.
Fuel.  Fuel expense decreased $135.2 million to purchased services expense for the year ended December 31, 2005.
Fuel.  Fuel expense increased for the year ended December 31, 2005,2009, compared to the same period in 2004. This increase was the result of a 50.5% increase in the average price per gallon, as well as a 26.0% increase in consumption. For the year ended December 31, 2005, the consolidation of Mexrail added $11.9 million2008, primarily due to lower diesel fuel expense.prices, lower consumption driven by decreased carload/unit volumes, and increased fuel efficiency.
 
Equipment costs.  Equipment costs decreased $14.5 million for the year ended December 31, 2005, increased2009, compared to 2008 primarily due to a decrease in the same period in 2004. Of this increase, $15.2 million was related to the Mexrail acquisition for the year ended


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December 31, 2005. Excluding the impactuse of the Mexrail acquisition, equipment costs increased for the year ended December 31, 2005, primarily as a result of increased equipment lease costs related to higher traffic levels and demand.other railroads’ freight cars.
 
Depreciation and amortization.  Depreciation and amortization expense for the year ended December 31, 2005, increased compared to the same period in 2004, primarily as a result of a higher asset base, partially offset by property retirements. For the year ended December 31, 2005, the consolidation of Mexrail added $3.5 million to depreciation and amortization expense.
Casualties and insurance.  During the third quarter of 2005, the Company recorded a $37.8 million pre-tax charge reflecting changes in its estimates for the cost of personal injury claims, which includes $7.5 million related to the Company’s first actuarial estimate of the cost of incurred but not reported occupational illness claims. The charge was recorded in “Casualties and Insurance” expense. The majority of the increases for FELA and third party claims are attributable to adverse experience versus the study, including an increase in the number of new claims and adverse developments in the dollar amount of claims and potential settlements for many significant prior claims. Increase related to occupational illness claims resulted primarily from a first time actuarial study. The Company is continuing its practice of accruing monthly for estimated claim costs at levels recommended by the actuarial study, and those accruals have been increased accordingly.
Mexico Segment.
KCS acquired a controlling interest in KCSM effective April 1, 2005. The nine month period ended December 31, 2005, results reflect charges and costs associated with the acquisition and integration, as well as the effect of valuation adjustments as required by purchase accounting. Management evaluates the results of its Mexico operations based on its operating performance during the current year and comparison to plan.
Revenues.  The following table summarizes consolidated Mexico revenues, including the revenues(in millions)and carloads statistics(in thousands), for the nine month periods ended December 31, 2005 and 2004. Although not consolidated in previous years, revenue recognition policies for the Mexico operations were consistent with those of U.S. operations in all material respects; therefore, commodity statistics are presented for purposes of comparison. Unaudited results for the nine months ended December 31, 2004 are presented for comparative purposes.
                                 
  Revenues  Carloads and Intermodal Units 
        Change        Change 
  2005  2004  Dollars  Percent  2005  2004  Units  Percent 
 
General commodities:
                                
Chemical and petroleum $94.5  $94.7  $(0.2)  (0)%  71.4   76.5   (5.1)  (7)%
Forest products and metals  141.5   120.5   21.0   17%  147.3   143.3   4.0   3%
Agricultural and mineral  168.9   158.6   10.3   6%  152.4   162.1   (9.7)  (6)%
                                 
Total general commodities  404.9   373.8   31.1   8%  371.1   381.9   (10.8)  (3)%
Intermodal and automotive  131.9   130.3   1.6   1%  250.2   253.0   (2.8)  (1)%
                                 
Carload revenues, units and intermodal units  536.8   504.1   32.7   6%  621.3   634.9   (13.6)  (2)%
                                 
Other revenue  10.8   6.4   4.4   69%                
                                 
Total revenues $547.6  $510.5  $37.1   7%                
                                 
Revenues for the nine months ended December 31, 2005, totaled $547.6 million compared to $510.5 million for the same period in 2004, an increase of $37.1 million. This increase was primarily attributable to the impact of fuel surcharges of $23.9 million which increased $21.5 million over the nine months ended December 31, 2004, and increases in other factors of $15.6 million.
Chemical and Petroleum.  Revenues from chemical and petrochemical products during the nine months ended December 31, 2005, decreased from the same period in 2004 primarily due to disruptions related to the


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impact of hurricanes offset by increases in Mexican domestic revenues for the same period, primarily related to the higher consumption of fuel products.
Forest Products and Metals.  Domestic revenues increased during the nine months ended December 31, 2005, as a result of an increase in the production volumes of construction materials such as billets, bar and wire. Steel slab and steel coils revenue decreased as a result of lower international traffic, related to reduced consumption by manufacturing industries offset in part by certain targeted rate increases and fuel surcharges.
Agriculture and Mineral.  Revenues from agriculture products increased during the nine months ended December 31, 2005, compared to the same periods in 2004. The increases were primarily the result of targeted rate increases and fuel surcharges. Volume increases were seen in corn and sugar partially offset by reductions in import shipments of soybeans, sorghum and wheat products during the same 2005 period.
Intermodal and Automotive.  Intermodal freight revenue increased $1.6 million for the nine month period ended December 31, 2005, compared to the same period in 2004. This increase was primarily attributable to the consolidation of steamship service at the port of Lázaro Cárdenas with the support of the port administration and Hutchinson Terminal. Automotive revenues for the nine month period ended December 31, 2005, decreased primarily as a consequence of lower domestic traffic offset by targeted increases in rates.
Operating Expenses.  Mexico operations reported operating expenses of $530.3 million in the nine months ended December 31, 2005. The following table summarizes operating expenses of KCSM for the nine months ended December 31(in millions):
                 
        Change 
  2005  2004  Dollars  Percent 
 
Compensation and benefits $95.6  $87.2  $8.4   10%
Purchased services  108.7   120.5   (11.8)  (10)%
Fuel  83.1   65.3   17.8   27%
Equipment costs  80.9   66.9   14.0   21%
Depreciation and amortization  67.7   66.6   1.1   2%
Casualties and insurance  14.7   9.7   5.0   52%
KCSM employees’ statutory profit sharing  41.1   (2.1)  43.2   (2,057)%
Other  38.5   23.8   14.7   62%
                 
Total operating expenses $530.3  $437.9  $92.4   21%
                 
Compensation and benefits.  Salary expenses increased $8.4 million for the nine months ended December 31, 2005 compared to the same period in 2004. The increase was largely attributable to the net effects of annual salary increases (4% in June 2005) and the increase in wages and fringe benefits as a result of our labor agreement revision in July 2005 (4.5% in wages and 2% in fringe benefits).
Purchased services.  Costs of purchased services decreased by $11.8 million for the nine months ended December 31, 2005 compared to the same period in 2004. Costs of purchased services consist primarily of expenses related to equipment maintenance, haulage, terminal services, security expenses and legal expenses. The decrease includes the effect of establishing a fair market value for locomotive maintenance agreements under purchase accounting of $4.9 million. As a result of the acquisition of Grupo KCSM, Management fee agreements were cancelled, resulting in a reduction of expenses. Additionally, lower legal costs related to the VAT refund claim and a lower cost of expatriates as a result of a personnel restructuring program contributed to the decrease.
Fuel.  Fuel expenses increased for the nine months ended December 31, 2005 compared to the same period in 2004 primarily due to the volatility of fuel prices during 2005 and higher fuel consumption compared to 2004.
Equipment cost.  Equipment cost increased for the nine months ended December 31, 2005 compared to the same period in 2004. The variance is attributable principally to an increase in the number of hours and


39


number of movement miles in 2005 compared to 2004 for current traffic. Additionally the increase includes the effect of purchase accounting under which KCSM established a fair market value for all the operating leases for locomotives and freight cars. This, along with a higher number of freight cars leased for the nine months ended December 31, 2005 compared to 2004, resulted in higher rental expense.
Depreciation and amortization.  Depreciation and amortization expenses in 2005 increased for the nine months ended December 31, 2005 compared to the same period in 2004. This increase includes the effects of purchase accounting, whereby the book values of assets were adjusted upward based on a market value appraisal along with capital improvements to the lines resulting in additional depreciation and amortization. This increase was offset by the effect of changes in the estimated useful lives on properties, machinery and equipment resulting in a lower depreciation expense in 2005.
Casualties and insurance.  These expenses increased for the nine months ended December 31, 2005 compared to the same period ended in 2004. These increases were primarily the result of costs associated with derailments that occurred over the nine months ending in 2005. This increase was partially offset by a reduction in the insurance premiums compared to 2004.
Employees’ statutory profit sharing.  The increase in the employees’ statutory profit sharing for the nine months ended December 31, 2005 compared to the same period in 2004 was a result of recent Mexican Supreme Court decisions in May 2005 denying the deductibility of NOL’s in calculating the Company’s employees’ profit sharing liability. As part of purchase accounting, KCS valued the profit sharing NOL asset at zero as a result of the court rulings and wrote off the deferred profit sharing asset associated with these NOL’s. This resulted in a charge to income of $35.6 million.
Other.  For the nine months ended December 31, 2005, these expenses increased compared to the same period ended December 31, 2004. The increase was primarily due to the reduction in value of certain assets after purchase accounting as well as management’s decision to increase the allowance for doubtful customer accounts based upon current prospects for collection of certain customer accounts.
Consolidated Non-Operating Expenses.
Consolidated Interest Expense.  Consolidated interest expense increased $89.1 million for year ended December 31, 2005, when compared to the twelve months ended December 31, 2004. This increase was the result of higher floating interest rates incurred under the credit agreement, increased borrowings under the revolving credit facility, interest associated with the debt assumed as part of the locomotive acquisition from El-Mo and the addition of interest expense of $71.4 million for the nine months ended December 31, 2005, due to the acquisition of KCSM and $1.1 million for the twelve months ending December 31, 2005, due to the acquisition of Mexrail.
Consolidated Debt Retirement Costs.  Consolidated debt retirement costs increased $0.2$13.9 million for the year ended December 31, 2005, when2009, compared to 2008, primarily due to a larger asset base, partially offset by the same periodimpact of lower rates based on the scheduled depreciation study in 2004. For2009 and a change in the estimated useful lives of certain Mexico concession assets.
Casualties and insurance.  Casualties and insurance expenses decreased $29.6 million for the year ended December 31, 2005, $4.42009, compared to 2008, primarily due to fewer derailments and lower average cost per derailment. In addition, the Company reduced the personal injury reserve, reflecting favorable claims experience.
Materials and other.  Materials and other decreased $5.6 million in unamortized debt issuance costs were written off primarily in connection with the refinancing of KCSM’s 11.75% debentures and its First Amended and Restated Credit Agreement dated as of June 24, 2004. During thefor year ended December 31, 2004, KCS recorded $4.2 million2009, compared to 2008, primarily due to lower employee expenses and lower materials and supplies used for the maintenance of debt retirement costs resulting from the write-offtrack and locomotives. The decrease was partially offset by legal settlements in 2009. In addition, 2008 included a reduction of the unamortized balance of debt issuance costs associated with the previous credit facility.a legal reserve.


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Non-Operating Expenses
 
Equity in Net Earnings (Losses) of Unconsolidated Affiliates.  ForEquity in earnings from unconsolidated affiliates was $7.7 million and $18.0 million for the yearyears ended December 31, 2005, equity in earnings from other unconsolidated affiliates was $3.9 million compared to equity in losses from other unconsolidated affiliate of $2.1 million for the same period of 2004.2009 and 2008, respectively. Significant components of this change were as follows:
 
 • For the year ended December 31, 2005, equityEquity in lossesearnings from the operations of PCRC was $1.7 million, compared to $2.1$2.9 million for the same periodyear ended December 31, 2009, compared to $8.2 million for 2008. The decrease is primarily due to a reduction in 2004.container volume attributable to the downturn in the economy.
 
 • For the year ended December 31, 2005, equityEquity in earnings of Southern Capital was $2.8 million, compared to $2.7$3.5 million for the same periodyear ended December 31, 2009, compared to $5.1 million for 2008. The decrease is primarily due to the loss on sale of railcars and other equipment in 2004.2009, lower lease income due to lease expirations and larger casualties expense recorded in 2009.
• KCSM’s equity in earnings of FTVM was $1.3 million for the year ended December 31, 2009, compared to $4.7 million for 2008. The decrease is primarily due to the decline in volume due to the downturn in the Mexican economy and a favorable adjustment related to negotiations of a maintenance agreement recorded in 2008.
Interest Expense.  Interest expense increased $34.8 million for the year ended December 31, 2009, compared to 2008, primarily due to higher debt balances and average interest rates. In 2009 and 2008, the Company recorded interest expense reductions as a result of various tax-related settlements and in 2009 recognized interest expense from an unfavorable outcome related to a legal dispute.
Debt Retirement Costs.  Debt retirement costs increased $0.3 million for the year ended December 31, 2009, compared to the year ended December 31, 2008. In January 2009, KCSR redeemed its 71/2% Senior Notes due June 15, 2009 and expensed $5.3 million for cash tender offer expenses and unamortized debt issuance costs. In addition, in March of 2009, KCSM repaid all amounts outstanding under the 2007 KCSM Credit Agreement and upon termination, wrote-off the unamortized debt issuance cost related to this debt. In May 2008, KCSR redeemed its 91/2% Senior Notes due October 1, 2008 and expensed $5.6 million for cash tender offer expenses and unamortized debt issuance costs.
Foreign Exchange.  For the years ended December 31, 2009 and 2008, the foreign exchange was a gain of $2.1 million and a loss of $21.0 million, respectively, primarily due to fluctuations in the value of the U.S. dollar versus the value of the Mexican peso.
Other Income, net.  Other income, net, decreased $0.8 million for the year ended December 31, 2009 compared to the same period in 2008, primarily due to decreases in royalty, interest and dividend income, partially offset by gains on sale of property.
Income Tax Expense.  For the year ended December 31, 2009, the Company’s income tax expense was $34.6 million, a decrease of $29.9 million as compared to $64.5 million for the year ended December 31, 2008. The effective tax rate was 33.4% and 25.9% for the years ended December 31, 2009 and 2008, respectively. The changes in income tax expense and the effective tax rate were due to lower pre-tax income in 2009, a shift in the composition of income in different taxing jurisdictions, foreign exchange rate fluctuations and a change in Mexican tax rates for tax years 2010 through 2013.


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Year Ended December 31, 2008, compared with the Year Ended December 31, 2007
The following summarizes the consolidated income statement components of KCS(in millions):
                 
        Change 
  2008  2007  Dollars  Percent 
 
Revenues $1,852.1  $1,742.8  $109.3   6%
                 
Operating expenses  1,461.9   1,380.4   81.5   6%
                 
Operating income  390.2   362.4   27.8   8%
Equity in net earnings of unconsolidated affiliates  18.0   11.4   6.6   58%
Interest expense  (138.9)  (156.7)  17.8   (11)%
Debt retirement costs  (5.6)  (6.9)  1.3   (19)%
Foreign exchange loss  (21.0)  (0.9)  (20.1)  2,233%
Other income, net  6.0   12.0   (6.0)  (50)%
                 
Income before income taxes and noncontrolling interest  248.7   221.3   27.4   12%
Income tax expense  64.5   67.1   (2.6)  (4)%
                 
Net income  184.2   154.2   30.0   19%
Noncontrolling interest  0.3   0.4   (0.1)  (25)%
                 
Net income attributable to Kansas City Southern and subsidiaries $183.9  $153.8  $30.1   20%
                 
Revenues
The following summarizes revenues(in millions)and carload/unit statistics(in thousands)and revenue per carload/unit.
                                     
  Revenues  Carloads and Units  Revenue per Carload/Unit 
  2008  2007  % Change  2008  2007  % Change  2008  2007  % Change 
 
Chemical and petroleum $347.8  $320.4   9%  240.2   228.3   5% $1,448  $1,403   3%
Industrial and consumer products  508.6   501.1   1%  367.6   393.8   (7)%  1,384   1,272   9%
Agriculture and minerals  455.0   403.7   13%  293.3   297.9   (2)%  1,551   1,355   14%
                                     
Total general commodities  1,311.4   1,225.2   7%  901.1   920.0   (2)%  1,455   1,332   9%
Coal  203.7   193.0   6%  301.3   314.1   (4)%  676   614   10%
Intermodal  160.6   143.1   12%  520.9   526.4   (1)%  308   272   13%
Automotive  105.6   110.9   (5)%  101.6   108.4   (6)%  1,039   1,023   2%
                                     
Subtotal  1,781.3   1,672.2   7%  1,824.9   1,868.9   (2)% $976  $895   9%
                                     
Other revenue  70.8   70.6                            
                                     
Total revenues(i) $1,852.1  $1,742.8   6%                        
                                     
(i) Included in revenues:                                    
Fuel surcharge $200.3  $133.2                             
                                     
For the year ended December 31, 2008, revenues increased $109.3 million compared to the prior year, primarily due to targeted rate increases, increased fuel surcharge, and new business opportunities partially offset by an overall decrease in carload/unit volumes. A large portion of the volume decrease in 2008 was


35


realized in the fourth quarter resulting from the downturn in the economy. The effect of fluctuations in the value of the U.S. dollar against the value of the Mexican peso was not significant for the year ended December 31, 2008.
KCS’s fuel surcharge is a mechanism to adjust revenue based upon changing fuel prices. Fuel surcharges are calculated differently depending on the type of commodity transported. For most commodities, fuel surcharge is calculated using a fuel price from a prior time period that can be as much as 60 days earlier. In a period of volatile fuel prices or changing customer business mix, changes in fuel expense and fuel surcharge may significantly differ.
The following discussion provides an analysis of revenues by commodity group.
Revenues by commodity
group for 2008


     Chemical and petroleum.  Revenues increased $27.4 million for the year ended December 31, 2008, due to targeted rate increases, fuel surcharge increases, and increased traffic volumes from new business primarily in plastic products.
                
Industrial and consumer products.  Revenues increased $7.5 million for the year ended December 31, 2008 primarily due to higher demand in the metals and scrap from coil and pipe products as well as new business, targeted rate increases, and fuel surcharge increases. These increases were partially offset by decreases in volume due to the declining housing market which impacted forest products and declines in beer export volume from Mexico reflected in other products due to a large beer producer relocating to an area not served by the KCS network in the first quarter of 2008.
                 
Agriculture and minerals.  Revenues increased $51.3 million for the year ended December 31, 2008, driven by targeted rate increases, fuel surcharge increases and increased length of haul of cross border traffic from customers moving their business from various competitors onto the KCS network. Grain accounted for the majority of the revenue increase even with alater-than-forecasted harvest decreasing volume. This volume decrease was partially offset by increased traffic in ores and minerals, particularly in rock and sand products, due to the strong energy sector.
                
Coal.  Revenues increased $10.7 million for the year ended December 31, 2008, due to an increase in fuel surcharge participation, increased length of haul, rate increases, and improved system velocity on coal trains in the second half of 2008. The increase was partially offset by lower volumes during the first half of 2008 due to higher stockpile levels, utility customer maintenance outages, and adverse weather in the Midwest affecting deliveries.
Intermodal.  Revenues increased $17.5 million for the year ended December 31, 2008, driven by targeted rate increases and fuel surcharge increases. Volumes of imports and exports of intermodal containerized business originating and terminating at the Port of Lazaro Cardenas increased and were offset by decreases in automotive related traffic (parts distribution) as well as certain haulage business.
Automotive.  Revenues decreased $5.3 million for the year ended December 31, 2008. Decreases were driven by the overall downturn in the automotive industry as higher cost of fuel and tightening credit markets have automobile manufacturers re-tooling factories to build more fuel efficient vehicles as well as developing programs to incent the purchase of new cars. The overall decrease was partially offset by targeted rate increases and new longer haul traffic in the first half of 2008.


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Operating expenses
For the year ended December 31, 2008, operating expenses increased $81.5 million. The effect of fluctuations in the value of the U.S. dollar against the value of the Mexican peso was not significant for the year ended December 31, 2008. The following summarizes the Company’s operating expenses(in millions).Certain prior period amounts have been reclassified to conform to the current year presentation.
                 
        Change 
  2008  2007  Dollars  Percent 
 
Compensation and benefits $369.9  $384.0  $(14.1)  (4)%
Purchased services  209.1   198.4   10.7   5%
Fuel  324.6   270.2   54.4   20%
Equipment costs  178.6   184.6   (6.0)  (3)%
Depreciation and amortization  168.6   159.0   9.6   6%
Casualties and insurance  72.7   69.3   3.4   5%
Materials and other  138.4   114.9   23.5   20%
                 
Total operating expenses $1,461.9  $1,380.4  $81.5   6%
                 
Compensation and benefits.  Compensation and benefits decreased $14.1 million for the year ended December 31, 2008, compared to 2007. Increases due to annual wage and salary rate increases and severance obligations were offset by lower share-based compensation expense as a result of forfeitures, decreases in incentive compensation and an increase in capitalized overhead rates based on updated studies.
Purchased services.  Purchased services increased $10.7 million for the year ended December 31, 2008, compared to 2007, primarily due to an increase in locomotive maintenance expense in Mexico, equipment and track structure maintenance expenses, corporate expenses and switching costs.
Fuel.  Fuel expense increased $54.4 million for the year ended December 31, 2008, compared to 2007, primarily due to higher diesel fuel prices, partially offset by lower consumption in certain parts of the network and increased fuel efficiency driven primarily by older locomotives being replaced with new locomotives through a strategic initiative in 2007 and 2008.
Equipment costs.  Equipment costs decreased $6.0 million for the year ended December 31, 2008, compared to 2007, due to a decrease in the use of other railroads’ freight cars.
Depreciation and amortization.  Depreciation and amortization increased $9.6 million for the year ended December 31, 2008, compared to 2007, primarily due to a larger asset base.
Casualties and insurance.  Casualties and insurance expenses increased $3.4 million for the year ended December 31, 2008, compared to 2007, primarily due to the lower expense in 2007 from a favorable reinsurance litigation settlement received in the second quarter of 2007, and damages caused by the hurricanes in the third quarter of 2008, partially offset by decreases in personal injury and derailment expenses.
Materials and other.  Materials and other increased $23.5 million for year ended December 31, 2008, compared to 2007, due to increased materials and supplies used for the maintenance of freight cars and locomotives and lower sales and use tax in the first quarter of 2007 as a result of a favorable tax ruling.
Non-Operating Expenses
Equity in Net Earnings of Unconsolidated Affiliates.  Equity in earnings from unconsolidated affiliates was $18.0 million and $11.4 million for the years ended December 31, 2008 and 2007, respectively. Significant components of this change were as follows:
• Equity in earnings from the operations of PCRC was $8.2 million for the year ended December 31, 2008, compared to $3.7 million in 2007. The increase is primarily due to increased freight revenue driven by higher volume from new and existing customers.


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 • ForEquity in earnings of Southern Capital was $5.1 million for the nine monthsyear ended December 31, 2005, 2008, compared to $4.8 million in 2007. The increase is primarily attributed to increased lease income as well as a reduction in interest and administrative expenses.
• KCSM’s equity in earnings of Ferrocarril y Terminal del Valle de México, S.A. de C.V. (“FTVM”)FTVM was $4.7 million for the year ended December 31, 2008, compared to $2.9 million.million in 2007. The increase primarily reflects reduced maintenance expense in 2008 and a non-recurring prior year loss recorded in 2007.
 
For 2005, earningsInterest Expense.  Interest expense decreased $17.8 million for Southern Capital were $13.1 millionthe year ended December 31, 2008, compared to $11.8the same period in 2007, primarily due to lower interest rates related to debt refinancing as well as lower accrued interest for various tax related matters as a result of certain settlements in the second quarter of 2008.
Debt Retirement Costs.  Debt retirement costs decreased $1.3 million for the year ended December 31, 2008, compared to the year ended December 31, 2007. In May 2008, KCSR redeemed its 91/2% Senior Notes due October 1, 2008 and expensed $5.6 million for cash tender offer expenses and unamortized debt issuance costs. In June of 2007, KCSM redeemed its 121/2% Senior Notes due 2012 and entered into a new bank credit agreement. The charge of $16.7 million for the call premium and the write-off of unamortized debt issuance costs associated with the extinguished debt was partially offset by the $9.8 million write off of the unamortized purchase accounting fair value effect related to the 121/2% Senior Notes.
Foreign Exchange.  For the years ended December 31, 2008 and 2007, the foreign exchange loss was $21.0 million and $0.9 million, respectively, primarily due to fluctuations in the value of the U.S. dollar versus Mexican peso exchange rates and a cumulative post-acquisition loss of $2.9 million in 2004. This increase of $1.3 millionthe fourth quarter, which was primarily the result of a gain recognized by Southern Capitalanout-of-period adjustment related to certain unsettled transactions recorded prior to 2004.
Other Income, net.  Other income, net, decreased $6.0 million for the saleyear ended December 31, 2008 compared to the same period in 2007, primarily due to lower interest and dividend income, and fewer gains on sales of locomotivesland in 2005 of approximately $7.7 million2008 as compared to $6.0 millionthe same period in 2004. The sales of locomotives were to KCSR in the second quarters of 2005 and 2004, respectively. For purposes of recording its share of Southern Capital earnings, the Company has recorded its share of the gain as a reduction to the cost basis of the equipment acquired. As a result, the Company will recognize its equity in the gain over the remaining depreciable life of the locomotives as a reduction of depreciation expense.2007.
 
Consolidated Income Tax Provision (Benefit).Expense.  For the year ended December 31, 2005, KCS’s2008, the Company’s income tax benefitexpense was $7.1$64.5 million, a changedecrease of $30.7$2.6 million as compared to a $23.6$67.1 million expense for the year ended December 31, 2004. This change was primarily due to the complexities relating to Mexico taxes resulting in an2007. The effective income tax rate of (9.3%)was 25.9% and 49.1%30.3% for the years ended December 31, 20052008 and 2004,2007, respectively. The primary causes of the decreasereduction in the consolidatedyear-over-year effective rate were the VAT/Put Settlement, the utilization of U.S. tax credits enacted for the tax year 2005, a lower Mexican statutory tax rate of 30% as compared to U.S. statutory rate of 35%, andreflects changes in foreign exchange rate fluctuations and inflation. The VAT/Put Settlement gain was not taxable in Mexico and is not expected to be taxable for U.S. incomerates partially offset by a tax purposes. The Company believes, based upon opinions of outside legal counsel and other factors, that the VAT/Put Settlement should not be taxable to KCS for U.S. income tax purposes. Such position has not been examinedasset valuation allowance recorded by taxing authorities and it is possible that this position could be challenged. The amount of such tax would be material; however the Company believes that it would have the right to indemnification under the terms of the Acquisition Agreement.
Following the acquisition of control of Grupo KCSM in 2005, the Company has not provided U.S. federal income taxes on the undistributed earnings of Grupo KCSM since the Company intends to reinvest such earnings indefinitely outside of the United States.during 2008.
 
LIQUIDITY AND CAPITAL RESOURCES
 
Overview
 
KCS’sKCS’ primary uses of cash are to support operations; maintain and improve its railroad and information systems infrastructure;railroad; pay debt service and preferred stock dividends; acquire new and maintain existing locomotives, rolling stock and other equipment; and meet other obligations. SeeKCS’ cash flow from operations has historically been sufficient to fund operations, maintenance capital expenditures and debt service. External sources of cash (principally bank debt, public and private debt, preferred stock and leases) have been used to refinance existing indebtedness and to fund acquisitions, new investments and equipment additions. Due to the downturn in the economy and the timing of debt refinancing activities, the Company utilized $112.4 million of cash and cash equivalents during the year ended December 31, 2009 — see “Cash Flow Information and Contractual Obligations”Information” below. On December 31, 2009, total available liquidity (the unrestricted cash balance plus revolving credit facility availability) was approximately $203 million.
 
The Company believes, based on current expectations, that cash and other liquid assets, operating cash flows, access to debt and equity capital markets, and other available financing resources will be sufficient to fund anticipated operating, capital and debt service requirements and other commitments in the foreseeable future. The Company intends to repay the outstanding balance of $40.0 million under the KCSR revolving credit facility prior to its scheduled maturity date of April 28, 2011. KCS has no significant scheduled debt maturities until 2012.


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As of December 31, 2009, KCS has a Debt/Equitydebt capitalization ratio (total debt as a percentage of 52.6total debt plus total equity) of 45.8 percent. Its primary sources of liquidity are cash flows generated from operations, borrowings under its revolving credit facilitiesfacility and access to debt and equity capital markets. Although KCS has had excellentadequate access to the capital markets, as a highly leveragednon-investment grade company, the financial terms under which funding is obtained often contain restrictive covenants. The covenants constrain financial flexibility by restricting or prohibiting certain actions, including the ability to incur additional debt for any purpose other than refinancing existing debt, create or suffer to exist additional liens, make prepayments of particular debt, pay dividends on common stock, make capital investments, engage in transactions with stockholders and affiliates, issue capital stock, sell certain assets, and engage in mergers and consolidations or in sale-leasebacksale leaseback transactions. OnThese restrictions, however, are subject to a number of qualifications and exceptions that provide the Company with varying levels of additional borrowing capacity. The Company was in compliance with all of its debt covenants as of December 31, 2006, total available liquidity (the unrestricted cash balance plus revolving credit facility availability) was $144 million.2009.
 
As a result of KCS acquiring a controlling interest in Grupo KCSM and KCSM, both companies became subject to the terms and conditions of the indentures governing KCSR’s two senior notes issues. The restrictive covenants of these indentures limit the ability of Grupo KCSM and KCSM to incur additional debt for any purpose other than the refinancing of existing debt and certain new asset financing.
During 2006 KCS’ ability to access capital markets was affected by the late filing of the Company’s annual report onForm 10-K for the year ended December 31, 2005. This late filing also caused defaults under the Company’s credit agreements due to the Company’s failure to meet certain reporting requirements. Additionally, the Company’s ability to incur additional indebtedness and pay cash dividends was restricted by


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the Company’s failure to comply with certain financial ratios under its indentures and credit agreements. A consequence of the late filing of the Company’s annual report onForm 10-K for the year ended December 31, 2005 and its failure to pay dividends on preferred stock was that its ability to quickly access the public equity markets has been reduced significantly, since KCS did not qualify as a “well-known seasoned issuer” and also cannot utilize the short-form registration statement onForm S-3. KCS paid accrued and unpaid and current dividends on its outstanding 4% Preferred Stock, Series C Preferred Stock and Series D Preferred Stock on February 15, 2007, and believes it will become a well-known seasoned issuer and again be eligible to use short-form registration onForm S-3 on May 1, 2007, as described below in “Shelf Registration Statements and Public Securities Offerings.” KCS sought and obtained amendments and waivers for each of these defaults in 2006.
The Company believes, based on current expectations, that cash and other liquid assets, operating cash flows, access to capital markets, and other available financing resources will be sufficient to fund anticipated operating, capital and debt service requirements and other commitments through 2007. However, KCS’ operating cash flowresults and financing alternatives can be unexpectedly impacted by various factors, some of which are outside of its control. For example, if KCS was to experience a substantial reduction in revenues or a substantial increase in operating costs or other liabilities, its operating cash flowsearnings could be significantly reduced.reduced, increasing the risk of non-compliance with debt covenants. Additionally, the Company is subject to economic factors surrounding debt and equity capital markets and its ability to obtain financing under reasonable terms is subject to market conditions. Volatility in capital markets and the tightening of market liquidity could impact KCS’ access to capital. Further, KCS’ cost of debt can be impacted by independent rating agencies, which assign debt ratings based on certain factors including credit measurements such as interest coverage and leverage ratios.ratios, liquidity and competitive position.
 
As of December 31, 2006, Standard & Poor’s Rating ServiceServices (“S&P”) ratedrates the senior secured debt as BB−BB-, ourthe senior unsecured debt as B−B+, and the preferred stock as D.CCC. S&P also maintainedmaintains a corporate rating on KCS of B and had a negative outlook.recently improved the Company’s outlook to stable. Moody’s InvestorInvestors Service (“Moody’s”) ratedrates the senior secured debt as Ba2, the senior unsecured debt as B3B2, and the preferred stock as Caa1.B3. Moody’s also maintainedmaintains a probabilitycorporate rating of default rating onB1 for KCS ofand B2 for KCSM and had a stable outlook. On February 8, 2007, S&P changedrecently improved the Company’s outlook from negative to stable and on February 16, 2007, they upgraded the rating on the preferred stock from D to CCC.for all issuers.
 
Long TermLong-Term Debt and Credit Facility Activity.Activity
 
On March 1, 2006, KCS, KCSR and other KCS subsidiaries entered into a fourth waiver (the “Fourth Waiver”) of the credit agreement dated March 30, 2004 (the “2004 Credit Agreement”). Under the terms of the Fourth Waiver, which was to expire on April 30, 2006, the Lenders agreed to waive the requirement that KCS maintain a leverage ratio (as defined in the 2004 Credit Agreement) of not more than 5.00:1 for the quarter ended December 31, 2005, provided that such ratio did not exceed 5.50:1. The ratio did not exceed 5.50:1.Debt
 
On March 31, 2006, KCSM failed to meet certain reporting requirements under the 2005 KCSM Credit Agreement and had not met the leverage ratio covenant at the end of 2005. These failures resulted in defaults under the 2005 KCSM Credit Agreement and limited KCSM’s access to the revolving credit facility. On April 7, 2006, KCSM entered into an amendment and waiver (“Amendment and Waiver”) to the 2005 KCSM Credit Agreement. The 2005 KCSM Credit Agreement was amended to (i) exclude certain payment obligations accrued under two locomotive maintenance agreements and under a track maintenance rehabilitation agreement from the definition of Indebtedness, (ii) eliminate certain minimum and multiple borrowing thresholds for peso borrowings under the revolving credit facility and (iii) eliminate the reporting requirement to provide unaudited consolidated financial statements for the fourth fiscal quarter. The Amendment and Waiver also waived certain reporting requirements, including the requirement of KCSM to provide audited consolidated financial statements 90 days after the end of the 2005 fiscal year, provided such reports were delivered by April 30, 2006, and compliance with the Consolidated Leverage Ratio obligations of Section 7.1(c) of the 2005 KCSM Credit Agreement for the four quarters ending December 31, 2005, if compliance therewith was calculated without giving effect to the amendment to the definition of “Indebtedness” in the Amendment and Waiver,providedthat KCSM was in compliance therewith after giving effect to the Amendment and Waiver.


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KCSM is not currently in default under the 2005 KCSM Credit Agreement and currently has access to the revolving credit facility.
On April 7, 2006, KCS, KCSR and other KCS subsidiaries entered into a fifth waiver of the 2004 Credit Agreement (the “Fifth Waiver”). Under the terms of the Fifth Waiver, which was to expire on April 30, 2006, the Lenders agreed to waive the requirement of Section 5.03(b) that KCS furnish a copy of its 2005 annual audited financial statements by March 31, 2006, so long as KCS furnished such audited financial statements by April 30, 2006. The Company furnished such audited financial statements by that date.
On April 28, 2006, KCS, KCSR and the other subsidiary guarantors named therein entered into an amended and restated credit agreement (the “2006 Credit Agreement”), in an aggregate amount of $371.1 million with The Bank of Nova Scotia and other lenders named in the 2006 Credit Agreement. Proceeds from the 2006 Credit Agreement were used to refinance the 2004 Credit Agreement. The 2006 Credit Agreement consists of (a) a $125.0 million revolving credit facility with a letter of credit sublimit of $25.0 million and swing line advances of up to $15.0 million, and (b) a $246.1 million term loan facility. The maturity date for the revolving credit facility is April 28, 2011 and the maturity date of the term loan facility is April 28, 2013. The 2006 Credit Agreement contains covenants that restrict or prohibit certain actions, including, but not limited to, KCS’ ability to incur debt, create or suffer to exist liens, make prepayment of particular debt, pay dividends, make investments, engage in transactions with stockholders and affiliates, issue capital stock, sell certain assets, and engage in mergers and consolidations or in sale-leaseback transactions. In addition, KCS must meet certain consolidated interest coverage and leverage ratios. Failure to maintain compliance with the covenants could constitute a default which could accelerate the payment of any outstanding amounts under the 2006 Credit Agreement.
On October 23, 2006,January 14, 2009, pursuant to an offer to purchase, dated such date, KCSMKCSR commenced a cash tender offer and consent solicitation for any and all outstanding $150.0$200.0 million aggregate principal amount of its 10KCSR 71/42Senior Notessenior unsecured notes due 2007June 15, 2009 (the “KCSM 2007“71/2% Senior Notes”). The consent solicitation expired on November 3, 2006. KCSMKCSR received consents in connection with the tender offer and consent solicitation from holders of over 97%88% of the KCSM 200771/2% Senior Notes to amendNotes. On January 29, 2009, KCSR purchased the indenture under which the KCSM 2007 Senior Notes were issued (the “2007 Indenture”), to eliminate substantially all of the restrictive covenants included in the 2007 Indenture. The supplemental indenture relating to the KCSM 2007 Senior Notes containing the proposed changes (the “2007 Supplemental Indenture”) became effective on November 21, 2006. The tender offer expired at midnight, New York City time, on November 20, 2006 and KCSM purchased tendered notes on November 21, 2006, in accordance with the terms of the tender offer.offer with proceeds received in 2008 from the issuance of the $190.0 million 13.0% senior unsecured notes due December 15, 2013 (the “13.0% Senior Notes”), and other borrowings.
KCSM Debt
 
On November 21, 2006March 30, 2009, KCSM issued $175.0$200.0 million of new, unsecured, 71251/82% senior unsecured notes due 2013April 1, 2016 (the “KCSM 2013“121/2% Senior Notes”), which bear interest semiannually at a fixed annual rate of 121/2%. Proceeds from the issuance were used to purchase the $146.0 million of tendered KCSM 2007 Senior Notes and repay $29.0 million of term loans under the 2005 KCSM Credit Agreement.
On January 29, 2007, the Company commenced a consent solicitation to amend the indentures under which KCSR’s 9The 121/2% Senior Notes due 2008 (the “9were issued at a discount to par value, resulting in an $11.0 million discount and a yield to maturity of 1313/24% Notes”) and 7. The 121/2% Senior Notes due 2009are unsecured, unsubordinated obligations and rank pari passu in right of payment with KCSM’s existing and future unsecured, unsubordinated obligations. KCSM used a portion of the net proceeds from the offering to repay all amounts outstanding under KCSM’s unsecured credit agreement dated June 14, 2007 (the “7“2007 KCSM Credit Agreement”). Upon repayment of the outstanding amounts, KCSM terminated the 2007 KCSM Credit Agreement, effective March 30, 2009. The 121/2Notes”Senior Notes are redeemable at KCSM’s option in whole or in part on and together withafter April 1, 2013, at the 91/2% Notes, the “Notes”) were issued. The Company identified certain inconsistencies in the languagefollowing redemption prices (expressed as percentages of principal amount) plus any accrued and unpaid interest: 2013 — 106.250%, 2014 — 103.125%, 2015 — 100.000%. In addition, KCSM may redeem up to 35% of the indentures which prevented KCSnotes any time prior to April 1, 2012 from obtaining a coverage ratio of at least 2.00:1. The purposethe proceeds of the consent solicitation was to (i) resolve an inconsistencysale of capital stock in the inclusion of certain expenses, but not the income, of restricted subsidiaries in the calculation of the consolidated coverage ratio under the indentures, (ii) amend the definition of refinancing indebtedness to allow the inclusion of certain related premiums, interest, feesKCSM or KCS and expenses in permitted refinancing indebtedness and (iii) obtain waivers of any defaults arising from certain actions taken in the absence of such proposed amendments. On February 5, 2007, the Company obtained the requisite consents from the holders of each series of Notes to amend their respective indentures as described above and executed supplemental indentures containing such amendments and waivers.
On January 31, 2007, KCS provided written notice to the lenders under the 2006 Credit Agreement of certain representation and other defaults under the 2006 Credit Agreement arising from the potential defaults which existed under the KCSR indentures governing the Notes as described above. These defaults limitedare


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KCSR’s accessredeemable, in whole but not in part, at KCSM’s option at their principal amount, in the event of certain changes in the Mexican withholding tax rate. The 121/2% Senior Notes include certain covenants that restrict or prohibit certain actions.
On January 22, 2010, KCSM issued $300.0 million principal amount of 8.0% senior unsecured notes due February 1, 2018 (the “KCSM 8.0% Senior Notes”), which bear interest semiannually at a fixed annual rate of 8.0%. The notes were issued at a discount to par value, resulting in a $4.3 million discount and a yield to maturity of 81/4%. KCSM used the revolving credit facility.net proceeds from the issuance of the KCSM 8.0% Senior Notes and cash on hand to purchase $290.0 million in principal amount of the 93/8% senior unsecured notes due May 1, 2012 (the “93/8% Senior Notes”) tendered under an offer to purchase and pay all fees and expenses incurred in connection with the KCSM 8.0% Senior Notes offering and tender offer. The KCSM 8.0% Senior Notes are redeemable at KCSM’s option, in whole or in part, on and after February 1, 2014, at the following redemption prices (expressed as percentages of principal amount) plus any accrued and unpaid interest: 2014 — 104.000%, 2015 — 102.000%, 2016 — 100.000%. In its noticeaddition, KCSM may redeem up to 35% of default,the KCSM 8.0% Senior Notes any time prior to February 1, 2013 from the proceeds of the sale of capital stock in KCSM or KCS and are redeemable, in whole but not in part, at KCSM’s option at their principal amount, in the event of certain changes in the Mexican withholding tax rate. The KCSM 8.0% Senior Notes include certain covenants that restrict or prohibit certain actions.
On January 22, 2010, the Company also requested thatpurchased $290.0 million of the lenders waive these defaults. tendered 93/8% Senior Notes in accordance with the terms and conditions of the tender offer set forth in the offer to purchase using the proceeds received from the issuance of $300.0 million of the KCSM 8.0% Senior Notes. Additionally, on February 1, 2010, the Company repurchased $6.3 million of the 93/8% Senior Notes. KCSM recorded debt retirement costs of $14.9 million in the first quarter of 2010. The remaining 93/8% Senior Notes mature on May 1, 2012 and are redeemable by KCSM at its option.
Common Stock Issuance
On February 5, 2007,April 27, 2009, the Company entered into an ATM Equity Offeringsm Sales Agreement with Bank of America Merrill Lynch, Pierce, Fenner & Smith, Incorporated (the “ATM Equity Offering”), under which the Company received proceeds of $51.4 million (net of commission of $0.9 million and fees and other expenses of $0.2 million) from the issuance of 3,204,900 common shares, at a waiverweighted average sales price of such defaults from all$16.38. On July 31, 2009, the Company entered into a Common Stock Purchase Agreement with certain institutional investors in which the Company issued 1,125,308 shares of the lendersCompany’s common stock at a purchase price of $20.00 per share on August 3, 2009 for aggregate proceeds of $22.5 million. This completed the Company’s offering of shares under the 2006 CreditATM Equity Offering and Common Stock Purchase Agreement. The Company is currently not in default of the 2006 Credit Agreement and has access to the revolving credit facility.
 
Cash Flow Information and Contractual Obligations.Obligations
 
Summary cash flow data follows(in millions):
 
                        
 2006 2005 2004  2009 2008 2007 
Cash flows provided by (used for):                        
Operating activities $267.5  $178.8  $142.7  $292.9  $413.0  $367.8 
Investing activities  (166.0)  (289.5)  (376.8)  (346.4)  (538.0)  (366.8)
Financing activities  (53.6)  103.2   137.3   (58.9)  299.4   (24.5)
              
Net increase (decrease) in cash and cash equivalents  47.9   (7.5)  (96.8)  (112.4)  174.4   (23.5)
Cash and cash equivalents at beginning of year  31.1   38.6   135.4 
Cash and cash equivalents beginning of year  229.9   55.5   79.0 
              
Cash and cash equivalents at end of year $79.0  $31.1  $38.6 
Cash and cash equivalents end of year $117.5  $229.9  $55.5 
              
 
During 2006,2009, cash and cash equivalents decreased $112.4 million. Capital expenditures were partially offset by cash flows from operating activities, which decreased as a result of lower net income from reduced carload/unit volumes due to the consolidateddownturn in the economy. In addition, the Company repaid $319.1 million of debt and received net proceeds of $262.9 million from the issuance of common stock and the 121/2% Senior Notes. During 2008, cash positionand cash equivalents increased $47.9$174.4 million due to increasedimproved operating incomeperformance, net proceeds from the issuance of the 8.0% Senior Notes and the 13.0% Senior Notes, and loan proceeds received from


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financing locomotives, which waswere partially offset by additional payments for the acquisition of Grupo KCSM and the refinancing and repayment of debt. During 2005, the consolidated cash position decreased $7.5 million due to an increaseda higher level of capital expenditures. The primary sourcesexpenditures and redemption of cash were cash inflows from operating activities, the issuance and assumption of long-term debt, the issuance of preferred stock and borrowings under the revolving credit facilities. The primary uses of cash were for capital expenditures, investments in affiliates, repayment of long-term debt and the repurchase of KCS’ common stock.
KCS’ cash flow from operations has historically been positive and sufficient to fund operations, roadway capital expenditures, other capital improvements and debt service. External sources of cash (principally bank debt, public debt, preferred stock and leases) have been used to refinance existing indebtedness and to fund acquisitions, new investments and equipment additions.91/2% Senior Notes.
 
Operating Cash Flows.  The following summarizes consolidated operating cash flow information (in millions):
             
  2006  2005  2004 
 
Net income $108.9  $100.9  $24.4 
Depreciation and amortization  155.0   127.7   53.5 
Equity in undistributed losses (earnings) of unconsolidated affiliates  (7.3)  (2.9)  4.5 
VAT/put settlement gain     (131.9)   
Minority interest  0.3   (17.8)   
Distributions from unconsolidated affiliates  4.5   8.3   8.8 
Deferred income taxes  41.0   (17.3)  35.9 
KCSM employees’ statutory profit sharing  5.9   41.1    
Loss (gain) on sale of assets  (7.8)  1.0   (3.8)
Changes in working capital items  (24.5)  45.9   1.3 
Other, net  (8.5)  23.8   18.1 
             
Net cash flow provided by operating activities $267.5  $178.8  $142.7 
             
Net operating cash flows for 2006 increased $88.72009 decreased $120.1 million to $267.5$292.9 million. The decrease in operating cash flows was primarily a result of lower net income from reduced carload/unit volumes due to the downturn in the economy. Net operating cash flows for 2008 increased $45.2 million compared to $178.8 million in 2005. This$413.0 million. The increase in operating cash flows was primarily attributable to better operating performance and the consolidation of KCSM for twelve months in 2006 as compared to nine months in 2005. The increase was partially offset by changes in working capital balances relating to the timing of payments and receipts.


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Net operating cash flows for 2005 increased $36.1 million to $178.8 million largely due to the consolidation of KCSM which was partially offset by changes in working capital relating to the timing of payments and receipts.net income.
 
Investing Cash Flows.  Net investing cash outflows were $166.0$346.4 million and $289.5$538.0 million during 20062009 and 2005,2008, respectively. This $123.5$191.6 million decrease was relateddue to a reduced capital program in response to decreased capital expenditures, increased property sales and the receipt of the MSLLC investment from NS.
operating cash flows. Net investing cash outflows for 2005 decreased $87.32008 increased $171.2 million from 2004 due primarilyas compared to the investments in Mexrail and Grupo KCSM in 2004. During 2005, KCS2007, which was related to a higher level of capital expenditures increased $158.5 million, of which KCSM and Mexrail contributed $100.6 million.expenditures.
 
Financing Cash Flows.  Financing cash inflows were derivedgenerated from the issuance of long-term debt, including borrowings underproceeds from the revolving credit facilities, the issuance of preferred stockATM Equity Offering and Common Stock Purchase Program and proceeds from the issuance of common stock under employee stock plans. Financing cash outflows were used for the repayment of debt, the repurchase of KCS’ common stock, the payment of dividends on KCS’ preferred stock and the payment of debt and preferred stock issuance costs. Financing cash flows for 2006, 2005,2009, 2008, and 2004 were as follows:2007 are discussed in more detail below:
 
 • Financing cash outflows for 20062009 were $53.6$58.9 million. During 2009, the Company repaid $319.1 million of debt, including the purchase of the 71/2% Senior Notes and repayment of borrowings under the 2007 KCSM Credit Agreement. During the same period, the Company received net proceeds of $189.0 million from the issuance of the 121/2% Senior Notes. The net cash outflows from these refinancing activities were substantially offset by $73.9 million in proceeds from the issuance of common stock under the ATM Equity Offering and Common Stock Purchase Agreement.
• Financing cash inflows for 2008 were $299.4 million, resulting primarily from the repaymentissuance of shortdebt and long term debt, including amounts relatedthe financing of locomotive purchases, partially offset by the redemption of debt. During 2008, KCSR issued $275.0 million of 8.0% Senior Notes and used a portion of the proceeds from the issuance to redeem $200.0 million principal amount of the Grupo91/2% Senior Notes and the applicable premium and expenses associated with the redemption. Also during 2008, KCSR issued $190.0 million principal amount of 13.0% Senior Notes at a discount and used the net proceeds and other borrowings to purchase a portion of the 71/2% Senior Notes on January 29, 2009. KCSM acquisition,received $125.0 million during 2008 from financing locomotives purchased in late 2007 and the first half of 2008.
• Financing cash outflows for 2007 were $24.5 million, resulting primarily from the costs associated with refinancing debt.debt and preferred stock dividend payments. During 2007, KCSM issued $165.0 million of 73/8% senior unsecured notes and used the proceeds, together with a new $30.0 million term loan, to redeem the KCSM 121/2% Senior Notes due 2012 and pay the associated premium and expenses. KCSR entered into an amendment to its 2006 KCSCredit Agreement for a $75.0 million term loan facility and used the proceeds to reduce amounts outstanding under KCSR’s revolving credit facility under the 2006 Credit Agreement. KCSM entered into a new $371.1 million amended and restated credit agreement for a $30.0 million term loan facility and a revolving credit facility of up to $81.0 million. KCSM used the proceeds to repay all amounts outstanding under the previous credit agreement. KCS also borrowed2005 KCSM Credit Agreement, to refinance a net amountportion of $27.5 million under the Tex-Mex RRIF loan, repaid a net amount of $2.0 million under the KCSR revolving credit facility and repaid other amounts. KCSM issued $175.0 million of 71251/82senior unsecured notesSenior Notes due 2012, to pay costs associated with these refinancings and usedto pay the proceeds to purchase $146.0 millionremaining amounts outstanding in respect of itsthe KCSM’s 101/4senior unsecured notes and repay $29.0 million under its term loan facility. KCSM also used cash on hand to repay all amounts outstanding under its revolving credit facility.
• Financing cash flows for 2005 were $103.2 million, resulting primarily from borrowings under the revolving credit facilities. During 2005 KCS issued $210.0 million of preferred stock and the net proceeds were used to repurchase 9.0 million shares of KCS common stock. KCS also assumed debt under a purchase agreement for 75 locomotives, of which $24.3 million was outstanding at year end, borrowed $21.7 million under the Tex-Mex RRIF loan, and had borrowings of $92.0 million outstanding at year end under the KCSR revolving credit facility. KCSM issued $460.0 million of 93/8% senior unsecured notes, and entered into a $106.0 million credit facility. The proceeds from these last two financings were used by KCSM to repay $443.5 million of senior discount debentures, $31.0 million under a bridge loan, the remaining balance of $67.5 million under the previous credit facility and the costs associated with the transactions.
• Financing cash flows for 2004 were $137.3 million, resulting primarily from borrowings under a new $350.0 million credit agreement consisting of a $250.0 million term loan facility and a $100.0 million revolving credit facility. KCS used $100.0 million of the term loan to fund a portion of the escrow account under the acquisition of Grupo KCSM.Senior Notes.
 
 • Proceeds from the sale of KCS common stock pursuant to employee stock plans were $3.0 million, $8.6 million, $1.7 million and $7.4$0.7 million in 2006, 20052009, 2008, and 2004,2007, respectively.
 
 • Payment of preferred stock cash dividends were $4.3$11.0 million, $8.7$15.2 million and $8.7$23.3 million in 2006, 20052009, 2008, and 2004,2007, respectively. Dividends of approximately $0.2 million were paid each year on the 4.0% noncumulative preferred stock; approximately $2.1 million, $8.5$4.2 million and $8.5$15.0 million of dividends were paid in 2006, 20052008, and 2004,2007, respectively, on the Series C Preferred Stock;Stock which was redeemed during 2008; and approximately $2.0$10.8 million, $10.8 million, and $8.1 million of dividends were paid in 20062009, 2008, and 2007, respectively, on the Series D Preferred Stock. CumulativeAll cumulative dividends in arrears were paid February 15, 2007. Refer to Note 16 to the Consolidated Financial Statements in Item 8 of thisForm 10-K.


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Contractual Obligations.  The following table outlines the material obligations under long-term debt, operating leaseleases, and other contractual commitments on December 31, 20062009(in millions). Typically, payments for operating leases, other contractual obligations and interest on long-term debt are funded through operating cash flows. Principal payment obligations on long-term debt are typically refinanced by issuing new long-term debt.debt or equity. If operating cash flows are not sufficient, funds received from other sources, including borrowings under revolving credit facilities and proceeds from property and other asset dispositions might also be available. These obligations are customary transactions similar to those entered into by others in the transportation industry. KCS anticipates refinancing certain parts of the long-term debt prior to maturity.
 
                                        
 Payments Due by Period    Payments Due by Period   
   Less Than
 1-3
 3-5
      Less than
 1-3
 3-5
 More than
 
 Total 1 Year Years Years Thereafter  Total 1 Year Years Years 5 Years 
                    
Long-term debt (including interest and capital lease obligations)(i) $2,496.7  $243.4  $697.6  $351.0  $1,204.7 
Long-term debt (including interest and capital lease obligations) $2,701.6  $230.0  $770.6  $1,032.0  $669.0 
Operating leases  958.6   123.6   205.5   167.9   461.6   1,104.2   146.6   252.5   199.3   505.8 
Obligations due to uncertainty in income taxes  2.1      0.4   1.7    
Capital expenditures obligations(i)  379.0   121.0   258.0       
Other contractual obligations(ii)  508.7   89.3   130.6   94.8   194.0   422.3   53.8   104.4   80.1   184.0 
                      
Total contractual obligations $3,964.0  $456.3  $1,033.7   613.7  $1,860.3 
Total $4,609.2  $551.4  $1,385.9  $1,313.1  $1,358.8 
                      
 
 
(i)Includes current and long-term liability related to GrupoCapital expenditure obligations include minimum capital expenditures under the KCSM acquisition.Concession agreement.
 
(ii)Other contractual obligations include purchase commitments and certain maintenance agreements.
 
In the normal course of business, the Company enters into long-term contractual requirementscommitments for future goods and services needed for the operations of the business. Such commitments are not in excess of expected requirements and are not reasonably likely to result in performance penalties or payments that would have a material adverse effect on the Company’s liquidity.
 
The Company is party to threenine utilization leases covering 8882,084 railcars where car hire revenue as defined in the lease agreements is shared between the lessor and the Company. The leases expire at various times through 2011.2015. Amounts that may be due to lessors under these utilization leases vary from month to month based on car hire rental with the minimum monthly cost to the Company being zero. Accordingly, the utilization leases have been excluded from contractual obligations above.
 
The SCT requires KCSM to submit a five year capital expenditures plan every five years. The next five year plan will be submitted in 2012 for the years 2013 — 2017. KCSM expects to continue capital spending at current levels in future years and will continue to have capital expenditure obligations past 2012.
Off-Balance Sheet Arrangements.Arrangements
 
As further describedOn November 2, 2007, PCRC completed an offering of $100 million of 7.0% senior secured notes due November 2026 (the “Notes”). The Notes are senior obligations of PCRC, secured by certain assets of PCRC. KCS has pledged its shares of PCRC as security for the Notes. The Notes are otherwise non-recourse to KCS. The Company has agreed, along with Mi-Jack Products, Inc, (“Mi-Jack”), the other 50% owner of PCRC, to each fund one-half of any debt service reserve or liquidity reserve shortfall by PCRC, (reserves which were established by PCRC in Note 3 to the Consolidated Financial Statements in Item 8 of thisForm 10-K, KCSR holds a fifty percent interest in Southern Capital. Southern Capital’s principal operations are the acquisition and leasing of equipment including locomotives, rolling stock and other railroad equipment. On June 25, 2002, Southern Capital partially refinanced the outstanding balance of certain debt throughconnection with the issuance of 5.7% pass through trust certificates secured by allthe Notes). As of December 31, 2009, the locomotives and rolling stock owned by Southern Capital and rental payments payable by KCSR under the operating leases of the equipment owned by Southern Capital. As Southern Capital is a fifty percent owned joint venture accounted for under the equity method, this debt is not reflected in KCS’ Consolidated Balance Sheets which are included in Item 8Company’s portion of thisForm 10-K.
PCRC, as described in Note 3, has the concession to reconstruct and operate the Panama Canal Railway. Under the terms of a loan agreement with International Finance Corporation (“IFC”) the Company is a guarantor for up to $4.4 million of associated debt. Also, if PCRC terminates the concession contract without the IFC’s consent, KCS is a guarantor for up to half of the outstanding senior loans. reserve shortfall was $3.9 million. The Company is also a guarantor for up to $0.5 million of PCRC equipment loans and capital leases, and has issued twoa standby letter of credit in the amount of $3.9 million. The Company also has issued five irrevocable standby letters of credit totaling approximately $2.0$3.2 million to fulfill the Company’s fifty percent guarantee of a approximately $4.0 millionadditional equipment loan.loans at PCRC.


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Capital Expenditures.Expenditures
 
Capital improvements for roadway track structures have historically beenKCS has funded, and expects to continue to fund capital expenditures with funds from operating cash flows, from operations. During 2005, however, KCS used borrowings under its revolving credit facility to fund an expanded capital expenditure program. KCS has historically used internally generated cash flows or leasing for equipment capital expenditures. The Southern Capital joint venture provides the ability to lease-finance railroad equipment,leases, and therefore, KCS has increasingly used lease-financing alternatives for its locomotivesdebt and rolling stock.equity financing.
 
The following table summarizes cash capital expenditures by type for the consolidated operations for the yearyears ended December 31, 2006, KCSR2009, 2008, and Mexrail for the year ended 2005 and KCSM for the last nine months of 2005, and KCSR only for 20042007 respectively(in millions).
 
             
  2006  2005  2004 
 
Track infrastructure $100.4  $190.1  $57.2 
Locomotives, freight cars and other equipment  40.4   41.8   22.6 
Facilities and capacity projects  70.7   1.7   27.4 
Information technology  15.4   12.2   5.4 
Other  14.9   29.9   4.6 
             
Total capital expenditures $241.8  $275.7  $117.2 
             
             
  2009  2008  2007 
 
Roadway capital program $154.5  $243.8  $162.5 
Equipment  11.2   49.1   40.3 
Capacity  76.8   166.0   47.4 
Locomotive acquisitions     79.2   127.2 
Information technology  6.5   16.8   12.3 
Other  33.9   21.6   20.8 
             
Total capital expenditures (accrual basis)  282.9   576.5   410.5 
             
Change in capital accruals  66.3   (42.7)  (13.7)
             
Total cash capital expenditures $349.2  $533.8  $396.8 
             
 
InternallyFor 2010, internally generated cash flows are expected to be used to fund cash capital expenditures, planned for 2007, currently estimated at $270approximately $300.0 million.
 
Maintenance and Repairs.
KCSR and KCSM, like other railroads, are required to maintain their own property infrastructure. Portions of roadway and equipment maintenance costs are capitalized and other portions are expensed (as components of material and supplies, purchased services and others), as appropriate. Maintenance and capital improvement programs are in conformity with GAAP as well as with the standards recognized within the rail industry and related regulatory agencies. KCS expects to continue funding roadway and equipment maintenance expenditures with internally generated cash flows.
Capital Structure.Structure
 
Components of the capital structure follow(in millions):
 
         
  2006  2005 
 
Debt due within one year(i) $92.8  $116.3 
Long-term debt(ii)  1,664.2   1,744.3 
         
Total debt  1,757.0   1,860.6 
Stockholders’ equity  1,582.4   1,426.2 
         
Total debt plus equity $3,339.4  $3,286.8 
         
Debt ratio(total debt as a percent of total debt plus equity)
  52.6%  56.6%
         
  2009  2008 
 
Debt due within one year $68.1  $637.4 
Long-term debt  1,911.9   1,448.7 
         
Total debt  1,980.0   2,086.1 
Total equity  2,341.6   2,185.2 
         
Total debt plus total equity $4,321.6  $4,271.3 
         
(i)Includes current liability related to Grupo KCSM acquisition.
(ii)Includes long-term liability related to Grupo KCSM acquisition.
The consolidated debt ratio on December 31, 2006, improved 4.0 percentage points compared to December 31, 2005. Total consolidated debt decreased $103.6 million, primarily as a result of payments of $75.4 million of debt related to the Grupo KCSM acquisition and KCSM’s payments of $55.4 million on the revolver and term loans. These debt payments were offset by the issuance of $27.5 million on the Tex-Mex RRIF loan.


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Shelf Registration Statements and Public Securities Offerings.Offerings
 
KCS currently has threeone current shelf registration statementsstatement on file with the SEC (“Initial Shelf” —Registration No. 33-69648; “Second(the “Universal Shelf” — RegistrationNo. 333-61006; “Third Shelf” —Registration No. 333-130112)333-155601). Securities in the aggregate amount of $300 million remain available under the Initial Shelf and securities in the aggregate amount of $450 million remain available under the Second Shelf. The ThirdUniversal Shelf was filed on November 21, 2008 in accordance with the securities offering reform rules of the SEC that allow well known“well-known seasoned issuersissuers” to register an unspecified amount of different types of securities on an immediately effectiveForm S-3 registration statement. The Universal Shelf will expire on November 20, 2011. On December 9, 2005,18, 2008, the CompanyCompany’s subsidiary KCSR completed the sale and issuance of 210,000 shares$190.0 million in aggregate principal amount of its Series D Preferred Stock pursuant to the Third13.0% Senior Notes that were registered by means of the Universal Shelf. There remains an unspecified amount of securities available under the ThirdUniversal Shelf. To date, no securities have been issued under either the Initial Shelf or Second Shelf. As a consequence of the late filing of the 2005Form 10-K, KCS is ineligible to use any of these shelf registration statements until it has timely filed all periodic reports required under Section 13(a) or Section 15(d) of the Exchange Act during the twelve calendar months and any portion of the month after the lateForm 10-K filing was made. KCS was also ineligible to use the shelf registration statements during the period in which it failed to pay dividends on its 4% Preferred Stock, Series C Preferred Stock and Series D Preferred Stock. KCS paid the accrued and unpaid dividends and current dividends on the Series C Preferred Stock and Series D Preferred Stock on February 15, 2007. KCS believes it will be eligible to use the shelf registration statements commencing May 1, 2007, provided KCS continues to pay dividends on its preferred stock, timely files all periodic reports required under the Exchange Act and otherwise meets the requirements for short-form registration underForm S-3.
 
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
 
KCS’ accounting and financial reporting policies are in conformity with U.S. GAAP. The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Management believes that the following accounting policies and estimates are critical to an understanding of KCS’ historical and future performance. Management has discussed the development and selection of the following critical accounting estimates with the Audit Committee of KCS’ Board of Directors and the


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Audit Committee has reviewed the selection, application and disclosure of the Company’s critical accounting policies and estimates.
 
Capitalization, Depreciation and Amortization of Property and Equipment.Equipment (including Concession Assets)
 
TheDue to the capital intensive nature of the railroad, industry is extremely capital intensive. Maintenance and the depreciation of operating assets constituteproperty and equipment is a substantial operating expensecost for KCS, as well as the railroadCompany and the industry as a whole. The CompanyA significant portion of the Company’s capital expenditures are for capital replacement programs and track expansions which are generally constructed by employees. KCS capitalizes costs relating tofor self-constructed additions and replacements ofimprovements to property including direct labor and material, indirect overhead costs, and interest during long-term construction projects. For purchased assets, all costs necessary to make the asset ready for its intended use are capitalized. Properties and equipment including certain overhead costs representing the indirect costs associated with constructionare carried at cost and improvement projects. Overhead factors are periodically revieweddepreciated on a straight-line basis over their estimated service lives measured in years. Expenditures that significantly increase asset values or extend useful lives are capitalized. Repair and adjusted to reflect current costs using the full absorption method. All of thesemaintenance costs are depreciated usingexpensed as incurred.
KCS follows the group method consistent with industry standards and rules established by the STB. The cost of property and equipment normally retired, less salvage value, is charged to depreciation expense over the estimated life of the operating assets using group straight-line rates for financial statement purposes. The STB approves the depreciation rates used by KCSR (excluding the amortization of computer software) but not for KCSM. Both KCSR and KCSM periodically conduct studies of depreciation rates for properties and equipment and implements approved changes, as necessary,which applies a composite rate to depreciation rates. These studies take into consideration the historical retirement experienceclasses of similar assets the current condition of the assets, current operations and potential changes in technology, estimated salvage value of the assets, and industry regulations. For all other consolidated subsidiaries,rather than to individual assets. Composite depreciation is derived based upon the asset value in excess of estimated salvage value using the straight-line method over the estimated useful lives of the assets for financial reporting purposes. Depreciation isrates are based upon estimates of the usefulexpected average service lives of assets as well as their netexpected salvage value at the end of their useful lives. The estimated average service lives of assets and salvage values are determined through periodic depreciation studies. Depreciation rate studies are performed every three years for equipment and every six years for road property (rail, ties, ballast, etc.). The depreciation studies take into account factors such as:
• Statistical analysis of historical patterns of use and retirements of each asset class;
• Evaluation of any expected changes in current operations and the outlook for the continued use of the assets;
• Evaluation of technological advances and changes to maintenance practices; and
• Historical and expected salvage to be received upon retirement.
Also under the group method of depreciation, the cost of railroad property and equipment (net of salvage) retired or replaced in the normal course of business is charged to accumulated depreciation with no gain or loss recognized. Gains or losses on dispositions of land or non-railroad property and abnormal retirements of railroad property are recognized through income. A retirement of railroad property would be considered abnormal if the cause of the retirement is unusual in nature and its service life is significantly shorter than what would be expected for that group based on the depreciation studies. An abnormal retirement could cause the Company to reevaluate the estimated useful life of the impacted asset class.
During the year ended December 31, 2009, KCS engaged an engineering firm to assist management in performing a depreciation study on equipment as well as to assess the adequacy of the accumulated reserves for road property. The results of the study determined that overall KCS’ depreciation rates should be lowered to better reflect asset usage and replacement patterns. This change in accounting estimate was implemented effective January 1, 2009. The full year reduction of depreciation expense in 2009 resulting from the change in depreciation and amortization rates was $4.0 million.
During the fourth quarter of 2009, KCS changed its useful life estimates for KCSM’s concession assets. Previously the Company had limited the remaining life estimates to the current Concession term which ends in 2047. However, in consideration of KCS’ experience in operating under the Concession, the Company determined that it was probable that KCS will be able to extend the Concession rights for one50-year term. Based on this, the Company began amortizing the concession assets over the lesser of the current expected Concession term, including probable renewal, or the estimated useful lives of the assets. This change in accounting estimate was implemented prospectively effective October 1, 2009, reducing amortization expense in the fourth quarter by $2.6 million. The estimated remaining lives of KCSM’s concession assets will continue to be reviewed in relation to KCS’ experience in operating under the Concession.
Estimation of the usefulaverage service lives of assets that are long-lived as


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well as theirand salvage value requires significant management judgment. Accordingly, management believesEstimated average service lives may vary over time due to changes in physical use, technology,


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asset strategies and other factors that accounting estimates related to depreciation expense are critical.
Currently, KCSR and KCSM depreciate operating assets, including road and structures, rolling stock and equipment, and capitalized leases generally over a range of 3 to 50 years depending uponcould have an impact on the estimated liferetirement experience of the particular asset. In addition to the adjustment to rates as a result of the depreciation studies, certain other events could occur that would materially affect the Company’s estimates and assumptions related to depreciation. Unforeseenasset classes. Accordingly, changes in operations or technology could substantially alter management’s assumptions regarding KCS’ ability to realize the return of its investment in operating assets and, therefore, affect the amount of depreciation expense to charge against both current and future revenues. Because depreciation expense is a function of analytical studies made of property, plant and equipment, subsequent studies could result in different estimates ofasset’s estimated useful lives could materially impact future period’s depreciation expense. Depreciation and net salvage values. If future depreciation studies yield results indicating that the assets have shorter lives as a result of obsolescence, physical condition, changes in technology or changes in net salvage values, the estimate of depreciation expense could increase. Likewise, if future studies indicate that assets have longer lives, the estimate of depreciation expense could decrease.
KCSR Depreciation Review.  During the year ended December 31, 2006, KCSR engaged a civil engineering firm with expertise in railway property usage to conduct a study to evaluate depreciation rates for properties and equipment. The study centered on evaluating actual historical replacement patterns to assess future lives and indicated that KCSR was depreciating its property over shorter periods than the assets were actually used, as estimated by the study. The effect of this change in estimate was a $3.0 million decrease in depreciationamortization expense for the year ended December 31, 2006.2009 was $182.5 million. If the weighted average useful lives of assets were changed by one year, annual depreciation and amortization expense would change approximately $6.0 million.
 
Long-lived assets are reviewed for impairment when events or circumstances indicate that the carrying amount of an asset may not be recoverable. If impairment indicators are present and the estimated future undiscounted cash flows are less than the carrying value of the long-lived assets, the carrying value is reduced to the estimated fair value.
KCSM Depreciation Review.Provision for Personal Injury Claims
Due to the nature of railroad operations, claims related to personal injuries and third party liabilities resulting from crossing collisions and derailments is a substantial expense to KCS. Claims are estimated and recorded for known reported occurrences as well as for incurred but not reported (“IBNR”) occurrences. Consistent with general practices within the railroad industry, the estimated liability is actuarially determined on an undiscounted basis. In estimating the liability, KCS bases the estimate on semi-annual actuarial studies, which calculates an estimate using historical experience and estimates of claim costs as well as numerous assumptions regarding factors relevant to the derivation of an estimate of future claim costs.
Personal injury claims are subject to a significant degree of uncertainty, especially estimates related to incurred but not reported personal injuries for which a party has yet to assert a claim. In deriving an estimate of the provision for personal injury claims, management must make assumptions related to substantially uncertain matters (injury severity, claimant age and legal jurisdiction). Changes in the assumptions used for actuarial studies could have a material effect on the estimate of the provision for personal injury claims. The most sensitive assumptions for personal injury accruals are the expected average cost per claim and the projected frequency rates for the number of claims that will ultimately result in payment. Management believes that the accounting estimate related to the liability for personal injuries claims is critical to KCS’ results of operations. See also Note 12 to the Consolidated Financial Statements in Item 8 of thisForm 10-K.
Based on the methods described above and information available as of December 31, 2009, the liability for personal injury claims was $86.9 million. A 5% increase or decrease in either the expected average cost per claim or the frequency rate for claims with payments would result in an approximate $4.3 million increase or decrease in the Company’s recorded personal injury reserves.
Provision for Income Taxes
Deferred income taxes represent a substantial liability of the Company. For financial reporting purposes, management determines the current tax liability, as well as deferred tax assets and liabilities, in accordance with the liability method of accounting for income taxes. The provision for income taxes is the sum of income taxes both currently payable and deferred into the future. Currently payable income taxes represent the liability related to the Company’s U.S., state and foreign income tax returns for the current year and anticipated tax payments resulting from income tax audits while the net deferred tax expense or benefit represents the change in the balance of deferred tax assets or liabilities as reported on the balance sheet. The changes in deferred tax assets and liabilities are determined based upon the changes in differences between the basis of assets and liabilities for financial reporting purposes and the basis of assets and liabilities for tax purposes as measured using the enacted tax rates that management estimates will be in effect when these differences reverse.
In addition to estimating the future tax rates applicable to the reversal of tax differences, management must make certain assumptions regarding whether tax differences are permanent or temporary. If the differences are temporary, management must estimate the timing of their reversal, and whether taxable operating income in future periods will be sufficient to fully recognize any gross deferred tax assets of the Company. The tax provision for Mexico has additional complexities such as the impacts of inflation and exchange rate variations, both of which can have a significant impact on the calculations. Finally, the Company is required to pay the greater of Mexican income tax or the Entrepreneurial Tax of Unique Rate


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(referred to by its Spanish acronym, IEUTU or Flat Tax) annually. The income tax net operating loss and credits will not fully offset future IETU payments thus a valuation allowance is necessary. Accordingly, management believes that the estimates related to the provision for income taxes are critical to the Company’s results of operations.
The general principles and complexities of income tax accounting related to Mexico apply to the calculation of the statutorily required Mexico employee profit sharing expense, current liability and deferred liability. The employee profit sharing expense is recorded within compensation and benefits in the consolidated statement of income.
For the year ended December 31, 2005, KCSM adopted the group depreciation method for consistency with KCSR during 2005. Accordingly, changes were made to certain historical depreciation rates. Unlike KCSR, KCSM depreciation rates are not subject to the approval of the STB, accordingly, the changes to the depreciation rates were applied in 2005. During the year ended December 31, 2005, KCSM engaged a civil engineering firm with expertise in railway property usage to conduct an analysis of depreciation rates for properties and equipment. The analysis centered on evaluating actual historical replacement patterns to assess future lives and indicated that KCSM was depreciating its property over shorter periods than the assets were actually utilized. As a result, depreciation2009, income tax expense recordedtotaled $34.6 million. For every 1% change in the fourth quarter2009 effective rate, income tax expense would have changed by $1.0 million. For an increase of 2005 reflected an adjustment totaling $5.5 million, to reduce depreciation expense as recorded1% in the second and third quartersMexican inflation rate the tax expense would increase by approximately $0.7 million. If the exchange rate used at the end of 2005. Concession rights and related assets are amortized over2009 increased by Ps.0.10 from Ps.13.1 per U.S. dollar to Ps.13.2 per dollar, the shorter of their remaining useful lives as determinedtax expense would have decreased by the KCSM depreciation review or the life of the Concession.approximately $1.9 million.
 
Provision for Environmental Remediation.Remediation
 
As further described in Note 1112 to the Consolidated Financial Statements in Item 8 of thisForm 10-K, the Company’s operations are subject to extensive federal, state and local environmental laws and regulations in the U.S. and Mexico. KCS conducts studies, as well as site surveys, to determine the extent of environmental damage and theremediation necessary requirements to remediate this damage.clean up a site. These studies incorporate the analysis of internal and external environmental engineering staff and consultation with internal and external legal counsel. From these studies and surveys, a range of estimates of the costs involved is derived. These cost estimates are based on forecasts of the total future direct costs related to environmental remediation and change periodically as additional or better information becomes available as to the extent of site remediation required, if any. KCS accrues for the cost of remediation where the obligation is probable and such costs can be reasonably estimated.
 
Cost estimates can be influenced by advanced technologies related to the detection, appropriate remedial course of action and anticipated cost. Certain changes could occur that would materially affect management’s estimates and assumptions related to costs for environmental remediation. If KCS becomes subject to more stringent environmental remediation costs at known sites, discovers additional contamination, discovers previously unknown sites, or becomes subject to related personal or property damage, KCS could incur additional costs that could be significant in connection with its environmental remediation. Accordingly,


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management believes that estimates related to the accrual of environmental remediation liabilities are critical to KCS’ results of operations.
 
Environmental remediation expense was $3.1 million for the year ended December 31, 2006, and was included in purchased services expense on the consolidated statements of income. Additionally, asAs of December 31, 2006,2009, KCS had a liability for environmental remediation of $7.8$4.7 million. KCS’ environmental liabilities are not discounted. This amount was derived from a range of reasonable estimates based upon the studies and site surveys described above and in accordance with SFAS 5.
Provision for Casualty Claims.
Due to the nature of railroad operations, claims related to personal injuries and third party liabilities resulting from crossing collisions and derailments, as well as claims related to personal property damage and other casualties, is a substantial expense to KCS. Claims are estimated and recorded for known reported occurrences as well as for incurred but not reported (“IBNR”) occurrences. Consistent with the general practice within the railroad industry, the estimated liability for these casualty expenses is actuarially determined on an undiscounted basis. In estimating the liability for casualty claims, KCS obtains an estimate from an independent third party actuarial firm, which calculates an estimate using historical experience and estimates of claim costs as well as numerous assumptions regarding factors relevant to the derivation of an estimate of future claim costs.
Personal injury and casualty claims are subject to a significant degree of uncertainty, especially estimates related to incurred but not reported personal injuries for which a party has yet to assert a claim. In deriving an estimate of the provision for casualty claims, management must make assumptions related to substantially uncertain matters (injury severity, claimant age and legal jurisdiction). Changes in the assumptions used for actuarial studies could have a material effect on the estimate of the provision for casualty claims. Management believes that the accounting estimate related toguidance for the liability for personal injuries and other casualty claims is critical to KCS’ resultsrecognition of operations. See also Note 11 to the Consolidated Financial Statements in Item 8 of thisForm 10-K.
For the year ended December 31, 2006, casualty expense equaled $33.8 million and was included in casualties and insurance expense in the consolidated statements of income. Based on the methods described above and information available as of December 31, 2006, the liability for casualty claims was $114.4 million.loss contingencies. For purposes of earnings sensitivity analysis, if the December 31, 20062009 environmental reserve werewas adjusted (increased or decreased) by 10%, casualtyenvironmental expense would change $11.4by $0.5 million.
 
Provision for Income Taxes.OTHER MATTERS
Deferred income taxes represent a substantial liability of KCS. For financial reporting purposes, management determines the current tax liability, as well as deferred tax assets and liabilities, in accordance with the liability method of accounting for income taxes as specified in Statement of Financial Accounting Standards No. 109Accounting for Income Taxes.” The provision for income taxes is the sum of income taxes both currently payable and deferred into the future. Currently payable income taxes represent the liability related to KCS’ U.S., state and Mexican income tax returns for the current year and anticipated tax payments resulting from income tax audits while the net deferred tax expense or benefit represents the change in the balance of deferred tax assets or liabilities as reported on the balance sheet. The changes in deferred tax assets and liabilities are determined based upon the changes in differences between the basis of assets and liabilities for financial reporting purposes and the basis of assets and liabilities for tax purposes as measured using the enacted tax rates that management estimates will be in effect when these differences reverse. In addition, the tax provision for Mexico is further complicated by the impacts of inflation as well as the exchange rate, both of which can have a significant impact on the calculation. In addition to estimating the future tax rates applicable to the reversal of tax differences, management must also make certain assumptions regarding whether tax differences are permanent or temporary. If the differences are temporary, management must estimate the timing of their reversal, and whether taxable operating income in future periods will be sufficient


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to fully recognize any gross deferred tax assets of KCS. Accordingly, management believes that the estimates related to the provision for income taxes is critical to the Company’s results of operations.
Other.
Derivative Instruments.  KCS does not engage in the trading of derivatives. Management’s objective for using derivative instruments is to manage fuel and currency risk to mitigate the impact of their fluctuations. KCS accounts for derivative transactions under Statement of Financial Accounting Standards No. 133 “Accounting for Derivative Instruments and Hedging Activities” as amended, as set forth in Note 2 to the Consolidated Financial Statements in Item 8 of thisForm 10-K. In general, the Company enters into derivative transactions in limited situations based on management’s assessment of current market conditions and perceived risks. Management intends to respond to evolving business and market conditions in order to manage risks and exposures associated with various operations, and in so doing, may enter into such transactions more frequently as deemed appropriate.
Fuel Derivative Transactions.  Fuel expense is a significant component of operating expenses. Fuel costs are affected by (i) traffic levels, (ii) efficiency of operations and equipment, and (iii) fuel market conditions. KCS enters into transactions, such as forward purchase commitments and commodity swap transactions from time to time, to stabilize the price for future fuel purchases and protect operating results against adverse fuel price fluctuations. These derivative instruments hedge against fluctuations in the price of No. 2 Gulf Coast Heating Oil, the commodity on which the Company’s diesel fuel prices are based. The use of certain risk management strategies enables risk to be reduced related to rising diesel fuel prices. On December 31, 2006, KCS was party to fuel swap agreements for 1.3 million gallons of fuel.
Foreign Exchange Matters.  KCSM uses the dollar as its functional currency. Earnings from KCSM included in results of operations reflect any transaction gains and losses that KCSM records in the process of translating certain transactions from pesos to dollars. KCS follows the requirements outlined in Statement of Financial Accounting Standards No. 52 “Foreign Currency Translation”, and related authoritative guidance. The Company continues to evaluate existing alternatives with respect to utilizing foreign currency instruments to hedge the dollar investment in KCSM as market conditions change or exchange rates fluctuate. As of December 31, 2006, KCSM did not have any outstanding forward contracts.
 
Litigation.  The Company is a party to various legal proceedings and administrative actions, all of which are of an ordinary, routine nature and incidental to its operations. Included in these proceedings are various tort claims brought by current and former employees for job related injuries and by third parties for injuries related to railroad operations. KCS aggressively defends these matters and has established liability reserves that management believes are adequate to cover expected costs. Although it is not possible to predict the outcome of any legal proceeding, in the opinion of the Company’s management, other than those proceedings described in detail below,Note 12 to the Consolidated Financial Statements in Item 8 of thisForm 10-K, such proceedings and actions should not, individually, or in the aggregate, have a material adverse effect on the Company’s financial condition.
 
Reinsurance Litigation.Inflation.  AsU.S. generally accepted accounting principles require the Company has previously reported, insurance companies who provided insuranceuse of historical cost, which does not reflect the effects of inflation on the replacement cost of property. Due to the Company filed an action in federal court in Vermont (“capital intensive nature of


46


KCS’ business, the Reinsurance Litigation”) seeking a declaration that they have no obligation to indemnifyreplacement cost of these assets would be significantly larger than the Company concerning a particular casualty claim. That claim,Kemp, et al v. The Kansas City Southern Railway Company, et al, inamounts reported under the Circuit Court of Jackson County, Missouri (“the Kemp Litigation”) went to trial in September 2006. The Company reached a settlement with the plaintiffs in the Kemp Litigation. The Company has also reached settlements with various parties, including several of the insurance companies involved in the Reinsurance Litigation, to indemnify the Company for a significant portion of the settlement. The Kemp settlement is fully reflected in the Company’s 2006 financial statements and the Company has no further risk associated with this litigation. The Company is however continuing the Reinsurance Litigation against certain other insurance companies, seeking to establish their obligation to indemnify the Company for their share of the settlement with Kemp.historical cost basis.
 
Recent Accounting Pronouncements.  Refer to Note 2 to the Consolidated Financial Statements in Item 8 of thisForm 10-K for information relative to recent accounting pronouncements.


51


Cautionary Information.
The discussions set forth in this Annual Report onForm 10-K may contain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended and Section 21E of the Securities Exchange Act of 1934, as amended. In addition, management may make forward-looking statements orally or in other writings, including, but not limited to, in press releases, in the annual report to stockholders and in other filings with the Securities and Exchange Commission. Readers can identify these forward-looking statements by the use of such verbs as “expects,” “anticipates,” “believes” or similar verbs or conjugations of such verbs. These statements involve a number of risks and uncertainties. Actual results could materially differ from those anticipated by such forward-looking statements. Such differences could be caused by a number of factors or combination of factors including, but not limited to, the factors identified below and those discussed under Item 1A of thisForm 10-K, “Risk Factors.” Readers are strongly encouraged to consider these factors and the following factors when evaluating any forward-looking statements concerning the Company:
• fluctuations in the market price for the Company’s common stock;
• KCS’ dividend policy and restrictions on its ability to pay dividends on its common stock;
• KCS’ high degree of leverage;
• The Company’s potential need for and ability to obtain additional financing;
• KCS’ ability to successfully implement its business strategy, including the strategy to convert customers from using trucking services to rail transportation services;
• the impact of competition, including competition from other rail carriers and trucking companies in the United States and Mexico;
• United States, Mexican and global economic, political and social conditions;
• The effects of the North American Free Trade Agreement, or NAFTA, on the level of trade among the United States, Mexico and Canada;
• uncertainties regarding the litigation KCS faces and any future claims and litigation;
• the effects of employee training, technological improvements and capital expenditures on labor productivity, operating efficiencies and service reliability;
• changes in legal or regulatory requirements in the United States, Mexico or Canada;
• KCS’ ability to generate sufficient cash to pay principal and interest on its debt, meet its obligations and fund its other liquidity needs;
• the effects of adverse general economic conditions affecting customer demand and the industries and geographic areas that produce and consume the commodities KCS carries;
• material adverse changes in economic and industry conditions, both within the United States and Mexico and globally;
• natural events such as severe weather, fire, floods, hurricanes, earthquakes or other disruptions of the Company’s operating systems, structures and equipment or the ability of customers to produce or deliver their products;
• changes in fuel prices;
• KCS’ ability to attract and retain qualified management personnel;
• changes in labor costs and labor difficulties, including work stoppages affecting either operations or customers” abilities to deliver goods for shipment;


52


• the outcome of claims and litigation, including those related to environmental contamination, personal injuries, and occupational illnesses arising from hearing loss, repetitive motion and exposure to asbestos and diesel fumes;
• acts of terrorism or risk of terrorist activities;
• war or risk of war;
• political and economic conditions in Mexico; and the level of trade between the United States and Mexico;
• legislative, regulatory, or legal developments involving taxation, including enactment of new foreign, federal or state income or other tax rates, revisions of controlling authority, and the outcome of tax claims and litigation.
Forward-looking statements speak only as of the date on which they are made. The Company will not update any forward-looking statements to reflect future events, developments, or other information. If KCS does update one or more forward-looking statements, no inference should be drawn that additional updates will be made regarding that statement or any other forward-looking statements.
 
Item 7A.  Quantitative and Qualitative Disclosures ConcerningAbout Market Risk
 
KCS utilizes various financial instruments that have certain inherent market risks, but these instruments have not been entered into for trading purposes. The following information, together with information included in Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and Note 1214 to the Consolidated Financial Statements in Item 8 of thisForm 10-K, describe the key aspects of certain financial instruments that have market risk to KCS.
 
Interest Rate Sensitivity.  Floating-rate indebtedness totaled $381.6$350.6 million and $440.9$443.9 million at December 31, 20062009 and 2005,2008, respectively. TwoA credit agreements, eachagreement, comprised of a revolving credit facility and a term loan facility, containfacilities, contains variable rate debt which accrues interest based on target interest indexes (London Interbank Offered Rate — “LIBOR” or an alternative base rate) plus an applicable spread, as set forth in eachthe credit agreement. The Company has an aggregate notional amount of $250.0 million of interest rate hedges at December 31, 2009, which effectively convert interest payments from variable rates to fixed rates. Given the balance of $381.6$100.6 million at December 31, 2009 of variable rate debt at December 31, 2006,net of interest rate hedges, KCS is sensitive to fluctuations in interest rates. For example, a hypothetical 100 basis points increase in each of the respective target interest indexes would result in additional interest expense of $3.8$1.0 million on an annualized basis for the net floating-rate instruments issued by the Company as of December 31, 2006.2009.
 
Based upon the borrowing rates available to KCS and its subsidiaries for indebtedness with similar terms and average maturities, the fair value of the long-term debt was approximately $1,814.1$2,031.1 million and $1,911.5 million at December 31, 2006,2009 and $1,938.62008, respectively, compared with a carrying value of $1,980.0 million and $2,086.1 million at December 31, 2005.2009 and 2008, respectively.
 
Commodity Price Sensitivity.  As described in Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Other — Derivative Instruments” of thisForm 10-K,  KCS periodically participates in diesel fuel purchase commitment and swap transactions. At December 31, 2006,2009 and 2008, KCS was party todid not have any outstanding fuel swap agreements for 1.3 million gallons. Subsequent to December 31, 2006, KCS entered into fuel swap agreements for another 1.3 million gallons.agreements. The Company also holds fuel inventories for use in operations. These inventories are not material to KCS’ overall financial position. With the exception of the fuel currently hedged under fuel swap transactions for 2007, fuelFuel costs are expected to mirror market conditions in 2007.2010, however, fuel cost are unpredictable and subject to a variety of factors outside the Company’s control. KCS also cushionsis able to reduce the impact of increased fuel costs through fuel surcharge revenues from customers. Assuming annual consumption of 145110 million gallons, a $0.1010 cent change in the price per gallon of fuel would cause a $14.5an $11.0 million change in operating expenses.
 
Foreign Exchange Sensitivity.  KCSM uses the dollar as its functional currency. Earnings from KCSM included in the Company’s results of operations reflect revaluation gains and losses that KCSM records in the process of translatingremeasuring certain transactions from pesos to dollars. Therefore, the Company has exposure to fluctuations in the value of the peso. While not currently utilizing foreign currency instruments to hedge KCS’


53


dollar investment in KCSM, existing alternatives are evaluated as market conditionsKCS manages this risk by monitoring its peso denominated cash inflows and exchange rates fluctuate.outflows. For example, a hypothetical 10% increase in the USU.S. dollar to the Mexican peso exchange rate on net peso denominated monetary assets of Ps.1,652.6Ps.495 million would result in a translation loss of approximately $13.9$3.4 million and a 10% decrease in the exchange rate would result in a translation gain of approximately $17.0$4.2 million.
Inflation.  U.S. generally accepted accounting principles require the use of historical cost, which does not reflect the effects of inflation on the replacement cost of property. Due to the capital intensive nature of KCS’ business, the replacement cost of these assets would be substantially greater than the amounts reported under the historical cost basis.


5447


Item 8.  Financial Statements and Supplementary Data
 
Index to Financial Statements
 
     
  Page
 
 5650
 5751
 5852
 5953
 6054
 6155
 6256
 6357
Financial Statement Schedules:  
 
All schedules are omitted because they are not applicable, are insignificant, or the required information is shown in the consolidated financial statements or notes thereto. The consolidated financial statements of Grupo KCSM as of December 31, 2005 (successor) and 2004 (predecessor) for the nine months ended December 31, 2005 (successor), the three months ended March 31, 2005 (predecessor) and the year ended December 31, 2004 (predecessor) are incorporated by reference into this annual report.
Introductory Comments
The following Consolidated Financial Statements have been prepared by Kansas City Southern, pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). Beginning with the year ended December 31, 2005, these financial statements include the results of operations and cash flows of Mexrail and Grupo KCSM, which were consolidated on January 1, 2005, and April 1, 2005, respectively, as a result of the acquisition of a controlling interest in each entity as of these respective dates. Results for the years ended December 31, 2006 and 2005 are not indicative of the expected results for future periods.


5548


 
Management’s Report on Internal Control over Financial Reporting
 
The management of Kansas City Southern is responsible for establishing and maintaining adequate internal control over financial reporting as such term is defined in Exchange ActRules 13a-15(f) and15d-15(f). KCS’ internal control over financial reporting was designed to provide reasonable assurance to the Company’s management and Board of Directors regarding the preparation and fair presentation of published financial statements.
 
All internal control systems, no matter how well designed, have inherent limitations. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation.
 
Under the supervision and participation of the Company’s Chief Executive Officer and Chief Financial Officer, management conducted an evaluation of the effectiveness of the Company’s internal control over financial reporting as of December 31, 2006,2009, based on the framework established by the Committee of Sponsoring Organizations of the Treadway Commission inInternal Control — Integrated Framework(commonly referred to as the COSO framework). Based on its evaluation, management concluded that the Company’s internal control over financial reporting was effective as of December 31, 2006,2009, based on the criteria outlined in the COSO framework.
 
Management’s assessment of theThe effectiveness of the Company’s internal control over financial reporting as of December 31, 2006,2009, has been audited by KPMG LLP, an independent registered public accounting firm, as stated in their attestation report, which immediately follows this report.


5649


 
Report of Independent Registered Public Accounting Firm
 
The Board of Directors and Stockholders of
Kansas City Southern:
 
We have audited management’s assessment, included in the accompanying Management’s Report on Internal Control over Financial Reporting, that Kansas City Southern and subsidiariesSouthern’s (the Company) maintained effective internal control over financial reporting as of December 31, 2006,2009, based on criteria established in “InternalInternal Control — Integrated Framework” Frameworkissued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting.reporting, included in the accompanying Management’s Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on management’s assessment and an opinion on the effectiveness of the Company’s internal control over financial reporting based on our audit.
 
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, evaluating management’s assessment,assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control andbased on the assessed risk. Our audit also included performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
 
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with U.S. generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with U.S. generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
 
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
 
In our opinion, management’s assessment that the Company maintained effective internal control over financial reporting as of December 31, 2006, is fairly stated, in all material respects, based on criteria established in “Internal Control — Integrated Framework” issued by COSO. Also, in our opinion, Kansas City Southern maintained, in all material respects, effective internal control over financial reporting as of December 31, 2006,2009, based on criteria established in “InternalInternal Control — Integrated Framework” Frameworkissued by COSO.
 
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of the CompanyKansas City Southern as of December 31, 20062009 and 2005,2008, and the related consolidated statements of income, stockholders’changes in equity and comprehensive income, and cash flows for each of the years in the three-year period ended December 31, 2006,2009, and our report dated February 26, 200711, 2010 expressed an unqualified opinion on those consolidated financial statements.
 
/s/  KPMG LLP
 
Kansas City, Missouri

February 26, 200711, 2010


5750


Report of Independent Registered Public Accounting Firm
 
The Board of Directors and Stockholders of
Kansas City Southern:
 
We have audited the accompanying consolidated balance sheets of Kansas City Southern and subsidiaries (the Company) as of December 31, 20062009 and 2005,2008, and the related consolidated statements of income, stockholders’changes in equity and comprehensive income, and cash flows for each of the years in the three-year period ended December 31, 2006.2009. These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We did not audit the financial statements of Grupo Transportación Ferroviaria Mexicana, S.A. de C.V. (Grupo TFM and currently known as Grupo KCSM), a 46.6% owned investee company for the year ended December 31, 2004. The Company’s equity in loss of Grupo TFM was $2.4 million for the year ended December 31, 2004. The financial statements of Grupo TFM for the year ended December 31, 2004 were audited by other auditors whose report has been furnished to us, and our opinion, insofar as it relates to the amounts included for Grupo TFM for the year ended December 31, 2004, is based solely on the report of other auditors.
 
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
 
In our opinion, based on our audits, and the report of other auditors for 2004, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Kansas City Southern and subsidiaries as of December 31, 20062009 and 2005,2008, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2006,2009, in conformity with U.S. generally accepted accounting principles.
As discussed in Note 2 to the consolidated financial statements, effective January 1, 2006, the Company adopted the fair value method of accounting for stock-based compensation as required by Statement of Financial Accounting Standards No. 123R, “Share Based Payment.”
 
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of Kansas City Southern and subsidiariesSouthern’s internal control over financial reporting as of December 31, 2006,2009, based on criteria established in “InternalInternal Control — Integrated Framework”Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report dated February 26, 200711, 2010 expressed an unqualified opinion on management’s assessmentthe effectiveness of and the effective operation of,Company’s internal control over financial reporting.
 
/s/  KPMG LLP
 
Kansas City, Missouri

February 26, 200711, 2010


5851


Kansas City Southern
and Subsidiaries
 
Consolidated Statements of Income
Years endedEnded December 31
 
                        
 2006 2005 2004  2009 2008 2007 
 In millions, except share
  In millions, except share
 
 and per share amounts  and per share amounts 
Revenues $1,659.7  $1,352.0  $639.5  $1,480.2  $1,852.1  $1,742.8 
              
Operating expenses:                        
Compensation and benefits  387.7   340.4   213.0   328.8   369.9   384.0 
Depreciation and amortization  155.0   127.7   53.5 
Purchased services  215.2   195.1   62.3   171.3   209.1   198.4 
Casualties and insurance  53.4   103.4   42.4 
Fuel  253.6   206.9   66.4   189.4   324.6   270.2 
Equipment costs  179.7   149.8   50.4   164.1   178.6   184.6 
KCSM employees’ statutory profit sharing  5.9   41.1    
Other  104.9   125.3   68.0 
Depreciation and amortization  182.5   168.6   159.0 
Casualties and insurance  43.1   72.7   69.3 
Materials and other  132.8   138.4   114.9 
              
Total operating expenses  1,355.4   1,289.7   556.0   1,212.0   1,461.9   1,380.4 
              
Operating income  304.3   62.3   83.5   268.2   390.2   362.4 
Equity in net earnings (losses) of unconsolidated affiliates  7.3   2.9   (4.5)
Equity in net earnings of unconsolidated affiliates  7.7   18.0   11.4 
Interest expense  (167.2)  (133.5)  (44.4)  (173.7)  (138.9)  (156.7)
Debt retirement costs  (4.8)  (4.4)  (4.2)  (5.9)  (5.6)  (6.9)
Foreign exchange gain (loss)  (3.7)  3.5      2.1   (21.0)  (0.9)
VAT/Put settlement gain, net     131.9    
Other income, net  18.7   13.3   17.6   5.2   6.0   12.0 
              
Income before income taxes and minority interest  154.6   76.0   48.0 
Income tax expense (benefit)  45.4   (7.1)  23.6 
       
Income before minority interest  109.2   83.1   24.4 
Minority interest  0.3   (17.8)   
Income before income taxes and noncontrolling interest  103.6   248.7   221.3 
Income tax expense  34.6   64.5   67.1 
              
Net income  108.9   100.9   24.4   69.0   184.2   154.2 
Noncontrolling interest  1.0   0.3   0.4 
       
Net income attributable to Kansas City Southern and subsidiaries  68.0   183.9   153.8 
Preferred stock dividends  19.5   9.5   8.7   11.0   15.2   19.8 
              
Net income available to common shareholders $89.4  $91.4  $15.7  $57.0  $168.7  $134.0 
              
Earnings per share:                        
Basic earnings per share $1.20  $1.21  $0.25  $0.61  $2.02  $1.77 
              
Diluted earnings per share $1.08  $1.10  $0.25  $0.61  $1.86  $1.57 
              
Average shares outstanding(in thousands):
                        
Basic  74,593   75,527   62,715   93,145   83,674   75,832 
Potential dilutive common shares  17,793   17,220   1,268 
Potentially dilutive common shares  504   14,928   21,784 
              
Diluted  92,386   92,747   63,983   93,649   98,602   97,616 
              
 
See accompanying notes to consolidated financial statements.


5952


Kansas City Southern
and Subsidiaries
 
Consolidated Balance Sheets
December 31
 
         
  2006  2005 
  In millions, except share amounts 
 
ASSETS
Current assets:        
Cash and cash equivalents $79.0  $31.1 
Accounts receivable, net (Note 2)  334.3   315.7 
Restricted funds (Note 2)  26.5    
Inventories  72.5   73.9 
Other current assets (Note 5)  93.7   46.1 
         
Total current assets  606.0   466.8 
Investments (Note 3)  64.9   60.3 
Property and equipment, net (Note 5)  2,452.2   2,298.3 
Concession assets, net (Note 5)  1,303.3   1,360.4 
Deferred tax asset (Note 7)  128.7   152.2 
Other assets  82.2   85.6 
         
Total assets $4,637.3  $4,423.6 
         
 
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:        
Debt due within one year (Note 6) $41.9  $38.0 
Accounts and wages payable  189.9   124.3 
Current liability related to Grupo KCSM acquisition (Note 6)  50.9   78.3 
Accrued liabilities (Note 5)  354.7   333.1 
         
Total current liabilities  637.4   573.7 
         
Other liabilities        
Long-term debt (Note 6)  1,631.8   1,663.9 
Long-term liability related to Grupo KCSM acquisition (Note 6)  32.4   80.4 
Deferred income taxes (Note 7)  417.3   409.2 
Other noncurrent liabilities and deferred credits  235.7   270.2 
         
Total other liabilities  2,317.2   2,423.7 
         
Minority interest  100.3    
Commitments and contingencies (Note 11)      
         
Stockholders’ equity (Notes 2,8):        
$25 par, 4% noncumulative, preferred stock, 840,000 shares authorized, 649,736 shares issued, 242,170 shares outstanding  6.1   6.1 
Series C — redeemable cumulative convertible perpetual preferred stock, $1 par, 4.25%, 400,000 shares authorized, issued and outstanding  0.4   0.4 
Series D — cumulative convertible perpetual preferred stock, $1 par, 5.125%, 210,000 shares authorized, issued and outstanding  0.2   0.2 
$.01 par, common stock, 400,000,000 shares authorized; 92,863,585 and 91,369,116 shares issued at December 31, 2006 and 2005, respectively; 75,920,333 and 73,412,081 shares outstanding at December 31, 2006 and 2005, respectively  0.7   0.7 
Paid in capital  523.0   473.1 
Retained earnings  1,050.7   946.1 
Accumulated other comprehensive income (loss)  1.3   (0.4)
         
Total stockholders’ equity  1,582.4   1,426.2 
         
Total liabilities and stockholders’ equity $4,637.3  $4,423.6 
         
         
  2009  2008 
  In millions, except
 
  share amounts 
 
ASSETS
Current assets:        
Cash and cash equivalents $117.5  $229.9 
Accounts receivable, net  139.4   163.8 
Restricted funds  35.8   34.0 
Materials and supplies  106.4   96.3 
Deferred income taxes  151.7   62.8 
Other current assets  63.0   98.8 
         
Total current assets  613.8   685.6 
Investments  46.8   60.5 
Property and equipment (including concession assets), net  4,747.2   4,598.4 
Deferred income taxes     36.4 
Other assets  71.3   58.3 
         
Total assets $5,479.1  $5,439.2 
         
 
LIABILITIES AND EQUITY
Current liabilities:        
Debt due within one year $68.1  $637.4 
Accounts payable and accrued liabilities  342.7   455.4 
         
Total current liabilities  410.8   1,092.8 
Long-term debt  1,911.9   1,448.7 
Deferred income taxes  567.1   492.4 
Other noncurrent liabilities and deferred credits  247.7   220.1 
         
Total liabilities  3,137.5   3,254.0 
         
Commitments and contingencies      
Stockholders’ equity:        
$25 par, 4% noncumulative, preferred stock, 840,000 shares authorized, 649,736 shares issued, 242,170 shares outstanding  6.1   6.1 
Series D — cumulative convertible perpetual preferred stock, $1 par, 5.125%, 210,000 shares authorized and issued, 209,995 shares outstanding with a liquidation preference of $1,000 per share  0.2   0.2 
$.01 par, common stock, 400,000,000 shares authorized; 110,583,068 and 106,252,860 shares issued at December 31, 2009 and 2008, respectively; 96,213,346 and 91,463,762 shares outstanding at December 31, 2009 and 2008, respectively  0.9   0.9 
Paid-in capital  661.4   572.3 
Retained earnings  1,394.6   1,337.6 
Accumulated other comprehensive loss  (4.4)  (5.6)
         
Total stockholders’ equity  2,058.8   1,911.5 
Noncontrolling interest  282.8   273.7 
         
Total equity  2,341.6   2,185.2 
         
Total liabilities and equity $5,479.1  $5,439.2 
         
 
See accompanying notes to consolidated financial statements.


6053


Kansas City Southern
and Subsidiaries
 
Consolidated Statements of Cash Flows
Years endedEnded December 31
 
                        
 2006 2005 2004  2009 2008 2007 
 In millions  In millions 
Operating activities:
                        
Net income $108.9  $100.9  $24.4  $69.0  $184.2  $154.2 
Adjustments to reconcile net income to net cash provided by operating activities:                        
Depreciation and amortization  155.0   127.7   53.5   182.5   168.6   159.0 
Deferred income taxes  41.0   (17.3)  35.9   31.4   63.8   66.3 
KCSM employees’ statutory profit sharing  5.9   41.1    
Equity in undistributed losses (earnings) of unconsolidated affiliates  (7.3)  (2.9)  4.5 
VAT/Put settlement gain     (131.9)   
Minority interest  0.3   (17.8)   
Equity in undistributed earnings of unconsolidated affiliates  (7.7)  (18.0)  (11.4)
Share-based compensation  9.9   7.4   11.1 
Excess tax benefit from share-based compensation  (1.5)  (5.6)  (2.4)
Other deferred compensation  3.3   (1.9)  (2.1)
Distributions from unconsolidated affiliates  4.5   8.3   8.8   7.3   18.9   4.0 
Loss (gain) on sale of assets  (7.8)  1.0   (3.8)
Gain on sale of assets  (3.8)  (3.4)  (5.7)
Debt retirement costs  5.9   5.6   6.9 
Changes in working capital items:                        
Accounts receivable  (18.6)  5.8   (25.0)  23.3   52.6   81.0 
Inventories  0.4   (0.8)  (11.4)
Materials and supplies  (12.3)  (6.0)  (12.4)
Other current assets  (50.9)  15.7   (2.2)  8.6   (8.0)  0.9 
Accounts payable and accrued liabilities  44.6   25.2   39.9   (19.9)  (42.8)  (65.4)
Other, net  (8.5)  23.8   18.1   (3.1)  (2.4)  (16.2)
              
Net cash provided by operating activities  267.5   178.8   142.7   292.9   413.0   367.8 
              
Investing activities:
                        
Capital expenditures  (241.8)  (275.7)  (117.2)  (349.2)  (533.8)  (396.8)
Proceeds from disposal of property  30.0   6.3   4.9   13.9   20.9   16.6 
Contribution from NS for MSLLC (net of change in restricted contribution)  76.5       
Contribution from NS for MSLLC     27.0   143.4 
Property investments in MSLLC  (37.8)        (22.0)  (30.4)  (118.0)
Investments in and loans to affiliates  (1.1)  (10.5)  (55.0)
Proceeds from sales of investments, net  8.2   (8.0)  0.5 
Acquisition costs     (10.1)  (9.5)
Cash of Mexrail at date of acquisition     3.0    
Cash of KCSM at date of acquisition     5.5    
Change in other restricted cash        (200.0)
Proceeds and repayments from loans to equity affiliates        14.4 
Other, net        (0.5)  10.9   (21.7)  (26.4)
              
Net cash used for investing activities  (166.0)  (289.5)  (376.8)  (346.4)  (538.0)  (366.8)
              
Financing activities:
                        
Proceeds from issuance of long-term debt  616.3   644.7   250.0   202.1   580.1   326.6 
Repayment of long-term debt  (658.5)  (521.5)  (107.6)  (319.1)  (262.8)  (311.3)
Net proceeds from issuance of preferred stock     203.9    
Debt issuance costs  (15.9)  (16.5)  (3.8)
Debt costs  (9.3)  (16.9)  (19.6)
Proceeds from common stock issuance  73.9       
Proceeds from stock plans  8.6   1.7   7.4   3.0   8.6   0.7 
Repurchase of common stock     (200.4)   
Excess tax benefit realized from options exercised  0.2       
Dividends paid  (4.3)  (8.7)  (8.7)
Excess tax benefit from share-based compensation  1.5   5.6   2.4 
Preferred stock dividends paid  (11.0)  (15.2)  (23.3)
              
Net cash provided by (used for) financing activities  (53.6)  103.2   137.3   (58.9)  299.4   (24.5)
              
Cash and cash equivalents:                        
Net increase (decrease) during each year  47.9   (7.5)  (96.8)  (112.4)  174.4   (23.5)
At beginning of year  31.1   38.6   135.4   229.9   55.5   79.0 
              
At end of year $79.0  $31.1  $38.6  $117.5  $229.9  $55.5 
              
Supplemental cash flow information:
            
Cash payments (refunds):            
Interest $163.5  $132.8  $42.1 
Income tax refunds (net of payments)  (0.4)  (1.6)  (21.2)
Supplemental cash flow information
            
Non-cash investing and financing activities:            
Capital expenditures accrued but not yet paid at year end $24.9  $91.2  $48.5 
Capital lease obligations incurred     13.1   7.2 
Non-cash asset acquisitions  21.3   21.8    
Property contribution from NS for MSLLC  9.6   3.5    
Property dividend from Southern Capital        10.3 
Cash payments:            
Interest paid, net of amounts capitalized $174.0  $136.8  $141.5 
Income tax payments net of refunds  3.5   1.5   13.6 
 
See accompanying notes to consolidated financial statements.


6154


Kansas City Southern
and Subsidiaries
 
Consolidated Statements of Changes in Stockholders’ Equity and Comprehensive Income
 
                                 
     $1 Par Cumulative
           Accumulated
    
  $25 Par
  Preferred Stock  $.01 par
        Other
    
  Preferred
  Series C
  Series D
  Common
  Paid in
  Retained
  Comprehensive
    
  Stock  4.25%  5.125%  Stock  Capital  Earnings  Income (Loss)  Total 
  (In millions) 
 
Balance at December 31, 2003
 $6.1  $0.4  $  $0.6  $110.9  $838.2  $(0.5) $955.7 
                                 
Comprehensive income:                                
Net income                      24.4       24.4 
Fair value change of cash flow hedges                          0.2   0.2 
Amortization of interest rate swap loss                          0.5   0.5 
                                 
Comprehensive income                 24.4   0.7   25.1 
Dividends on $25 par preferred stock ($1.00/share)                      (0.2)      (0.2)
Dividends on series C cumulative preferred stock ($21.25/share)                      (8.5)      (8.5)
Options exercised and stock subscribed                  42.0           42.0 
Stock plan shares issued from treasury                  2.4           2.4 
                                 
Balance at December 31, 2004
  6.1   0.4      0.6   155.3   853.9   0.2   1,016.5 
                                 
Comprehensive income:                                
Net income                      100.9       100.9 
Fair value change of cash flow hedges                          (1.1)  (1.1)
Amortization of interest rate swap loss                          0.5   0.5 
                                 
Comprehensive income                 100.9   (0.6)  100.3 
Dividends on $25 par preferred stock ($1.00/share)                      (0.2)      (0.2)
Dividends on series C cumulative preferred stock ($21.25/share)                      (8.5)      (8.5)
Options exercised and stock subscribed                  8.3           8.3 
Stock plan shares issued from treasury                  2.3           2.3 
Share-based compensation                  1.5           1.5 
Stock issued in acquisition of Grupo KCSM              0.2   304.2           304.4 
Issuance of series D cumulative preferred stock          0.2       201.8           202.0 
Repurchase of $.01 par common stock              (0.1)  (200.3)          (200.4)
                                 
Balance at December 31, 2005
  6.1   0.4   0.2   0.7   473.1   946.1   (0.4)  1,426.2 
                                 
Comprehensive income:                                
Net income                      108.9       108.9 
Amortization of interest rate swaps                          0.4   0.4 
                                 
Comprehensive income                 108.9   0.4   109.3 
Dividends on $25 par preferred stock ($1.00/share)                      (0.2)      (0.2)
Dividends on series C cumulative preferred stock ($5.31/share)                      (2.1)      (2.1)
Dividends on series D cumulative preferred stock ($9.40/share)                      (2.0)      (2.0)
Stock issued for repayment of debt                  35.0           35.0 
Options exercised and stock subscribed                  8.6           8.6 
Tax benefit of share-based compensation                  2.0           2.0 
Share-based compensation                  4.3           4.3 
Adjustment to adopt FASB Statement No. 158, net of tax of $.8 million                          1.3   1.3 
                                 
Balance at December 31, 2006
 $6.1  $0.4  $0.2  $0.7  $523.0  $1,050.7  $1.3  $1,582.4 
                                 
                                     
     $1 Par Cumulative
           Accumulated
       
  $25 Par
  Preferred Stock  $.01 Par
        Other
       
  Preferred
  Series C
  Series D
  Common
  Paid in
  Retained
  Comprehensive
  Noncontrolling
    
  Stock  4.25%  5.125%  Stock  Capital  Earnings  Income (Loss)  Interest  Total 
              In millions          
 
Balance at December 31, 2006
 $6.1  $0.4  $0.2  $0.7  $523.0  $1,050.7  $1.3  $100.3  $1,682.7 
Comprehensive income:                                    
Net income                      153.8       0.4   154.2 
Prior service cost and amortization net of tax of $0.6 million                          (0.9)      (0.9)
                                     
Comprehensive income                 153.8   (0.9)  0.4   153.3 
Contributions from noncontrolling interest                              143.4   143.4 
Distribution to noncontrolling interest                              (1.1)  (1.1)
Dividends on $25 par preferred stock ($1.00/share)                      (0.2)          (0.2)
Dividends on series C cumulative preferred stock ($37.53/share)                      (15.0)          (15.0)
Dividends on series D cumulative preferred stock ($90.67/share)                  11.0   (19.1)          (8.1)
Options exercised and stock subscribed              0.1   2.0               2.1 
Tax benefit from share-based compensation                  2.4               2.4 
Share-based compensation                  11.1               11.1 
Adjustment to income tax payable upon adoption of certain provisions of FASB ASC740-10 (formerly FIN 48)
                      (1.3)          (1.3)
                                     
Balance at December 31, 2007
  6.1   0.4   0.2   0.8   549.5   1,168.9   0.4   243.0   1,969.3 
                                     
Comprehensive income:                                    
Net income                      183.9       0.3   184.2 
Unrealized gain (loss) on cash flow hedges, net of tax of $(2.1) million                          (3.4)      (3.4)
Reclassification adjustment from cash flow hedges included in net income, net of tax of $(0.2) million                          (0.3)      (0.3)
Prior service cost amortization and adjustment, net of tax of $0.1 million                          0.6       0.6 
Cumulative translation adjustment — FTVM, net of tax of $(1.1) million                          (2.9)      (2.9)
                                     
Comprehensive income                 183.9   (6.0)  0.3   178.2 
Contributions from noncontrolling interest                              30.9   30.9 
Distribution to noncontrolling interest                              (0.5)  (0.5)
Conversion of Series C cumulative convertible preferred stock      (0.4)      0.1   0.3                
Dividends on $25 par preferred stock ($1.00/share)                      (0.2)          (0.2)
Dividends on series C cumulative preferred stock ($10.62/share)                      (4.2)          (4.2)
Dividends on series D cumulative preferred stock ($51.24/share)                      (10.8)          (10.8)
Options exercised and stock subscribed                  9.5               9.5 
Tax benefit from share-based compensation                  5.6               5.6 
Share-based compensation                  7.4               7.4 
                                     
Balance at December 31, 2008
  6.1      0.2   0.9   572.3   1,337.6   (5.6)  273.7   2,185.2 
                                     
Comprehensive income:                                    
Net income                      68.0       1.0   69.0 
Unrealized gain (loss) on cash flow hedges, net of tax of $(0.9) million                          (1.6)      (1.6)
Reclassification adjustment from cash flow hedges included in net income, net of tax of $1.3 million                          2.3       2.3 
Prior service cost amortization net of tax of $(0.1) million                          (0.2)      (0.2)
Cumulative translation adjustment — FTVM, net of tax of $(0.1) million                          0.7       0.7 
                                     
Comprehensive income                 68.0   1.2   1.0   70.2 
Contributions from noncontrolling interest                              9.6   9.6 
Distribution to noncontrolling interest                              (1.5)  (1.5)
Common stock issued                  73.9               73.9 
Dividends on $25 par preferred stock ($1.00/share)                      (0.2)          (0.2)
Dividends on series D cumulative preferred stock ($51.24/share)                      (10.8)          (10.8)
Options exercised and stock subscribed                  3.8               3.8 
Tax benefit from share-based compensation                  1.5               1.5 
Share-based compensation                  9.9               9.9 
                                     
Balance at December 31, 2009
 $6.1  $  $0.2  $0.9  $661.4  $1,394.6  $(4.4) $282.8  $2,341.6 
                                     
 
See accompanying notes to consolidated financial statements.


6255


Kansas City Southern
 
Notes to Consolidated Financial Statements
 
Note 1.  Description of the Business
 
Kansas City Southern (“KCS” or the “Company”), a Delaware corporation, was initially organized in 1962 as Kansas City Southern Industries, Inc. In 2002, the Company formally changed its name to Kansas City Southern. KCS is a holding company with principal operations in rail transportation.
 
UntilThe Company is engaged primarily in the second quarter of 2005, KCS operatedfreight rail transportation business operating through a single coordinated rail network under one reportable business segment. Effective January 1, 2008, the Company realigned its segments into one reportable segment into reflect the strategic focus on the single coordinated rail transportation industry. Beginning innetwork. Prior to January 1, 2008, the second quarter of 2005, withCompany reported two segments. All prior period segment information has been recast to conform to the acquisition of a controlling interest in Grupo KCSM, KCS began operating under two reportable business segments, which are defined geographically as United States (U.S.) and Mexico. In both the U.S. and the Mexico segments, thecurrent year presentation.
The Company generates revenues and cash flows by providing its customers with freight delivery services both within its regions, and throughout North America through connections with other Class I rail carriers. KCS’ customers conduct business in a number of different industries, including electric-generating utilities, chemical and petroleum products, paper and forest products, agriculture and mineral products, automotive products and intermodal transportation.
 
KCS’ principal geographic business segments includeThe primary subsidiaries of the Company consist of the following:
U.S. Segment.
 
 • The Kansas City Southern Railway Company (“KCSR”), a wholly-owned consolidated subsidiary;
• Kansas City Southern de México, S.A. de C.V. (“KCSM”), is a wholly-owned subsidiary which operates under the rights granted by the Concession acquired from the Mexican government in 1997 (the “Concession”) as described below;
 
 • Mexrail, Inc. (“Mexrail”), a wholly-owned consolidated subsidiary; which wholly owns The Texas Mexican Railway Company (“Tex-Mex”);
 
 • Meridian Speedway, LLC (“MSLLC”), a ninetyseventy-two percent owned consolidated affiliate.
• Combined On December 1, 2005, KCS and KCSR entered into a transaction agreement with equity investments in:Norfolk Southern Corporation (“NS”) and its wholly-owned subsidiary, The Alabama Great Southern Railroad Company (“AGS”), providing for the formation of a limited liability company between the parties relating to the ownership and improvement of the KCSR rail line between Meridian, Mississippi and Shreveport, Louisiana, which is the portion of the KCSR rail line between Dallas, Texas and Meridian known as the “Meridian Speedway”;
Combined with equity investments in:
 
• Southern Capital Corporation, LLC (“Southern Capital”), a fifty percent owned unconsolidated affiliate that owns and leases locomotives and other rail equipment;
 • Panama Canal Railway Company (“PCRC”), a fifty percent owned unconsolidated affiliate which owns all of the common stock of Panarail Tourism Company (“Panarail”).
Mexico Segment.
• Grupo KCSM, S.A. de C.V. (“Grupo KCSM”), a wholly-owned subsidiary, formerly known as Grupo Transportación Ferroviaria Mexicana, S.A. de C.V., is KCS’ Mexican holding company which owns all but one share of Kansas City Southern de México, S. de R.L. de C.V. (“KCSM”).
• KCSM which is the principal operating subsidiary of Grupo KCSM operates under the rights granted by the Concession acquired from the Mexican government in 1997 (“the Concession”) as described below.;
 
 • Arrendadora KCSM, S.A. de C.V.Southern Capital Corporation, LLC (“Arrendadora”Southern Capital”), is wholly-owned by Grupo KCSMa fifty percent owned unconsolidated affiliate that owns and KCSM and has as its only operation, the leasing to KCSM of theleases locomotives and freight cars acquired through the privatization and subsequently sold to Arrendadora by KCSM.other equipment;
 
 • Ferrocarril y Terminal del Valle de México, S.A. de C.V. (“FTVM”), a twenty fivetwenty-five percent owned unconsolidated affiliate that provides railroad services as well as ancillary services in the greater Mexico City area.
 
KCS completed its acquisition of control of Grupo KCSM, S.A. de C.V. (“Grupo KCSM”), formerly known as Grupo Transportación Ferroviaria Mexicana, S.A. de C.V., or Grupo TFM on April 1, 2005, and Grupo KCSM became a consolidated subsidiary of KCS. On September 12, 2005, the Company and its subsidiaries, Grupo KCSM and KCSM, along with the Mexican holding company Grupo TMM, S.A. (“TMM”), entered into a settlement


63


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)

agreement with the Mexican government resolving the controversies and disputes between the companies and the Mexican government concerning the payment of a VAT refund to KCSM and the


56


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)
purchase of the remaining shares of KCSM owned by the Mexican government. As a result of this settlement, KCS wholly owns Grupo KCSM and KCSM. Grupo KCSM andwas merged with KCSM constituted 53% of consolidated assets at December 31, 2006 and 47% of 2006 consolidated revenues.effective May 8, 2007.
 
The KCSM Concession.  KCSM holds a Concessionconcession from the Mexican government (the “Concession”) until June 2047 (exclusive through 2027, subject to certain trackage rights)and haulage rights granted to other concessionaires), which is renewable under certain conditions for additional periods of up to 50 years. The Concession is to provide freight transportation services over rail lines which are a primary commercial corridor of the Mexican railroad system. These lines include the shortest, most direct rail passageway between Mexico City and Laredo, Texas and serve most of Mexico’s principal industrial cities and three of its major shipping ports. KCSM has the right to use, but does not own, all track and buildings that are necessary for the rail lines’ operation. The CompanyKCSM is obligated to maintain the right of way, track structure, buildings and related maintenance facilities to the operational standards specified in the concessionConcession agreement and to return the assets in that condition at the end of the Concession period. KCSM is required to pay the Mexican government a concession duty equal to 0.5% of gross revenues during the first 15 years of the concessionConcession period and 1.25% of such revenues during the remainder of the period.
 
Under the Concession and Mexican law, the Company may freely set rates unless the Mexican government determines that there is no effective competition in Mexico’s rail industry. KCSM is required to register its rates with the Mexican government and to provide railroad services to all users on a fair and non-discriminatory basis and in accordance with efficiency and safety standards approved periodically by the Mexican government. In the event that rates charged are higher than the registered rates, KCSM must reimburse customers with interest, and risk the revocation of the Concession.
 
Mexican railroad services lawRailroad Services Law and regulations and the Concession establish several circumstances under which the Concession will terminate: revocation by the Mexican government, statutory appropriation, or KCSM’s voluntary surrender of its rights or liquidation or bankruptcy. The Concession requires the undertaking of capital projects, including those described in a business plan filed every five years with the Mexican government. KCSM filed its secondthird business plan with the Mexican government in 2003December 2007 in which KCSM committed to certain minimalminimum investment and capital improvement goals, which may be waived by the Mexican government upon application for relief for good cause. Mexico may also revoke KCSM’s exclusivity after 20172027 if it determines that there is insufficient competition.
 
The Concession is subject to early termination or revocation under certain circumstances. In the event that the Concession is revoked by the Mexican government, KCSM will receive no compensation. Rail lines and all other fixtures covered by the Concession, as well as all improvements made by KCSM or third parties, will revert to the Mexican government. All other property not covered by the Concession, including all locomotives and railcars otherwise acquired, will remain KCSM’s property. The Mexican government will have the right to cause the CompanyKCSM to lease all service-related assets to it for a term of at least one year, automatically renewable for additional one-year terms up to five years. The Mexican government must exercise this right within four months after revocation of the Concession. In addition, the Mexican government will have a right of first refusal with respect to certain transfers by KCSM of railroad equipment within 90 days after any revocation of the Concession. The Mexican government may also temporarily seize the rail lines and assets used in operating the rail lines in the event of a natural disaster, war, significant public disturbances, or imminent danger to the domestic peace or economy for the duration of any of the foregoing events. Further,events; provided, however, that Mexican law requires that the Mexican government pay KCSM compensation equal to damages caused and losses suffered if it effects a statutory appropriation for reasons of the public interest. These payments may not be sufficient to compensate the Company for its losses and may not be timely made.
 
Employees and Labor Relations.  Labor relations in the U.S. railroad industry are subject to extensive governmental regulation under the Railway Labor Act (“RLA”). Under the RLA, national labor agreements are renegotiated on an industry-wide scale when they become open for modification, but their terms remain in effect until new agreements are reached. Typically, neither management nor labor employees are permitted to take economicreached or the RLA’s procedures (which include mediation, cooling-off


6457


 
Kansas City Southern
 
Notes to Consolidated Financial Statements — (Continued)

action until extended procedures
periods, and the possibility of presidential intervention) are exhausted. Various collective bargaining agreements cover approximately 81%Contract negotiations with the various unions generally take place over an extended period of KCSR employees.
Undertime and the negotiating process for new collective bargaining agreements which began on November 1, 1999, all U.S. unions reached new labor agreements with KCSR in 2005.Company rarely experiences work stoppages during negotiations. Wages, health and welfare benefits, work rules and other issues have traditionally been negotiated on anaddressed during these negotiations.
Approximately 80% of KCSR employees are covered by various collective bargaining agreements. KCSR participates in industry-wide scale. Previously, these negotiations, which can take place over significant periodsbargaining as a member of time, havethe National Carriers’ Conference Committee. A negotiating process for new, major collective bargaining agreements covering all of KCSR’s union employees has been underway since the bargaining round was initiated in November of 2009. Long term settlement agreements were reached during 2007 and 2008 covering all of KCSR’s unionized work force through January 1, 2010. The union labor negotiation has not historically resulted in any extended work interruptions.strike, boycott, or other disruption in the Company’s business operations. The existing agreementsCompany does not believe the expected settlements will remain in effect until new agreements are reached orhave a material impact to the RLA’s procedures are exhausted. Until new agreements are reached, the current agreements provide for periodic wage adjustments.consolidated financial statements.
 
AKCSM union employees are covered by one labor agreement, covering approximately 75%which was signed on June 23, 1997, between KCSM and the Sindicato de Trabajadores Ferrocarrileros de la República Mexicana (Mexican Railroad Union), for a term of KCSM’s total50 years, for the purpose of regulating the relationship between the parties and improving conditions for the union employees. Approximately 80% of KCSM employees was renewed in 2005 and is effective through July 2007.are covered by this labor agreement. The compensation terms of theunder this labor agreement are subject to renegotiation on an annual basis and all other terms are renegotiatedsubject to negotiation every two years. These negotiations haveIn June of 2009, the negotiation of the compensation terms and all other benefits was started with the Mexican Railroad Union. The union labor negotiation with the Mexican Railroad Union has not historically resulted in any strikes, boycottsstrike, boycott, or other disruption in KCSM’s business operations. KCSM does not believe the expected settlements will have a material disruptions at KCSM.impact to the consolidated financial statements.
 
Note 2.  Significant Accounting Policies
 
Principles of Consolidation.  The accompanying consolidated financial statements are presented using the accrual basis of accounting and include the Company and its majority owned subsidiaries. All significant intercompany accounts and transactions have been eliminated. Certain prior year amounts have been reclassified to conform to the current year presentation.
 
The equity method of accounting is used for all entities in which the Company or its subsidiaries have significant influence, but not more than fifty percent voting interest; and the cost method of accounting is generally used for investments of less than twenty percent votinga controlling interest. The companyCompany evaluates less than majority owned investments for consolidation pursuant to FASB Interpretation No. 46 (Revised 2003).consolidation and variable interest entity guidance. The Company currently does not have any less than majority owned investments requiring consolidation.
 
GoodwillBasis of Presentation.  During the third quarter of 2009, the Company identified that changes in accounts payable and Other Intangible Assets.  Goodwill representsaccrued liabilities related to capital spending had not been correctly presented in the excess ofCompany’s prior period consolidated cash flow statements. Changes in these accruals had previously been classified within cash flows from operating activities and should have been classified as capital expenditures within investing activities, in order to report capital expenditures on a cash basis rather than on an accrual basis. The accompanying consolidated cash flow statements have been revised to present capital expenditures on a cash basis for the purchase price over the fair value of the net identifiable assets acquired in a business combination. As ofyears ended December 31, 20062008 and 2005,2007. This revision did not impact the goodwill balance was $10.6change in cash and cash equivalents as previously reported, however, net cash provided by operating activities decreased by $42.7 million, which is included in other assets infrom $455.7 million to $413.0 million and capital expenditures and cash used by investing activities decreased by $42.7 million from $580.7 million to $538.0 million for the year ended December 31, 2008. For the year ended December 31, 2007, net cash provided by operating activities decreased by $13.7 million from $381.5 million to $367.8 million and capital expenditures and cash used by investing activities decreased by $13.7 million from $380.5 million to $366.8 million. This revision did not impact operating income or net income, working capital, any earnings per share measures as previously reported.


58


Kansas City Southern
Notes to Consolidated Balance Sheet. In accordance with Statement of Financial Accounting Standards No. 142 “Goodwill and Other Intangible Assets”, goodwill and intangible assets with indefinite useful lives are not amortized, but are reviewed at least annually for impairment. An impairment loss would be recognized to the extent that the carrying amount exceeds the assets’ fair value. Intangible assets with estimable useful lives are amortized on a straight-line basis over their respective useful lives. The Company performed its annual impairment test for goodwill as of September 30, 2006 and there was no indication that goodwill was impaired.Statements — (Continued)
 
Use of Estimates.  The accounting and financial reporting policies of the Company conform to accounting principles generally accepted in the United States (“U.S. GAAP”). The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Management reviews itsSignificant items subject to such estimates includingand assumptions include those related to the recoverability and useful lives of assets, as well as liabilities for litigation, environmental remediation, casualtypersonal injury claims, and income taxes.deferred tax assets. Changes in facts and circumstances may result in revised estimates. Actual results could differ from those estimates.
Currency Translation.  For tax purposes, Grupo KCSM and its subsidiaries are required to maintain their books and records in Mexican pesos. For financial reporting purposes, Grupo KCSM and its subsidiaries maintain records in U.S. dollars, which is the functional currency. The dollar is the currency that reflects the economic substance of the underlying events and circumstances relevant to the entity (i.e., historical cost convention). Monetary assets and liabilities denominated in pesos are translated into dollars using current exchange rates. The difference between the exchange rate on the date of the transaction and the exchange rate


65


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)

on the settlement date, or balance sheet date if not settled, is included in the income statement as other income.
 
Revenue Recognition.  The Company recognizes freight revenue based upon the percentage of completion of a commodity movement as a shipment moves from origin to destination, with the related expense recognized as incurred. Other revenues, in general, are recognized when the product is shipped, as services are performed or contractual obligations fulfilled.
 
Foreign Exchange Gain (Loss).  For financial reporting purposes, KCSM and its subsidiaries maintain records in U.S. dollars, which is the functional currency. The dollar is the currency that reflects the economic substance of the underlying events and circumstances relevant to the entity. Monetary assets and liabilities denominated in pesos are remeasured into dollars using current exchange rates. The difference between the exchange rate on the date of the transaction and the exchange rate on the settlement date, or balance sheet date if not settled, is included in the income statement as foreign exchange gain or loss. For tax purposes, KCSM and its subsidiaries are required to maintain their books and records in Mexican pesos.
Cash Equivalents.  Short-term liquid investments with an initial maturity of three months or less when purchased are classified as cash and cash equivalents.
 
Accounts Receivable, net.  Accounts receivable are net of an allowance for uncollectible accounts as determined by historical experience and adjusted for economic uncertainties or known trends. Accounts are charged to the allowance when a customer enters bankruptcy, when an account has been transferred to a collection agent or submitted for legal action, or when a customer is significantly past due and all available means of collection have been exhausted. At December 31, 20062009 and 2005,2008, the allowance for doubtful accounts was $31.4$6.4 million and $24.1$8.7 million, respectively. Bad debt expense was $10.8 million and $15.2$1.8 million for the year ended December 31, 2006 and 2005, respectively.2009. For the year ended December 31, 2008, accounts receivable allowance recovery was $0.5 million.
 
Restricted FundsFunds.  JSIB Consulting.  In connection with KCS’ acquisition of the controlling interest in Grupo KCSM, KCS entered into a consulting agreement with José F. Serrano International Business, S.A. de C.V. (“JSIB”), a consulting company controlledRestricted funds represents cash held by Jose Serrano, Chairman of the Board of TMM, which became effective April 1, 2005. Under this agreement, JSIB will provide consulting services to KCS in connection with its Mexico business for a period of three years. As consideration for these services, JSIB receives an annual fee of $3.0 million. The consulting agreement required KCS to deposit the total amount of annual fees payable under the agreement ($9.0 million) in cash to be held and released in accordance with the consulting agreement. On January 12, 2006, the first $3.0 million annual fee was released from the escrow account. Accordingly the balance in restricted funds was $6.0 million on December 31, 2006, of which $3.0 million was included in current assets and $3.0 million was included in other assets. JSIB directs the investment of the escrow fund and all gains and losses in the fund accrue to JSIB’s benefit.
Restricted Funds — MSLLC.  On December 1, 2005, KCS and KCSR entered into a transaction agreement with Norfolk Southern Corporation (“NS”) and its wholly-owned subsidiary, The Alabama Great Southern Railroad Company (“AGS”), providing for the formation of a limited liability company between the parties relating to the ownership and improvement of the KCSR rail line between Meridian, Mississippi and Shreveport, Louisiana,MSLLC which is the portion of the KCSR rail line between Dallas, Texas and Meridian known as the “Meridian Speedway”.
In connection with the formation of MSLLC, NS, through AGS, contributed $100.0 million to MSLLC, representing the initial NS investment in the joint venture. MSLLC commenced operations on May 1, 2006. NS’ initial investment, $76.5 million was distributed to KCS as reimbursement for capital expenditures incurred and paid by KCS for MSLLC during 2006. KCS has classified the remaining balance of $23.5 million, as funds restricted for payment ofuse by KCS. These funds are restricted until they are used by MSLLC capital assets at December 31, 2006. Substantially all of these funds will be used for capital improvements on the Meridian Speedway. NS has a binding commitment to fund additional cash contributions of $200 million, subject to the terms of the agreement, reflecting an ultimate ownership of 30% in MSLLC, once funded.
 
Inventories.Materials and Supplies.  InventoriesMaterials and supplies consisting of diesel fuel, items to be used in the maintenance of rolling stock and items to be used in the maintenance or construction of road property are valued at the lower of average cost or market.
 
Derivative Instruments.  Statement of Financial Accounting Standards No. 133, “Accounting for Derivative InstrumentsDerivatives are measured at fair value and Hedging Activities”, as amended, requires that derivatives be recorded on the balance


66


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)

sheet as either assets or liabilities measured at fair value.liabilities. Changes in the fair value of derivatives are recorded either through current earnings or as other comprehensive income, depending on hedge designation. Gains and losses on derivative instruments classified as cash flow hedges are reported in other comprehensive income and are reclassified into earnings in the periods in which earnings are impacted by the variability of the cash flow of the hedged item. The ineffective portion of all hedge transactions is recognized in current period earnings.
 
PropertiesProperty and Depreciation.Equipment (including Concession Assets).  Properties are stated at cost less accumulated depreciation. AdditionsKCS capitalizes costs for self-constructed additions and renewals,improvements to property including those on leaseddirect labor and material, indirect overhead costs, and interest during long-term construction projects. For purchased assets, that increase the life or utility ofall costs necessary to make the asset are capitalized and all properties are depreciated over the estimated remaining life or lease term of such assets, whichever is shorter. The Company capitalizes certain overhead costs representing the indirect costs associated with construction and improvement projects using the full absorption method. Overhead factors are periodically reviewed and adjusted to reflect current costs. Depreciationready for railway operating assets is derived using the group-life method. This method classifies similar assets by equipment or road type and depreciates these assets as a whole. Repairs and maintenance costs are charged to expense as incurred.
The ranges of annual depreciation rates for financial statement purposes are: road and structures — 1% to 4%, rolling stock and equipment — 2% to 14%, computer software — 8% to 14%, and capitalized leases — 3% to 7%.
The cost of transportation equipment and road property normally retired, less salvage value, is charged to accumulated depreciation. The cost of industrial and other property retired, and the cost of transportation property abnormally retired, together with accumulated depreciation thereon, is eliminated from the property accounts and the related gains or losses are reflected in net income. Gains or losses recognized on the sale of non-operating property reflected in other income are not material for the periods presented.
KCSR Depreciation Review.  During the year ended December 31, 2006, KCSR engaged a civil engineering firm with expertise in railway property usage to conduct a study to evaluate depreciation rates for properties and equipment. The study centered on evaluating actual historical replacement patterns to assess future lives and indicated that KCSR was depreciating its property over shorter periods than the assets were actually used, as estimated by the study. The effect of this change in estimate was a $3.0 million decrease in depreciation expense for the year ended December 31, 2006.
KCSM Depreciation Review.  For the year ended December 31, 2005, KCSM adopted the group depreciation method for consistency with KCSR. Accordingly, changes were made to certain historical depreciation rates. During the year ended December 31, 2005, KCSM engaged a civil engineering firm with expertise in railway property usage to conduct an analysis of depreciation rates for properties and equipment. The analysis centered on evaluating actual historical replacement patterns to assess future lives and indicated that KCSM was depreciating its property over shorter periods than actually utilized. As a result, depreciation expense recorded in the fourth quarter of 2005 reflected an adjustment totaling $5.5 million to reduce depreciation expense recorded in the second and third quarters of 2005. Concession rights and related assets are amortized over the shorter of their remaining useful lives as determined by the KCSM depreciation review or the life of the Concession.
Concession Rights and Related Assets.  Costs incurred by the Company to acquire the Concession rights and related assets were capitalized and are amortized over the estimated useful lives of the related assets and rights acquired. Concession replacements and improvements are stated at cost. Major repairs and track rehabilitation are capitalized. Amortization is calculated using the straight-line method based on the estimated useful lives of the respective improvements, or the term of the Concession if shorter.
Computer Software Costs.  Costs incurred in conjunction with the purchase or development of computer software for internalintended use are capitalized. Costs incurred in the preliminary project stage, as well as trainingProperty and maintenance costs, are expensed as incurred. Directequipment is carried at cost and indirect costs associated with the applicationis depreciated on a


6759


 
Kansas City Southern
 
Notes to Consolidated Financial Statements — (Continued)

development stage of internal use software are capitalized until such time that the software is substantially complete and ready for its intended use. Capitalized costs are amortized on a
straight-line basis over their estimated service lives measured in years. Expenditures that significantly increase asset values or extend useful lives are capitalized. Repair and maintenance costs are expensed as incurred.
Costs incurred by the Company to acquire the Concession rights and related assets, as well as subsequent improvements to the concession assets, are capitalized and amortized over the lesser of the current expected Concession term, including probable renewal, or the estimated useful lives of the assets and rights.
KCS follows the group method of depreciation which applies a composite rate to classes of similar assets rather than to individual assets. Composite depreciation rates are based upon estimates of the expected average service lives of assets as well as expected salvage value at the end of their useful lives. The estimated average service lives of assets and salvage values are determined through periodic depreciation studies. Depreciation rate studies are performed every three years for equipment and every six years for road property (rail, ties, ballast, etc.). The depreciation studies take into account factors such as:
• Statistical analysis of historical patterns of use and retirements of each asset class;
• Evaluation of any expected changes in current operations and the outlook for the continued use of the assets;
• Evaluation of technological advances and changes to maintenance practices; and
• Historical and expected salvage to be received upon retirement.
Also under the group method of depreciation, the cost of railroad property and equipment (net of salvage) retired or replaced in the normal course of business is charged to accumulated depreciation with no gain or loss recognized. Gains or losses on dispositions of land or non-railroad property and abnormal retirements of railroad property are recognized through income. A retirement of railroad property would be considered abnormal if the cause of the retirement is unusual in nature and its service life is significantly shorter than what would be expected for that group based on the depreciation studies. An abnormal retirement could cause the Company to reevaluate the estimated useful life of the software.impacted asset class.
 
Long-Lived Assets.  The Company evaluatesLong-lived assets are reviewed for impairment when events or circumstances indicate that the recoverabilitycarrying amount of its properties when there is an indication that an asset value has been impaired. The measurement of possiblemay not be recoverable. If impairment is based primarily onindicators are present and the ability to recoverestimated future undiscounted cash flows are less than the carrying value of the asset from expected future operating cash flowslong-lived assets, the carrying value is reduced to the estimated fair value.
Goodwill and Other Intangible Assets.  Goodwill represents the excess of the purchase price over the fair value of the net identifiable assets acquired in a business combination. As of December 31, 2009 and 2008, the goodwill balance was $10.6 million which is included in other assets in the consolidated balance sheet. Goodwill and intangible assets with indefinite useful lives are not amortized, but are reviewed at least annually, or more frequently as indicators warrant for impairment. An impairment loss would be recognized to the extent that the carrying amount exceeds the assets’ fair value. In previous years, the Company completed its annual impairment review for goodwill using a measurement date of September 30th. During September 2009, the Company changed its impairment testing to the fourth quarter, using a measurement date of November 30th to more closely align the impairment testing date with the Company’s long-range planning and forecasting process, which is used as a basis for performing the annual impairment testing. The Company believes that the resulting change in accounting principle related to the assets on an undiscounted basis. There were no assets requiringannual impairment testing date will not delay, accelerate, or avoid an impairment adjustment at December 31, 2006.charge. The Company determined that the change in accounting principle related to the impairment testing date is preferable under the circumstances. The Company performed its annual impairment review of goodwill and concluded there was no impairment in 2009 and 2008.
Noncontrolling Interests.  Effective January 1, 2009, the Company adopted, on a prospective basis, new accounting guidance on noncontrolling interests in consolidated financial statements, except for the presentation and disclosure requirements, which apply retrospectively. As a result of the adoption, the Company


60


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)
reported noncontrolling interests as a separate component of equity in the consolidated balance sheets and the net income or loss attributable to noncontrolling interests is separately identified in the consolidated statements of income. Prior period amounts have been reclassified to conform to the current period presentation. These reclassifications did not have any impact on the Company’s previously reported results of operations.
 
Fair Value of Financial Instruments.  Effective January 1, 2009, KCS adopted the guidance prospectively for non-financial assets and liabilities recognized at fair value on a nonrecurring basis. These assets and liabilities are measured at fair value on an ongoing basis but are subject to fair value only in certain circumstances. Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. The Company’sCompany determines the fair values of its financial instruments include cash and cash equivalents, accounts receivable, lease and contract receivables, accounts payable and long-term debt as described in Note 6.
The financial statement carrying value of the Company’s cash equivalents approximates fair value due to their short-term nature. Carrying value approximates fair value for all financial instruments with six months or less to re-pricing or maturity and for financial instruments with variable interest rates. The Company estimatesbased on the fair value hierarchy which requires an entity to maximize the use of long-term debtobservable inputs and minimize the use of unobservable inputs when measuring fair value. The hierarchy is broken down into three levels based upon borrowing rates available at the reporting dateobservability of inputs. Fair values determined by Level 1 inputs utilize quoted prices (unadjusted) in active markets for indebtedness with similar terms and average maturities. Based upon the borrowing rates currently available toidentical assets or liabilities that the Company has the ability to access. Level 2 inputs include quoted prices for similar assets and its subsidiariesliabilities in active markets, and inputs other than quoted prices that are observable for indebtedness with similar termsthe asset or liability. Level 3 inputs are unobservable inputs for the asset or liability, and average maturities,include situations where there is little, if any, market activity for the asset or liability. In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, the level in the fair value hierarchy within which the fair value measurement in its entirety falls has been determined based on the lowest level input that is significant to the fair value measurement in its entirety. The Company’s assessment of long-term debt was $1,814.1 millionthe significance of a particular input to the fair value in its entirety requires judgment and $1,938.6 million at December 31, 2006 and 2005, respectively. The financial statement carrying value was $1,757.0 million and $1,860.6 million at December 31, 2006 and 2005, respectively.considers factors specific to the asset or liability.
 
Environmental Liabilities.  The Company records liabilities for remediation and restoration costs related to past activities when the Company’s obligation is probable and the costs can be reasonably estimated. Costs of future expenditures for environmental remediation are not discounted to their present value. Recoveries of environmental remediation costs from other parties are recorded as assets when their receipt is deemed probable. Costs of ongoing compliance activities related to current operations are expensed as incurred.
 
CasualtyPersonal Injury Claims.  CasualtyPersonal injury claims in excess of self-insurance levels are insured up to certain coverage amounts, depending on the type of claim and year of occurrence. The Company’s casualty liabilitypersonal injury reserve is based on a study by an independent third party actuarial firmstudies performed on an undiscounted basis. The reserve is based on claims filed and an estimate of claims incurred but not yet reported. While the ultimate amount of claims incurred is dependent on various factors, it is management’s opinion that the recorded liability is a reasonable estimate of aggregate future claims. Adjustments to the liability will be reflected as operating expenses in the period in which the adjustments are known. Legal fees related to casualtypersonal injury claims are recorded in operating expense in the period incurred.
 
PensionHealth and Other PostretirementWelfare and KCSM Post-Employment Benefits.  The Company provides certain medical, life and other postretirementpost-employment benefits to certain active employees and retirees. The Company uses third party actuaries to assist management in estimating liabilitiesmeasuring the benefit obligation and expenses for pension and other post retirement benefits. Estimate amounts arecost based on the current plan provisions, employee demographics, and historical information, current informationassumptions about financial and estimates regardingdemographic factors affecting the probability, timing and amount of expected future events and circumstances.benefit payments. Significant assumptions used in the valuation of pension and other postretirement liabilities include the expected return on plan assets (if funded), discount rate, rate of increase in compensation levels, and the healthheath care cost trend rate. Actuarial gains and losses determined at the measurement date (typically December 31) are recognized immediately in the consolidated statement of income.
 
KCSM Employees’ Statutory Profit Sharing.  KCSM is subject to employee statutory profit sharing requirements under Mexican law and calculates profit sharing liability as 10% of KCSM net taxable income, adjusted as prescribed by the Mexican income tax law. In calculating its net taxable income forDeferred employees’ statutory profit sharing purposes, KCSM previously deducted NOL carryforwards. The application of NOL carryforwards can result in a deferred profit sharing asset for a given period rather than a profit sharing liability. Due to decisions by the Mexican Supreme Court in 2005 declaring that NOLs from previous years may not be deducted, KCSMis


6861


 
Kansas City Southern
 
Notes to Consolidated Financial Statements — (Continued)

changed
accounted for using the liability method of calculating its statutory profit sharing liability. KCSM no longer deducts NOLs from prior years when calculating employee statutory profit sharing. This change required KCSM to write off its deferred tax assets related to statutory profit sharing resulting in a chargemanner similar to operating expensesincome taxes and included as a component of $35.6 million in 2005, after purchase accounting adjustments.compensation and benefits within the consolidated statement of income.
 
Share-Based Compensation.  Effective January 1, 2006, theThe Company accounts for all share-based compensation in accordance with the fair value recognition provisions of Statement of Financial Accounting Standards No. 123R (Revised) “Share-Based Payments” (“SFAS 123R”).provisions. Under this method, compensation expense is measured at grant date based on the then fair value of the award and is recognized over the requisite service period in which the award is earned. The Company has elected to adopt SFAS 123R on a modified prospective basis, which requires that all new awards and modified awards after the effective date and any unvested awards at the effective dateForfeitures are recognized as compensation cost ratably over the option vesting period. SFAS 123R requires forfeitures to be estimated at the time of the grant and revised, ifas necessary, in subsequent periods should actual forfeitures differ from those estimates. In accordance with the modified prospective transition method, the Company’s Consolidated Financial Statements for prior years have not been restated to reflect, and do not include, the impact of SFAS 123R.
Prior to the adoption of SFAS 123R, the Company accounted for share-based compensation in accordance with Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” (“APB 25”) and followed the pro forma disclosure requirements set forth in Statement of Financial Accounting Standards No. 123 “Accounting for Stock-Based Compensation” (“SFAS 123”). Under this method, compensation expense was recognized ratably over the option vesting period if an option exercise price was less than the market price of the stock at the date of grant. KCS’ practice was to set the option exercise price equal to the market price of the stock at the date of grant; therefore, no compensation expense was recognized for financial reporting purposes.
The following table illustrates the effect on net income and earnings per share if the Company had applied the fair value recognition provisions of SFAS 123 to share-based employee compensation prior to January 1, 2006:
         
  2005  2004 
 
Net income (in millions):
        
As reported $100.9  $24.4 
Additional stock-based compensation expense determined under fair value method, net of income taxes  (0.8)  (1.6)
         
Pro forma $100.1  $22.8 
         
Earnings per basic share:
        
As reported $1.21  $0.25 
Pro forma  1.20   0.22 
Earnings per diluted share:
        
As reported $1.10  $0.25 
Pro forma  1.07   0.22 
All shares held in the Employee Stock Ownership Plan (“ESOP”) are treated as outstanding for purposes of computing the Company’s earnings per share. See additional information in Note 9.
 
The Company issues treasury stock to settle share-based awards. The Company does not intend to repurchase any shares in 20072010 to provide shares to issue as share-based awards; however, management continually evaluates the appropriateness of the level of shares outstanding.


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Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)

 
Income Taxes.  Deferred income tax effects of transactions reported in different periods for financial reporting and income tax return purposes are recorded under the liability method of accounting for income taxes. This method gives consideration to the future tax consequences of the deferred income tax items and immediately recognizes changes in income tax laws upon enactment.
Prior to the acquisition of a controlling interest in Grupo KCSM on April 1, 2005, Grupo KCSM provided deferred income taxes for the difference between the financial reporting and income tax bases of its assets and liabilities. KCS recorded its proportionate share of these income taxes through its equity in Grupo KCSM’s earnings. Since April 1, 2005, Grupo KCSM income taxes are reflected in the consolidated results. Although KCSM has generated book profits, it has incurred tax losses due primarily to the accelerated tax amortization of the concession rights. The Company has recognized a deferred income tax asset for the resulting net operating loss carryforwards. Management anticipates that such net operating loss carryforwards will be realized given the long carryforward period (through the year 2046) for amortization of the Concession, as well as the fact that KCSM expects to generate taxable income in the future. The Company’s tax projections take into consideration certain assumptions, some of which are under its control and others which are not. Key assumptions include inflation rates, currency fluctuations and future revenue growth. If the assumptions are not correct, a valuation allowance would have to be recognized on the deferred tax asset.
Prior to the acquisition of a controlling interest in Grupo KCSM on April 1, 2005, the Company did not provide U.S. federal income taxes for the temporary difference between the financial reporting basis and income tax basis of its investment in Grupo KCSM because Grupo KCSM was a foreign corporate joint venture that was considered permanent in duration, and the Company did not expect the reversal of the temporary difference to occur in the foreseeable future. Following the acquisition of control of Grupo KCSM in 2005, In addition, the Company has not provided U.S. federal income taxes on the undistributed operating earnings of Grupo KCSMits foreign investments since the Company intends to reinvest such earnings will be invested indefinitely outside ofor the United States.earnings will be remitted in a tax-free transaction.
 
The Company has recognized a deferred tax asset, net of a valuation allowance, for net operating loss carryovers. The Company projects sufficient future taxable income to realize the deferred tax asset recorded less the valuation allowance. These projections take into consideration assumptions about inflation rates, currency fluctuations, future income and future capital expenditures. If assumptions or actual conditions change, the deferred tax asset, net of the valuation allowance, will be adjusted to properly reflect the expected tax benefit.
Earnings Per Share.New Accounting Pronouncements
In June of 2009, the Financial Accounting Standards Board (the “FASB”) approved the “FASB Accounting Standards Codification” (the “FASB ASC”) to become the single source of authoritative U.S. GAAP (other than guidance issued by the SEC) superseding all then-existing non-SEC accounting and reporting standards. The FASB ASC does not change current U.S. GAAP, but is intended to simplify user access to all authoritative U.S. GAAP through the introduction of a new structure providing all authoritative literature by topic in one place.
In December of 2009, the FASB issued Accounting Standards Update (“ASU”)No. 2009-17, “Improvements to Financial Reporting by Enterprises Involved with Variable Interest Entities” (“ASU2009-17”).ASU 2009-17 addresses the elimination of certain exceptions to consolidating qualifying special-purpose entities which means more entities will be subject to consolidation assessments and reassessments. The statement requires ongoing reassessment of whether a company is the primary beneficiary of a variable interest entity (“VIE”) and clarifies characteristics that identify a VIE. In addition, ASU2009-17 requires additional disclosures about a company’s involvement with a VIE and any significant changes in risk exposure due to that involvement. This standard is effective for the Company beginning on January 1, 2010. The Company expects that the adoption of this standard will not have an impact on the Company’s results of operations and financial condition.
Note 3.  Earnings Per Share
Basic earnings per common share is computed by dividing income available to common shareholdersstockholders by the weighted average number of common shares outstanding for the period. Nonvested stock awards granted to employees and officers is included in weighted average shares as it is earned for purposes of computing basic earnings per common share. Diluted earnings per share reflectadjusts basic earnings per common share for the potential dilution that could occureffects of potentially dilutive common shares, if convertible securities were converted intothe effect is not anti-dilutive. Potentially dilutive common shares


62


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)
include the dilutive effects of shares issuable upon the conversion of preferred stock to common stock or stock based awards were exercised or earned. and shares issuable under the Stock Option and Performance Award Plan.
The following table reconciles the weighted average shares used for the basic earnings per share computation to the shares used for the diluted earnings per share computation at December 31(in thousands).:
             
  2009  2008  2007 
 
Basic shares  93,145   83,674   75,832 
Additional weighted average shares attributable to:            
Convertible preferred stock     13,882   20,389 
Stock options  502   987   1,327 
Nonvested shares  2   59   68 
             
Diluted shares  93,649   98,602   97,616 
             
Potentially dilutive shares excluded from the calculation(in thousands):
 
             
  2006  2005  2004 
 
Basic shares  74,593   75,527   62,715 
Additional weighted average shares attributable to convertible securities and stock options:            
$9.0 million VAT/Put settlement payment due to JSIB     110    
$47.0 million escrow note  1,667   1,439    
VAT/Put settlement contingency payment  1,418   918    
Convertible preferred stock  13,389   13,389    
Stock options  1,266   1,358   1,268 
Nonvested shares  53   6    
             
Diluted shares  92,386   92,747   63,983 
             
             
  2009 2008 2007
 
Stock options where the exercise price is greater than the average market price of common shares  50   64   39 
Convertible preferred stock which are anti-dilutive  7,000       
             

The following table reconciles net income available to common stockholders for purposes of basic earnings per share to net income for purposes of diluted earnings per share(in millions):
             
  2009  2008  2007 
 
Net income available to common stockholders for purposes of computing basic earnings per share $57.0  $168.7  $134.0 
Effect of dividends on conversion of convertible preferred stock     14.9   19.6 
             
Net income available to common stockholders for purposes of computing diluted earnings per share $57.0  $183.6  $153.6 
             


7063


 
Kansas City Southern
 
Notes to Consolidated Financial Statements — (Continued)

Potentially dilutive shares excluded from the calculation(in thousands):
 
             
  2006  2005  2004 
 
Stock options where the exercise price is greater than the average market price of common shares     1   361 
Convertible preferred stock series C which are anti-dilutive        13,389 
Convertible preferred stock series D which are anti-dilutive  7,000   486    
Note 4.  Property and Equipment (including Concession Assets)
 
The following reconciles net income available to common shareholders for purposes of basic earnings per share to that for purposes of diluted earnings per shareProperty and Equipment.  Property and equipment, including concession assets, and related accumulated depreciation and amortization are summarized below at December 31(in millions):
 
             
  2006  2005  2004 
 
Net income available to common shareholders for purposes of computing basic earnings per share $89.4  $91.4  $15.7 
Effect of dividends on conversion of convertible preferred stock  8.5   8.5    
Effect of interest expense on conversion of $47.0 million escrow note  1.4   1.1    
Effect of interest expense on conversion of note payable to TMM for VAT/Put settlement  0.8   0.6    
             
Net income available to common shareholders for purposes of computing diluted earnings per share $100.1  $101.6  $15.7 
             
             
        2009
 
  2009  2008  Depreciation Rate 
 
Land $162.9  $162.7     
Concession land rights  137.6   138.0   1.0%
Road property            
Rail and other track material  1,320.4   1,255.7   2.8%
Ties  1,000.6   912.3   3.6%
Grading  729.1   698.8   0.9%
Bridges and tunnels  513.2   464.1   1.4%
Ballast  434.1   364.0   3.5%
Other (i)  675.3   609.5   3.0%
             
Road property total  4,672.7   4,304.4     
Equipment            
Locomotives  487.8   488.4   6.9%
Freight cars  149.5   164.2   5.2%
Work equipment  17.3   15.9   2.1%
Other  24.7   19.7   8.8%
             
Equipment total  679.3   688.2     
Technology and other  125.3   115.8   11.2%
Construction in progress  165.6   354.3     
             
Total property  5,943.4   5,763.4     
Accumulated depreciation and amortization  1,196.2   1,165.0     
             
Net property $4,747.2  $4,598.4     
             
 
New Accounting Pronouncements.
 
(i)Other reflects structures, signals, roadway machines, communications and other road assets.
FIN 48.  In June 2006, the Financial Accounting Standards Board issued Interpretation 48Accounting
Concession assets, net of accumulated amortization of $259.8 million and $254.3 million, totaled $1,774.2 million and $1,775.2 million for Uncertainty in Income Taxes — an Interpretation of FASB Statement No. 109, Accounting for Income Taxes(“FIN 48”),which clarifies the accounting for uncertainties in income taxes. FIN 48 prescribes a recognition threshold2009 and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. The Interpretation requires that the Company recognize in the financial statements, the impact of a tax position, if that position is more likely than not of being sustained on audit, based on the technical merits of the position. FIN 48 also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods and disclosure.2008, respectively.
 
The provisionsCompany capitalized $2.8 million and $4.4 million of FIN 48 are effective beginning January 1, 2007, withinterest for the cumulative effect of the change in accounting principle recorded as an adjustment to opening retained earnings. The estimated impact of the adoption of FIN 48 is subject to change due to potential changes in interpretation of FIN 48 by the FASByears ended December 31, 2009 and other regulatory bodies. The Company is still monitoring this standard and evaluating the impact of adopting FIN 48; however, does not anticipate adoption will have a material impact on the Company’s consolidated Financial Statements.2008, respectively.
 
EITF06-3.  In June 2006, the Financial Accounting Standards Board ratified Emerging Issues Task Force IssueNo. 06-3 “How Taxes Collected from CustomersDepreciation and Remitted to Governmental Authorities Should Be Presented in the Income Statement (That Is, Gross Versus Net Presentation).” This standard allows companies to present in their statementsamortization of operations any taxes assessed by a governmental authority that are directly imposed on revenue-producing transactions between a sellerproperty and a customer, such as sales, use, value-addedequipment totaled $182.5 million, $168.6 million, and some excise taxes, on either a gross (included in revenues$159.0 million for 2009, 2008, and costs) or a net (excluded from revenues) basis. This standard will be effective for the Company in interim periods and fiscal years beginning after December 15, 2006. The Company presents these transactions on a net basis and intends to continue this presentation in the future, therefore the adoption of this standard will have no impact on its financial statements.2007, respectively.
SFAS 158.  In September 2006, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 158 “Employers’ Accounting for Defined Benefit Pension and Other Postretirement


7164


 
Kansas City Southern
 
Notes to Consolidated Financial Statements — (Continued)

Plans — an Amendment of FASB Statements No. 87, 88, 106 and 132(R)” (“SFAS 158”), which required the recognition of the overfunded or underfunded status of a defined benefit postretirement plan in the Company’s balance sheet on December 31, 2006. Additionally, the pronouncement eliminates the option for the Company to use a measurement date prior to the Company’s fiscal year end effective December 31, 2008. The Company adopted SFAS 158 effective December 31, 2006, which did not result in a significant impact to the Consolidated Financial Statements.
 
Note 3.  Investments
Investments, including investments in unconsolidated affiliates, follow(in millions):
             
  Percentage
       
  Ownership at
  Carrying Value 
Company
 December 31, 2006  2006  2005 
 
Southern Capital  50% $29.2  $27.9 
PCRC  50%  18.3   18.1 
FTVM  25%  13.9   10.9 
Other      3.5   3.4 
             
Total     $64.9  $60.3 
             
Southern Capital.
In 1996, the Company and GATX Capital Corporation (“GATX”) completed a transaction for the formation and financing of a joint venture, Southern Capital. Southern Capital’s principal operations are the acquisition of locomotives, rolling stock and other railroad equipment and the leasing thereof. The Company holds a fifty percent interest in Southern Capital, which it accounts for using the equity method of accounting.
KCSR paid Southern Capital $26.5 million, $30.1 million and $32.5 million in 2006, 2005 and 2004, respectively, under operating leases. In connection with the formation of Southern Capital, the Company received cash that exceeded the net book value of assets contributed to the joint venture by $44.1 million. Accordingly, this excess fair value over book value is being recognized as a reduction in lease rental expense over the terms of the leases equal to $2.7 million, $3.6 million and $4.4 million in 2006, 2005 and 2004, respectively. In 2006, 2005 and 2004, the Company received cash dividends of $4.5 million, $8.3 million and $8.8 million, respectively, from Southern Capital.
During 2005 and 2004, Southern Capital recorded gains of $7.7 million and $6.0 million, respectively, related to the sale of locomotives to KCSR, but Southern Capital recorded no such gains in 2006. For purposes of recording its share of Southern Capital earnings, the Company has recorded its share of the gains as a reduction to the cost basis of the equipment acquired. As a result, the Company will recognize its equity in the gains over the remaining depreciable life of the locomotives as a reduction of depreciation expense.
On June 5, 2002, Southern Capital refinanced the outstanding balance of a bridge loan through the issuance of approximately $167.6 million of 5.7% pass through trust certificates and proceeds from the sale of 50 locomotives. Of this amount, $104.0 million was secured by all of the locomotives and rolling stock owned by Southern Capital (other than the 50 locomotives, which were sold, as discussed below) and rental payments payable by KCSR under the operating and financing leases of the equipment owned by Southern Capital. Payments of interest and principal of the pass through trust certificates, which are due semi-annually through 2022, are insured under a financial guarantee insurance policy by MBIA Insurance Corporation (“MBIA”). KCSR leases or subleases all of the equipment securing the pass through certificates.
The remaining amount of pass through trust certificates, approximately $63.6 million, was assigned to General Electric Corporation, the buyer of the 50 locomotives, and is secured by the sold locomotives and


72


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)

rental payments payable by KCSR under the sublease. Southern Capital does not have the option, nor is it obligated to repurchase or redeem the lease receivable or related equipment on or prior to the expiration of the lease agreement entered into with KCSR at the time of the sale. Southern Capital does not guarantee the lease payments of KCSR and has no obligation to make such payments if KCSR should fail to do so. In the event of default by KCSR, MBIA guarantees the outstanding debt and may seize the collateralized assets, or find a third party lessee to continue making the rental payments to satisfy the debt requirements.
Panama Canal Railway Company.
PCRC, a joint venture company owed equally by KCS and Mi-Jack Products, Inc., has the concession from the Republic of Panama to reconstruct and operate the Panama Canal Railway, a47-mile railroad located adjacent to the Panama Canal that provides international shippers with a railway transportation option to complement the Panama Canal. The Panama Canal Railway is a north-south railroad traversing the Panama isthmus between the Pacific and Atlantic Oceans. Panarail operates and promotes commuter and tourist passenger service over the Panama Canal Railway.
The Company has invested $31.5 million ($12.9 million of equity and $18.6 million of subordinated loans) toward the reconstruction and operations of the Panama Canal Railway as of December 31, 2006. The loans carry a 10% interest rate and are payable on demand, subject to certain restrictions.
PCRC completed the financing for the reconstruction project with the International Finance Corporation (“IFC”), a member of the World Bank Group. Under the terms of the loan agreement with IFC, the Company is a guarantor for up to $4.4 million of the associated debt. Also if PCRC terminates the concession contract without the IFC’s consent, the Company is a guarantor for up to half of the outstanding senior loans. The Company is also a guarantor for up to $0.5 million of the equipment loans and capital leases, and has issued two irrevocable letters of credit totaling approximately $2.0 million to fulfill the Company’s fifty percent guarantee of approximately $4.0 million equipment loan.
Ferrocarril y Terminal del Valle de México, S.A. de C.V. (Mexico Valley Railway and Terminal or “FTVM”).
FTVM provides railroad services as well as ancillary services, including those related to interconnection, switching and haulage services in the greater Mexico City area. KCSM holds 25% of the share capital of FTVM. The other shareholders of FTVM, each holding a 25% interest, are Ferrocarril Mexicano, S.A. de C.V. (“Ferromex”), Ferrocarril del Sureste, S.A. de C.V. (“Ferrosur”) and the Mexican government.
Pursuant to the concession, KCSM is required to grant rights to use portions of its track to Ferromex, Ferrosur and FTVM, and these companies are required to grant KCSM the rights to use portions of their tracks.
Financial Information.
Financial information of unconsolidated affiliates that the Company accounted for under the equity method is presented below(in millions). Amounts, including those for Grupo KCSM, are presented under U.S. GAAP. Certain prior year amounts have been reclassified to reflect amounts from applicable audited financial statements.


73


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)

             
  As of and for the Year ended
 
  December 31, 2006 
     Southern    
  FTVM  Capital  PCRC 
 
Investment in unconsolidated affiliates $13.9  $29.2  $18.3 
Equity in net assets of unconsolidated affiliates  12.6   29.2   (0.3)
Financial condition:
            
Current assets $46.4  $2.4  $5.4 
Other assets  33.9   87.1   78.7 
             
Assets $80.3  $89.5  $84.1 
             
Current liabilities $13.5  $  $14.6 
Long-term liabilities  16.5   31.1   70.0 
Equity of stockholders and partners  50.3   58.4   (0.5)
             
Liabilities and equity $80.3  $89.5  $84.1 
             
Operating results:
            
Revenues $60.5  $18.1  $19.0 
Expenses  45.7   7.4   20.9 
             
Net income (loss) $14.8  $10.7  $(1.9)
             

             
  As of and for the
    
  Nine Months
  As of and for the
 
  Ended
  Year Ended
 
  December 31, 2005  December 31, 2005 
     Southern
    
  FTVM  Capital  PCRC 
 
Investment in unconsolidated affiliates $10.9  $27.9  $18.1 
Equity in net assets of unconsolidated affiliates  9.6   27.9   0.6 
Financial condition:
            
Current assets $35.4  $5.2  $5.2 
Other assets  28.1   92.8   81.5 
             
Assets $63.5  $98.0  $86.7 
             
Current liabilities $9.3  $1.0  $13.9 
Long-term liabilities  15.8   41.2   71.5 
Equity of stockholders and partners  38.4   55.8   1.3 
             
Liabilities and equity $63.5  $98.0  $86.7 
             
Operating results:
            
Revenues $55.3  $27.4  $17.5 
Expenses  45.9   14.3   21.0 
             
Net income (loss) $9.4  $13.1  $(3.5)
             

74


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)

                 
  As of and for the Year Ended
 
  December 31, 2004 
     Grupo
  Southern
    
  Mexrail  KCSM  Capital  PCRC 
 
Investment in unconsolidated affiliates $30.0  $389.6  $29.1  $13.4 
Equity in net assets of unconsolidated affiliates  27.1   375.0   29.1   2.4 
Financial condition:
                
Current assets $29.8  $252.7  $2.3  $4.2 
Other assets  71.2   1,982.3   113.5   83.4 
                 
Assets $101.0  $2,235.0  $115.8  $87.6 
                 
Current liabilities  47.3   211.5   1.2   10.7 
Long-term liabilities  0.7   865.4   56.5   72.2 
Minority interest     353.3       
Equity of stockholders and partners  53.0   804.8   58.1   4.7 
                 
Liabilities and equity $101.0  $2,235.0  $115.8  $87.6 
                 
Operating results:
                
Revenues $66.5  $701.8  $29.0  $10.1 
Expenses  74.4   710.1   17.2   14.3 
                 
Net income (loss) $(7.9) $(8.3) $11.8  $(4.2)
                 

KCSM purchased all of the shares of Mexrail from TMM and KCS on March 27, 2002. Accordingly for the period from January 1, 2004, through July 31, 2004, the results of Mexrail are consolidated into the results of Grupo KCSM.
Note 4.  Acquisitions
In accordance with Statement of Financial Accounting Standards No. 141 “Business Combinations”, the Company allocates the purchase price of its acquisitions to the tangible and intangible assets and liabilities of the acquired entity based on their fair values. The excess of the purchase price over the fair value is recorded as goodwill. The fair values assigned to assets acquired and liabilities are based on valuations prepared by independent third party appraisal firms, published market prices and management estimates.
Acquisition of Controlling Interest in Grupo KCSM.
April 1, 2005 — Acquisition Agreement.  In furtherance of the Company’s strategy for expansion into Mexico, on December 15, 2004, the Company entered into the Amended and Restated Acquisition Agreement (the “Acquisition Agreement”) with TMM and other parties under which KCS would acquire control of KCSM through the purchase of shares of common stock of Grupo KCSM. At the time, Grupo KCSM held an 80% interest in KCSM and all of the shares of stock with full voting rights of KCSM. The remaining 20% economic interest in KCSM was owned by the Mexican government in the form of shares with limited voting rights.
Under the terms of the Acquisition Agreement, KCS acquired all of TMM’s 48.5% effective interest in Grupo KCSM on April 1, 2005, in exchange for $200.0 million in cash, 18 million shares of KCS common stock, and two-year promissory notes in the aggregate amount of $47.0 million (the “Escrow Notes”), as well as $27.5 million in transaction costs for a total purchase price of $594.4 million. The $47.0 million Escrow Notes are subject to reduction pursuant to the indemnification provisions of the Acquisition Agreement for

75


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)

certain potential losses related to incorrect representations and warranties, or breaches of covenants in the Acquisition Agreement or claims relating thereto, or under other conditions specified in the Indemnity Escrow Agreement.
In exchange for the purchase price of $594.4 million, KCS acquired 48.5% of Grupo KCSM (or 38.8% of KCSM). On a preliminary basis, the excess of purchase price over the historical book value of the assets resulted in a net increase in the basis of the assets of $199.6 million. As a result of the ongoing valuation of certain assets and liabilities, during the fourth quarter of 2005, Grupo KCSM and KCSM recognized changes to the preliminary allocation of purchase price, which was pushed down by KCS. In addition, the KCS purchase price was increased $4.4 million, relating primarily to an increase in the estimates for severance and relocation costs.
In connection with the evaluation of the fair values of the assets and liabilities of Grupo KCSM, certain assets were identified as having little or no value to KCS as the acquiring company. Because KCS acquired only 48.5% of Grupo KCSM (or 38.8% of KCSM) in this transaction, the allocation of the excess purchase price over book value of net assets was limited to the acquired percentage. Accordingly, a reduction in the assets of Grupo KCSM was limited to the acquired percentage and any residual was charged to expense. Grupo KCSM operating expenses for the year ended December 31, 2005 included $39.5 million relating to decreases in the basis of certain assets, the most significant of which was the write off of a deferred employee profit sharing asset of $35.6 million as a result of legal rulings in Mexico.
September 12, 2005, Completion of VAT/Put Settlement.  On September 12, 2005, the Company and its subsidiaries, KCSM and Grupo KCSM, along with TMM, entered into a settlement agreement with the Mexican government, resolving the controversies and disputes between the companies and the Mexican government concerning the payment of a value added tax (“VAT”) refund to KCSM and the obligation (“Put”) to purchase the remaining shares of KCSM owned by the Mexican government (the “VAT/Put Settlement”). As a result of the VAT/Put Settlement, KCS and its subsidiaries own 100% of Grupo KCSM and KCSM; the potential obligation of KCS, Grupo KCSM and TMM to acquire the Mexican government’s remaining 20% ownership of KCSM was eliminated; and the legal obligation of the Mexican government to issue the VAT refund to KCSM was satisfied. There was no cash exchanged between the parties to the settlement agreement. In addition, the parties entered into mutual releases of all existing and potential claims relating to the VAT refund and the Put obligation, and entered into an agreement to dismiss all of the existing litigation between the parties.
The VAT/Put Settlement had two separate impacts — first, the resolution of a pre-acquisition contingency related to the April 1, 2005, transaction and second, KCSM’s acquisition of the minority interest held by the Mexican government.
Resolution of Pre-Acquisition Contingencies.
Both the VAT refund claim and the Mexican government’s put rights were pre-acquisition contingencies. Accordingly, the impact of the acquired asset and the resulting liability was reflected as adjustments to the preliminary purchase accounting described above. Because there was no market for Grupo KCSM stock, management assessed the fair value of the government’s shares acquired in the settlement to be properly estimated as the pro rata equivalent of the fair value of Grupo KCSM stock paid to TMM under the Acquisition Agreement. Based on this assessment, the fair value of the Mexican government’s shares was determined to be $305.5 million.
Under the terms of the Acquisition Agreement, KCS acquired TMM’s 51% interest in the VAT refund claim as settled. Accordingly, the preliminary purchase accounting for the Grupo KCSM acquisition was adjusted to reflect as an asset the fair value of the acquisition of TMM’s proportionate share of the VAT refund claim of $155.8 million.


76


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)

In accordance with the Acquisition Agreement, a contingent payment of an additional purchase price of $110.0 million became payable to TMM as a result of the final resolution of the VAT Claim and Put, which was to be settled in three parts: (i) $35.0 million in stock (shares determined based on the VWAP 20 days prior to the final resolution of the VAT Claim and Put, as defined in the Acquisition Agreement); (ii) $35.0 million in cash at time of final resolution of the VAT Claim and Put, as defined in the Acquisition Agreement; and (iii) up to an additional $40.0 million in stock (shares to be determined in accordance with the provisions of the Acquisition Agreement) payable no more than five years from the final closing date (April 1, 2005). The liability was non-interest bearing, therefore it was recorded at its present value based on a 5.0% discount rate, consistent with the stated rate of similar interest bearing notes in the Acquisition Agreement.
The remaining fair value of the Mexican government’s shares obtained in the VAT/Put Settlement, $149.7 million, was attributable to the previously existing 49% KCS interest in Grupo KCSM and was recorded as nonoperating income and was presented net of applicable legal, consulting and other fees of $17.8 million including, $9.0 million payable to JSIB, which became payable on final resolution of the VAT Claim and Put. The VAT/Put settlement gain was not taxable in Mexico. The Company believes, based upon opinions of outside legal counsel and other factors, that the VAT/Put Settlement should not be taxable to KCS for U.S. income tax purposes. Such position has not been examined by the taxing authority and it is possible that this position could be challenged. The amount of such tax would be material; however the Company believes that it would have the right to indemnification under the terms of the Acquisition Agreement.
KCSM Acquisition of Mexican Government Shares.
In connection with the VAT/Put Settlement, the acquisition of the Mexican government’s interest was accounted for as a purchase. The aggregate carrying value of $375.6 million for the Mexican government shares (23.9% effective ownership — consisting of minority interest of $256.9 million and the Association in Participation Agreement with a book value of $118.7 million) exceeded the estimated fair value of this interest of $305.5 million representing the purchase price.
Purchase Price Allocation.
The allocation of the purchase price was finalized in 2006. Final adjustments to the purchase price allocation did not materially change the initial allocation or financial results during the year. Settlement of severance and relocation was substantially completed during the year ended December 31, 2006.
Significant components of the allocation of the excess of the purchase price over the carrying value of the net assets acquired, including both the April 1, 2005, and the September 12, 2005, acquisitions, follow(in millions):
     
Increase in current assets $10.6 
Decrease in property and equipment  (29.0)
Increase in concession assets  271.3 
Increase in deferred income taxes  (81.9)
Increase in other assets  83.6 
Increase in current liabilities  (15.3)
Increase in long-term liabilities  (111.5)
     
Total $127.8 
     
In addition, the existing excess in the carrying value of the Company’s investment over the book value of Grupo KCSM ($13.7 million) was recorded as an addition to property, plant and equipment, and Concession assets.


77


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)

The following table summarizes the recorded fair values of the assets acquired and liabilities assumed at the dates of acquisition as adjusted for the above impacts(in millions):
     
Current assets $268.8 
Property and equipment  532.6 
Concession rights  1,383.1 
Other assets  219.0 
     
Total assets acquired $2,403.5 
     
Current liabilities $288.3 
Long-term debt  802.6 
Other liabilities  128.2 
     
Total liabilities acquired $1,219.1 
     
Acquisition of Mexrail.
On August 16, 2004, KCS, TMM and KCSM entered into a new Stock Purchase Agreement. Pursuant to the terms of that agreement, KCS purchased from KCSM 51% of the outstanding shares of Mexrail, a wholly-owned subsidiary of KCSM, for $32.7 million and placed those shares into trust pending approval of the Surface Transportation Board (“STB”) to exercise common control over KCSR, the Gateway Eastern Railway Company (“Gateway Eastern”) and Tex-Mex. On November 29, 2004, the STB approved the Company’s application for authority to control KCSR, Gateway Eastern and Tex-Mex. The shares representing 51% ownership of Mexrail were transferred by the trustee to KCS, and KCS assumed control, on January 1, 2005.
The aggregate purchase price was $57.4 million including $32.7 million of cash with the remaining amount consisting of net receivables and payables with Mexrail and Grupo KCSM. The acquisition of Mexrail links KCSR physically to KCSM.
The following table summarizes the estimated fair values of the assets acquired and liabilities assumed at the date of acquisition on January 1, 2005(in millions):
     
Current assets $37.8 
Property and equipment  108.2 
Other assets  0.3 
     
Total assets acquired $146.3 
     
Current liabilities $59.7 
Other liabilities  29.3 
     
Total liabilities acquired $89.0 
     
The allocation of the purchase price above reflected the final adjustments to the fair values of assets and liabilities of Mexrail. All severance reserves recorded for the Mexrail acquisition were expended prior to December 31, 2005.


78


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)

Pro Forma Earnings.  The following table reflects the pro forma financial results for the twelve months ended December 31, 2005, as though the Grupo KCSM acquisition had occurred on January 1, 2005(unaudited, in millions except share and per share data):
                 
  KCS and Mexrail
  Grupo KCSM
       
  Historical and
  Three Months
       
  Grupo KCSM
  Ended
       
  Since April 1,
  March 31,
  Pro Forma
    
  2005  2005  Adjustments  Pro Forma 
 
Revenues $1,352.0  $170.1  $  $1,522.1 
Net income (loss)  100.9   0.1   (150.1)  (49.1)
Income (loss) from continuing operations available to common shareholders  91.4   0.1   (150.1)  (58.6)
                 
Earnings (loss) per common share:                
Basic $1.21          $(0.74)
                 
Diluted  1.10           (0.74)
                 
Weighted average common shares outstanding(in thousands):
                
Basic  75,527       3,750   79,277 
                 
Diluted  92,747       (13,470)  79,277 
                 
For purposes of comparison, pro forma earnings were reduced by the $131.9 million non-recurring, non-cash gain on the VAT/Put settlement.
Note 5.  Other Balance Sheet Captions
 
Other Current Assets.  Other current assets included the following items at December 31(in millions):
 
                
 2006 2005  2009 2008 
Deferred employees statutory profit sharing asset $36.8  $12.2 
Prepaid expenses $16.4  $10.1   16.1   14.6 
Deferred income taxes  7.6   10.0 
Deferred charge related to favorable railcar leases  11.3   11.3 
Assets held for sale  47.9    
Refundable taxes  5.9   38.9 
Deposits  0.3   20.6 
Purchase accounting for the fair value of certain contracts     11.3 
Other  10.5   14.7   3.9   1.2 
          
Other current assets, net $93.7  $46.1  $63.0  $98.8 
          

Accounts Payable and Accrued Liabilities.  Accounts payable and accrued liabilities included the following items at December 31(in millions):
         
  2009  2008 
 
Accounts payable $169.6  $255.8 
Derailments, personal injury and other claim reserves  60.6   64.1 
Accrued wages and vacation  39.1   42.3 
Interest payable  23.6   25.5 
Rents and leases  19.3   14.2 
Income and other taxes  8.1   23.2 
Other  22.4   30.3 
         
Accounts payable and accrued liabilities $342.7  $455.4 
         
Note 6.  Fair Value Measurements
The Company’s short-term financial instruments include cash and cash equivalents, accounts receivable, and accounts payable. The carrying value of the short-term financial instruments approximates the fair value due to their short-term nature.
The fair value of the Company’s debt is estimated using quoted market prices when available. When quoted market prices are not available, fair value is estimated based on current market interest rates for debt with similar maturities and credit quality. The fair value of the Company’s debt was $2,031.1 million and $1,911.5 million at December 31, 2009 and 2008, respectively. The financial statement carrying value was $1,980.0 million and $2,086.1 million at December 31, 2009 and 2008, respectively.
The Company’s assets and liabilities recorded at fair value have been categorized based upon a fair value hierarchy as described in Note 2 — “Significant Accounting Policies”.


7965


 
Kansas City Southern
 
Notes to Consolidated Financial Statements — (Continued)

Property
The following table presents the Company’s assets and Equipment.  Property and equipment and related accumulated depreciation are summarized belowliabilities measured at fair value on a recurring basis as of December 31(in millions):
 
         
  2006  2005 
 
Road properties $2,118.4  $1,982.5 
Equipment  468.4   388.0 
Concession improvements  324.3   296.1 
Computer software  76.1   71.8 
Locomotives sale-leaseback     32.5 
Other  38.9   166.7 
         
Total  3,026.1   2,937.6 
Accumulated depreciation  897.0   820.4 
         
Net property and equipment  2,129.1   2,117.2 
Construction in progress  323.1   181.1 
         
Property and equipment, net $2,452.2  $2,298.3 
         
             
  Fair Value Measurements Net Assets (Liabilities)
 
  Level 1 Level 2  Level 3 at Fair Value 
 
2009
            
Interest rate contracts $— $(4.9) $— $(4.9)
             
Net asset (liabilities), at fair value $— $(4.9) $— $(4.9)
             
             
  Fair Value Measurements Net Assets (Liabilities)
 
  Level 1 Level 2  Level 3 at Fair Value 
 
2008
            
Investments (i) $— $  $12.4 $12.4 
Interest rate contracts   (5.7)   (5.7)
             
Net asset (liabilities), at fair value $— $(5.7) $12.4 $6.7 
             
 
Depreciation
(i)Investments with Level 1 and/or Level 2 inputs are classified as a Level 3 investment in their entirety if it has at least one significant Level 3 input.
The Company determines the fair values of property and equipment totaled $93.8 million, $82.5 million, and $53.3 million, respectively, for 2006, 2005, and 2004.its derivative financial instrument positions based upon pricing models using inputs observed from actively quoted markets. Pricing models take into consideration the contract terms as well as other inputs, including forward interest rate curves. As prescribed by the guidance, the Company recognizes the fair value of its derivative financial instruments as a Level 2 valuation.
 
Overhead Capitalization.  KCS capitalizes certain overhead costs representingThe Company determined the indirect costs associated with construction and improvement projects. Overhead factors are periodically reviewed and adjustedfair value of its investment in a financial institution cash management fund based upon the value of the underlying investments. Underlying investments were valued using quoted market prices, if available. If quoted market prices were not available due to reflect current costs.an inactive market, adjustments using unobservable inputs were required to determine the fair value. Because of these unobservable inputs, the Company recognized the fair value of its investment as a Level 3 valuation. The following table presents additional information about this investment in which the Company utilized Level 3 inputs to determine fair value.
 
Concession Assets.  As discussedChanges in Note 1,Level 3 assets measured at fair value on a recurring basis for the Mexican government granted KCSM the Concession to operate the northeast rail lines in Mexico. Concession assets and related amortization are summarized below atyear ended December 31(in millions):
 
         
  2006  2005 
 
Road properties $1,231.4  $1,227.6 
Land  135.3   132.8 
Other  32.3   41.2 
         
Total  1,399.0   1,401.6 
Accumulated amortization  95.7   41.2 
         
Concession assets, net $1,303.3  $1,360.4 
         
         
  2009  2008 
 
Balance at beginning of period $12.4  $37.8 
Total gains/(losses) (realized and unrealized)  0.8   (0.8)
Purchases, issuances and settlements  (13.2)  (24.6)
Transfers in and/or out of level 3      
         
Balance at end of period $  $12.4 
         
Amortization of concession assets totaled $60.4 million and $44.9 million for 2006 and 2005.


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Kansas City Southern
 
Notes to Consolidated Financial Statements — (Continued)

 
Accrued Liabilities.  Accrued liabilities included the following items at December 31(in millions):
         
  2006  2005 
 
Interest payable $16.7  $17.9 
Vacation accrual  13.2   12.6 
Car hire per diem  27.2   28.1 
Prepaid freight charges due other railroads  37.2   36.9 
Claim reserves  88.9   55.1 
Deferred credits related to unfavorable locomotive leases and maintenance contracts  9.7   9.7 
Property and other taxes  32.4   24.8 
Other  129.4   148.0 
         
Accrued liabilities $354.7  $333.1 
         
 
Note 6.7.  Long-Term Debt
 
Indebtedness Outstanding.Long-term debt follows at December 31(in millions):
 
         
  2006  2005 
 
KCS
        
Debt obligations related to Grupo KCSM acquisition $83.3  $158.7 
Other debt obligations  0.2   0.2 
KCSR
        
Revolving credit facility, variable interest rate, 6.850% at December 31, 2006, due 2011  90.0   92.0 
Term loans, variable interest rate, 7.070% at December 31, 2006, due 2013  244.9   246.8 
91/2% senior notes, due 2008
  200.0   200.0 
71/2% senior notes, due 2009
  200.0   200.0 
Capital lease obligations, 8.00%, due serially to 2009  0.8   1.1 
Other debt obligations(iii)  12.7   32.0 
Tex-Mex
        
RRIF loan, 4.29%, due serially to 2030  49.2   21.7 
KCSM
        
Revolving credit facility, variable interest rate, due 2008     26.1 
Term loans, variable interest rate, 7.475% at December 31, 2006, due 2008  46.7   76.0 
101/4% senior notes, due 2007
  4.0   150.0 
121/2% senior notes, due 2012
  178.6   178.3 
93/8% senior notes, due 2012
  460.0   460.0 
75/8% senior notes, due 2013
  175.0    
Capital lease obligations, due serially to 2011  1.0   1.3 
Fair market adjustment related to purchase accounting  10.6   16.4 
         
Total  1,757.0   1,860.6 
Less: Debt due within one year(i)(ii)  92.8   116.3 
         
Long-term debt $1,664.2  $1,744.3 
         
         
  2009  2008 
 
KCS
        
Other debt obligations $0.6  $0.2 
KCSR
        
Revolving credit facility, variable interest rate, 1.510% at December 31, 2009, due 2011  40.0   100.0 
Term loans, variable interest rate, 1.959% at December 31, 2009, due 2013  310.6   313.9 
71/2% senior notes, due 2009
     200.0 
13.0% senior notes, due 2013  171.2   168.1 
8.0% senior notes, due 2015  275.0   275.0 
Capital lease obligations, due serially to 2017  11.0   12.1 
Other debt obligations  11.8   11.7 
Tex-Mex
        
RRIF loan, 4.29%, due serially to 2030  45.3   46.7 
KCSM
        
Term loan, variable interest rate, due 2012     30.0 
93/8% senior notes, due 2012
  460.0   460.0 
75/8% senior notes, due 2013
  175.0   175.0 
73/8% senior notes, due 2014
  165.0   165.0 
121/2% senior notes, due 2016
  189.7    
5.737% financing agreement  65.5   70.3 
6.195% financing agreement  47.8   51.3 
Capital lease obligations, due serially to 2012  5.0   6.8 
Other debt obligations  6.5    
         
Total  1,980.0   2,086.1 
Less: Debt due within one year  68.1   637.4 
         
Long-term debt $1,911.9  $1,448.7 
         
  (i) Includes $1.9 million and $4.2 million at December 31, 2006 and 2005, respectively, of adjustments to reflect the fair value of the liabilities assumed in 2005.
 (ii) Includes current liability related to Grupo KCSM acquisition.
(iii) In January 2006, $24.3 million of debt was repaid with locomotives through a non-cash transaction.


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Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)

KCS Debt.
Debt Obligations Related to Grupo KCSM Acquisition.  In connection with the acquisition of Grupo KCSM and the settlement of the VAT/Put, the Company recorded a $110.0 million liability payable to TMM in 2005. The liability was non-interest bearing, therefore it was recorded at its present value based on a 5% discount rate. At December 31, 2005, the Company recorded a current liability of $69.3 million to be settled upon final resolution of the Vat/Put, and $31.6 million as a non-current liability to be settled in 5 years.
On March 13, 2006, in settlement of the $110.0 million obligation, KCS paid $35 million in cash, issued 1,494,469 shares of KCS common stock at the volume weighted average price (“VWAP”) of $23.4197, as determined by the acquisition agreement, and issued a $40 million five-year non-interest bearing note. At December 31, 2006 the Company recorded a non-current liability of $32.4 million which will accrete at 5% annually until April 1, 2010 when payment of $40.0 million will be due.
Also, as part of the acquisition in 2005, KCS issued escrow notes totaling $47.0 million which are subject to reduction for certain potential losses related to breaches of certain representations, warranties or covenants in the acquisition agreement by TMM. The escrow notes are due April 1, 2007, and accrue interest at a stated rate of 5.0%. The principal and interest is payable in cash or in stock (shares to be determined based on the VWAP 20 days prior to settlement) at the Company’s discretion. At December 31, 2006 and 2005, the Company included $50.9 million as a current liability and $48.8 million as a non-current liability on the balance sheet, respectively.
At December 31, 2005, the Company recorded a $9.0 million one time incentive payment to JSIB, payable upon final resolution of the VAT/Put claim. On March 13, 2006, the Company paid $9.0 million in cash to JSIB.
 
KCSR Debt.Debt
 
Revolving Credit Facility and Term Loans.  On March 30, 2004, KCSR entered into a credit agreement (the2004 Credit Agreement”) which was amended during 2004 and 2005 to result in a $125 million revolving credit facility maturing on March 30, 2007, and a $250 million term loan facility maturing on March 30, 2008. The amended term loan facility bore interest at the London Interbank Offered Rate (“LIBOR”) plus 150 basis points. The amended revolving credit facility bore interest at the LIBOR plus a spread based on the Company’s leverage ratio as defined in the 2004 Credit Agreement. As of December 31, 2005, advances under the revolving credit facility totaled $92.0 million and the term loan’s balance was $246.8 million. Revolver availability as of December 31, 2005 was $33.0 million.
On April 28, 2006, KCS, KCSR and the other subsidiary guarantors named therein entered into an amended and restated credit agreement (the “2006 Credit Agreement”), in an aggregate amount of $371.1 million with The Bank of Nova Scotia and other lenders named in the 2006 Credit Agreement. Proceeds from the 2006 Credit Agreement were used to refinance the 2004 Credit Agreement. The 2006 Credit Agreement consistsinitially consisted of (a) a $125.0 million revolving credit facility with a letter of credit sublimit of $25.0 million and swing line advances of up to $15.0 million, and (b) a $246.1 million term loan facility.facility (the “Term Loan B Facility”). On May 31, 2007, KCSR entered into Amendment No. 1 to the 2006 Credit Agreement which provided for a new $75.0 million term loan facility (the “Term Loan C Facility”) under the 2006 Credit Agreement. The revolving credit facility bears interest at either LIBOR, or an alternate base rate, plus a spread based on the Company’s leverage ratio as defined in the 2006 Credit Agreement. The term loan facilityTerm Loan B Facility bears interest at either LIBOR plus 175 basis points or the alternative base rate plus 75 basis points. The maturity date forTerm Loan C Facility bears interest at LIBOR plus


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Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)
150 basis points or the revolving credit facility is April 28, 2011 and the maturity date of the term loan facility is April 28, 2013.alternative base rate plus 50 basis points. The 2006 Credit Agreement contains covenants that restrict or prohibit certain actions, including, but not limited to, KCS’ ability to incur debt, create or suffer to exist liens, make prepayment of particular debt, pay dividends, make investments, engage in transactions with stockholders and affiliates, issue capital stock, sell certain assets, and engage in mergers and consolidations or in sale-leaseback transactions. In addition, KCS must meet certain consolidated interest coverage and leverage ratios. Failure to maintain compliance with the covenants could constitute a default which could accelerate the payment of any outstanding amounts under the 2006 Credit Agreement. Borrowings under the 2006 Credit Agreement are secured by substantially all of the Company’s domestic assets and are guaranteed by certain domestic subsidiaries.

The final maturity date for the revolving credit facility is April 28, 2011 and the final maturity date for the Term Loan B Facility and the Term Loan C Facility is April 28, 2013. Advances under the revolving credit facility totaled $40.0 million with revolver availability of $85.0 million while the Term Loan B and Term Loan C facility balances were $237.5 million and $73.1 million, respectively, as of December 31, 2009. The Company’s obligations outstanding under the Term Loan B and Term Loan C facility are classified as long-term debt as of December 31, 2009. As the Company intends to repay the outstanding balance under the revolving credit facility during 2010, the Company has classified the outstanding amount as a current liability as of December 31, 2009.
91/2% Senior Notes.  On May 8, 2008, pursuant to an offer to purchase, KCSR commenced a cash tender offer and consent solicitation for any and all outstanding $200.0 million 91/2% senior unsecured notes (the “91/2% Senior Notes). KCSR received consents in connection with the tender offer and consent solicitation from holders of over 99% of the 91/2% Senior Notes and purchased the tendered notes in accordance with the terms of the tender offer with proceeds received from the issuance of $275.0 million of 8.0% senior unsecured notes due June 1, 2015 (the “8.0% Senior Notes”).
8.0% Senior Notes.  On May 30, 2008, KCSR issued the 8.0% Senior Notes, which bear interest semiannually at a fixed annual rate of 8.0%. A portion of the proceeds from the issuance of the 8.0% Senior Notes was used to pay $198.7 million of the principal amount of the 91/2% Senior Notes and the applicable premium and expenses associated with the redemption and the remaining $1.3 million principal amount upon maturity. The remaining proceeds from the issuance were used to reduce borrowings under the KCSR revolving credit facility and for general corporate purposes. The 8.0% Senior Notes are redeemable in whole or in part prior to June 1, 2012 by paying the greater of either 101% of the principal amount or a “make whole” premium and in whole or in part, at the following redemption prices (expressed as a percentage of principal amount) plus any accrued and unpaid interest: 2012 — 104%, 2013 — 102%, 2014 — 100%. In addition, KCSR may redeem up to 35% of the 8.0% Senior Notes prior to June 1, 2011 using the proceeds of one or more equity offerings.
13.0% Senior Notes.  On December 18, 2008, KCSR issued $190.0 million principal amount of 13.0% senior unsecured notes due December 15, 2013, (the “13.0% Senior Notes”) which bear interest semiannually at a fixed annual rate of 13.0%. The 13.0% Senior Notes were issued at a discount to par value, resulting in a $22.0 million discount and a yield to maturity of 16.5%. KCS used the net proceeds from the offering, along with other borrowings, to purchase the KCSR 71/2% senior unsecured notes due June 15, 2009 (the “71/2% Senior Notes”) tendered under an offer to purchase. The 13.0% Senior Notes are redeemable at KCSR’s option in whole or in part prior to December 15, 2011 by paying the greater of either 101% of the principal amount or a “make whole” premium and in whole or in part, at the following redemption prices (expressed as percentages of principal amount) plus any accrued and unpaid interest: 2011 — 113%, 2012 — 106.5%. In addition, KCSR may redeem up to 35% of the 13.0% Senior Notes prior to December 15, 2010 using the proceeds of one or more equity offerings.
71/2% Senior Notes.  On January 14, 2009, pursuant to an offer to purchase, KCSR commenced a cash tender offer and consent solicitation for any and all outstanding $200.0 million 71/2% Senior Notes. KCSR


8268


 
Kansas City Southern
 
Notes to Consolidated Financial Statements — (Continued)

covenants could constitute a default which could accelerate the payment of any outstanding amounts under the 2006 Credit Agreement. Borrowings under the Credit Agreement are secured by substantially all of the Company’s domestic assets and are guaranteed by the majority of its domestic subsidiaries. As of December 31, 2006, advances under the revolving credit facility totaled $90.0 million and the term loans’ balance was $244.9 million. Revolver availability as of December 31, 2006 was $35.0 million.
 
On January 31, 2007, KCS provided written notice toreceived consents in connection with the lenders under the 2006 Credit Agreement of certain representationtender offer and other defaults under the 2006 Credit Agreement arising from the potential defaults which existed under the KCSR indentures governing the Notes as described below. These defaults limited KCSR’s access to the revolving credit facility. In its notice of default, the Company also requested that the lenders waive these defaults. On February 5, 2007 the Company received a waiver of such defaults from all of the lenders under the 2006 Credit Agreement. The Company is currently not in default of the 2006 Credit Agreement and has access to the revolving credit facility.
Senior Notes.  KCSR has outstanding $200.0 million of 91/2% senior unsecured notes issued during the third quarter of 2000 and due October 1, 2008, and $200.0 million of 71/2% senior unsecured notes issued in June of 2002 and due June 12, 2009. These senior unsecured notes bear interest at a fixed annual rate which is paid semi-annually. These senior notes are general unsecured obligations of KCSR but are guaranteed by KCS and certain of its domestic subsidiaries.
Consent Solicitation.  On January 29, 2007, the Company commenced a consent solicitation to amendfrom holders of over 88% of the indentures under which KCSR’s 91/2% Senior Notes due 2008 (the “91/2% Notes”) and 71/2% Senior Notes dueNotes. On January 29, 2009, (the “71/2% Notes” and togetherKCSR purchased the tendered notes in accordance with the 91/2% Notes, the “Notes”) were issued. The purposeterms of the consent solicitation was to (i) resolve an inconsistencytender offer with proceeds received in December of 2008 from the inclusion of certain expenses, but not the income, of restricted subsidiaries in the calculationissuance of the consolidated coverage ratio under13.0% Senior Notes and other borrowings.
The 8.0% Senior Notes and 13.0% Senior Notes (the “Senior Notes”) are fully and unconditionally guaranteed by KCS and certain subsidiaries of KCS who guarantee KCSR’s 2006 Credit Agreement (the “Note Guarantors”). The Senior Notes and the indentures, (ii) amendnote guarantees rank pari passu in right of payment with KCSR’s, KCS’, and the definition of refinancing indebtedness to allowNote Guarantors’ existing and future unsecured, unsubordinated obligations. In addition, the inclusion ofSenior Notes include certain related premiums, interest, fees and expenses in permitted refinancing indebtedness and (iii) obtain waivers of any defaults arising fromcovenants that restrict or prohibit certain actions taken in the absence of such proposed amendments. On February 5, 2007, the Company obtained the requisite consents from the holders of each series of Notes to amend their respective indentures as described above and executed supplemental indentures containing such amendments and waivers.actions.
 
Tex-Mex Debt.Debt
 
RRIF Loan Agreement.  On June 28, 2005, Tex-Mex entered into an agreement with the Federal Railroad Administration (“FRA”) to borrow $50$50.0 million to be used for infrastructure improvements which are expected to increase efficiency and capacity in order to accommodate growing freight rail traffic related to the NAFTA corridor. At December 31, 2005, Tex-Mex had borrowed a net amount of $21.7 million under the loan agreement. Tex-Mex drew down the remaining $28.2 million during 2006. The note bears interest at 4.29% annually and the principal balance amortizes quarterly with a final maturity of July 13, 2030. The loan was made under the Railroad Rehabilitation and Improvement Financing (“RRIF”) Program administered by the FRA. The loan is guaranteed by Mexrail, which has issued a Pledge Agreement in favor of the lender equal to the gross revenues earned by Mexrail on per-car fees on traffic crossing the International Rail Bridge in Laredo, Texas.
On February 16, 2007, Tex-Mex and the FRA entered into amendment No. 1 and waiver No. 1 to the loan agreement, the purpose of which was to eliminate the obligation of Tex-Mex to provide audited annual financial statements to the FRA and to waive Tex-Mex’s failure to do so since entering into the loan agreement. To induce the FRA to agree to such amendment and waiver, In addition, the Company has agreed to provide the FRA with its audited annual financial statements and unaudited quarterly statements and has also agreed to guaranty the scheduled principal payment installments due to the FRA from Tex-Mex under the loan agreement on a rolling five-year basis.

KCSM Debt
Revolving Credit Facility and Term Loan.  On June 14, 2007, KCSM entered into an unsecured credit agreement (the “2007 KCSM Credit Agreement”), in an aggregate amount of up to $111.0 million, consisting of a revolving credit facility of up to $81.0 million, and a term loan facility of $30.0 million with Bank of America, N.A., BBVA Bancomer, S.A., Institución de Banca Múltiple, and the other lenders named in the 2007 KCSM Credit Agreement. On March 30, 2009, KCSM used a portion of the net proceeds from the $200.0 million 121/2% senior unsecured notes due April 1, 2016 (the “121/2% Senior Notes”) offering to repay all amounts outstanding under the 2007 KCSM Credit Agreement. Upon repayment of the outstanding amounts, KCSM terminated the 2007 KCSM Credit Agreement.
93/8% Senior Notes.  On April 19, 2005, KCSM issued $460.0 million principal amount of 93/8% senior unsecured notes due May 1, 2012 (the “93/8% Senior Notes”), which bear interest semiannually at a fixed rate of 93/8%. The 93/8% Senior Notes are redeemable at KCSM’s option in whole or in part on or after May 1, 2009, subject to certain limitations, at the following redemption prices (expressed in percentages of principal amount), plus any accrued and unpaid interest: 2009 — 104.688%, 2010 — 102.344% and thereafter — 100.000%. In addition, the 93/8% Senior Notes are redeemable, in whole but not in part, at KCSM’s option at their principal amount in the event of certain changes in the Mexican withholding tax rate.
On January 7, 2010, pursuant to an offer to purchase, KCSM commenced a cash tender offer for a portion of its 93/8% Senior Notes. On January 22, 2010, the Company purchased $290.0 million of the tendered 93/8% Senior Notes in accordance with the terms and conditions of the tender offer set forth in the offer to purchase using the proceeds received from the issuance of $300.0 million of KCSM 8.0% senior unsecured notes due February 1, 2018 (the “KCSM 8.0% Senior Notes”). Additionally on February 1, 2010, KCSM repurchased $6.3 million of the 93/8% Senior Notes. KCSM recorded debt retirement costs of $14.9 million in the first quarter of 2010. The remaining 93/8% Senior Notes mature on May 1, 2012 and are redeemable by KCSM at its option.
75/8% Senior Notes.  On November 21, 2006, KCSM issued $175.0 million principal amount of 75/8% senior unsecured notes due December 1, 2013 (the “75/8% Senior Notes”), which bear interest semiannually at a fixed rate of 75/8%. The 75/8% Senior Notes are redeemable at KCSM’s option in whole or in


8369


 
Kansas City Southern
 
Notes to Consolidated Financial Statements — (Continued)

 
KCSM Debt.
Revolving Credit Facility and Term Loans.  On October 24, 2005, KCSM entered into a credit agreement (the “2005 KCSM Credit Agreement”) in an aggregate amount of $106.0 million, with a maturity of October 28, 2008. The 2005 KCSM Credit Agreement consisted of a $30.0 million revolving credit facility and a $76.0 million term loan facility secured by the locomotives and rail cars owned by KCSM’s subsidiary, Arrendadora. For dollar loans the facilities bear interest at LIBOR plus a spread basedpart on KCSM’s leverage ratio as defined under the 2005 KCSM Credit Agreement. For peso loans the facilities bear interest at the TIIE rate plus a spread based on KCSM’s leverage ratio. Proceeds from the facilities were used primarily to pay down debt and for general corporate purposes. Ator after December 31, 2005, advances under the revolving credit facility totaled $26.1 million, with $3.9 million remaining available under the facility. At December 31, 2006 there were no advances outstanding under the revolving credit facility and KCSM had $30.0 million of availability. On November 21, 2006, KCSM paid down $29.0 million of the term loan facility from the proceeds of its 75/8% senior notes offering. At December 31, 2006 and 2005, the term loans’ balance was $46.7 million and $76.0 million, respectively. The 2005 KCSM Credit Agreement contains covenants and restrictions similar to those in KCSR’s 2006 Credit Agreement.
On April 7, 2006, KCSM entered into an amendment and waiver (“Amendment and Waiver”) related to the 2005 KCSM Credit Agreement. The 2005 KCSM Credit Agreement was amended to (i) exclude certain payment obligations accrued under two locomotive maintenance agreements and under a track maintenance rehabilitation agreement from the definition of Indebtedness, (ii) eliminate certain minimum and multiple borrowing thresholds for peso borrowings under the revolving credit facility and (iii) eliminate the reporting requirement to provide unaudited consolidated financial statements for the fourth fiscal quarter. The Amendment and Waiver also waived certain reporting requirements, including the requirement of KCSM to provide audited consolidated financial statements 90 days after the end of the 2005 fiscal year, provided such reports were delivered by April 30, 2006, and compliance with the Consolidated Leverage Ratio obligations of Section 7.1(c) of the 2005 KCSM Credit Agreement for the four quarters ending December 31, 2005, if compliance therewith was calculated without giving effect to the amendment to the definition of “Indebtedness” in the Amendment and Waiver,providedthat KCSM was in compliance therewith after giving effect to the Amendment and Waiver. KCSM is not currently in default of the 2005 KCSM Credit Agreement and currently has access to the revolving credit facility.
101,/4% Senior Notes.  As of December 31, 2005, KCSM had outstanding $150.0 million of 101/4% unsecured senior notes issued in 1997 and due June 15, 2007 (the “KCSM 2007 Senior Notes”). On October 23, 2006, pursuant to an offer to purchase dated such date, KCSM commenced a cash tender offer and consent solicitation for any and all outstanding $150.0 million aggregate principal amount of the KCSM 2007 Senior Notes. The consent solicitation expired on November 3, 2006. KCSM received consents in connection with the tender offer and consent solicitation from holders of over 97% of the KCSM 2007 Senior Notes to amend the indenture under which the KCSM 2007 Senior Notes were issued (the “2007 Indenture”), to eliminate substantially all of the restrictive covenants included in the 2007 Indenture. The supplemental indenture relating to the KCSM 2007 Senior Notes containing the proposed changes (the “2007 Supplemental Indenture”) became effective on November 21, 2006. The tender offer expired at midnight, New York City time, on November 20, 2006 and KCSM purchased tendered notes on November 21, 2006, in accordance with the terms of the tender offer from proceeds received through the issuance of new 75/8% senior unsecured notes. On December 31, 2006, there was $4.0 million of KCSM 2007 Senior Notes outstanding.
121/2% Senior Notes.  KCSM has outstanding $178.6 million of 121/2% senior unsecured notes issued in June 2002 and due June 15, 2012, which are redeemable at any time in the event of certain changes in Mexican tax law and at KCSM’s option after June 14, 2007, 2010, subject to certain limitations, at the following redemption prices (expressed in percentages of principal amount), plus any accrued and unpaid interest: 20072010 — 106.250%103.813%, 20082011 — 104.167%, 2009 — 102.083%101.906% and thereafter2012 — 100.000%.


84


In addition, the 7Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)

935/8% Senior Notes.  KCSM has outstanding $460.0 million of 93/8% senior unsecured notes issued on April 19, 2005, and due May 1, 2012. The notes are redeemable at KCSM’s option at the following redemption prices (expressed in percentages of principal amount), plus any unpaid interest: 2009 — 104.688%, 2010 — 102.344% and thereafter — 100.000%. Subject to certain conditions, up to 35% of the principal of the notes is redeemable prior to May 1, 2008. In addition, the notesNotes are redeemable, in whole but not in part, at KCSM’s option at their principal amount in the event of certain changes in the Mexican withholding tax rate.
 
753/8% Senior Notes.  On November 21, 2006,May 16, 2007, KCSM issued $175.0$165.0 million principal amount of new 753/8% senior unsecured notes due DecemberJune 1, 2013. Proceeds from the issuance were used to purchase $146.0 million2014 (the “73/8% Senior Notes”), which bear interest semiannually at a fixed annual rate of tendered KCSM 200773/8%. The 73/8% Senior Notes and repay $29.0 million of term loans under the 2005 KCSM Credit Agreement. The notes are redeemable at KCSM’s option, in whole but not in part, at 100% of their principal amount, plus any accrued and unpaid interest, at any time in the event of certain changes in Mexican tax law, and in whole or in part, on or after November 30, 2010,June 1, 2011, subject to certain limitations, at the following redemption prices (expressed inas percentages of principal amount), plus any accrued and unpaid interest: 2010 — 103.813%, 2011 — 101.906%103.688%, 2012 — 101.844%, 2013 — 100.000%.
121/2% Senior Notes.  On March 30, 2009, KCSM issued the 121/2% Senior Notes, which bear interest semiannually at a fixed annual rate of 121/2%. The 121/2% Senior Notes were issued at a discount to par value, resulting in an $11.0 million discount and 2012a yield to maturity of 133/4%. KCSM used a portion of the net proceeds from the offering to repay all amounts outstanding under the 2007 KCSM Credit Agreement. The 121/2% Senior Notes are redeemable at KCSM’s option in whole or in part on and after April 1, 2013, at the following redemption prices (expressed as percentages of principal amount) plus any accrued and unpaid interest: 2013 — 106.250%, 2014 — 103.125%, 2015 — 100.000%. Subject to certain conditions,In addition, KCSM may redeem up to 35% of the principalnotes any time prior to April 1, 2012 from the proceeds of the notes issale of capital stock in KCSM or KCS and are redeemable, in whole but not in part, at KCSM’s option at their principal amount in the event of certain changes in the Mexican withholding tax rate.
KCSM 8.0% Senior Notes.  On January 22, 2010, KCSM issued the KCSM 8.0% Senior Notes due February 1, 2018, which bear interest semiannually at a fixed annual rate of 8.0%. The KCSM 8.0% Senior Notes were issued at a discount to par value, resulting in a $4.3 million discount and a yield to maturity of 81/4%. KCSM used the net proceeds from the issuance of the KCSM 8.0% Senior Notes and cash on hand to purchase $290.0 million in principal amount of the 93/8% Senior Notes tendered under an offer to purchase and pay all fees and expenses incurred in connection with the KCSM 8.0% Senior Notes offering and tender offer. The KCSM 8.0% Senior Notes are redeemable at KCSM’s option, in whole or in part, on and after February 1, 2014, at the following redemption prices (expressed as percentages of principal amount) plus any accrued and unpaid interest: 2014 — 104.000%, 2015 — 102.000%, 2016 — 100.000%. In addition, KCSM may redeem up to 35% of the KCSM 8.0% Senior Notes any time prior to DecemberFebruary 1, 2009. In addition,2013 from the notesproceeds of the sale of capital stock in KCSM or KCS and are redeemable, in whole but not in part, at KCSM’s option at their principal amount in the event of certain changes in the Mexican withholding tax rate.
 
All of KCSM’s senior notes described above are denominated in dollars and are unsecured, unsubordinated obligations, rankpari passuin right of payment with KCSM’s existing and future unsecured, unsubordinated obligations, and are senior in right of payment to KCSM’s future subordinated indebtedness,indebtedness. In addition, the senior notes include certain covenants that restrict or prohibit certain actions.
5.737% Financing Agreement.  On February 26, 2008, KCSM entered into a financing agreement for an aggregate amount of $72.8 million. KCSM used the proceeds to finance 85% of the purchase price of forty new SD70ACe locomotives delivered and other thanpurchased by KCSM in late 2007 and early 2008. KCSM granted the 10lender a security interest in the locomotives to secure the loan. The financing agreement requires KCSM to make thirty equal semi-annual principal payments of approximately $2.4 million plus interest at an annual rate of 5.737%, with the final payment due and payable on February 28, 2023.
6.195% Financing Agreement.  On September 24, 2008, KCSM entered into a financing agreement with DVB Bank AG (“DVB”). KCSM received the loan principal amount under the financing agreement of


70


1Kansas City Southern
/
4Notes to Consolidated Financial Statements — (Continued)% Senior Notes,
$52.2 million on September 26, 2008. KCSM used the proceeds to finance approximately 80% of the purchase price of twenty-nine ES44AC locomotives delivered and purchased by KCSM in June 2008. KCSM granted DVB a security interest in the locomotives to secure the loan. The financing agreement requires KCSM to make sixty equal quarterly principal payments plus interest at an annual rate of 6.195%, with the final payment due and payable on September 29, 2023.
Both locomotive financing agreements contain representations, warranties and covenants typical of such equipment loan agreements. Events of default in the financing agreements include, but are not guaranteed by Grupo KCSM.limited to, certain payment defaults, certain bankruptcy and liquidation proceedings and the failure to perform any covenants or agreements contained in the financing agreement. Any event of default could trigger acceleration of KCSM’s payment obligations under the terms of the financing agreements.
 
Other Debt Provisions.Provisions
 
Other Agreements, Guarantees, Provisions and Restrictions.  The Company has debt agreements customary for these types of debt instruments and for borrowers with similar credit ratings containing restrictions on subsidiary indebtedness, advances and transfers of assets, and sale and leaseback transactions, as well as requiring compliance with various financial covenants. Because of certain financial covenants contained in the debt agreements, however, maximum utilization of the Company’s available linelines of credit may be restricted.
 
Change in Control Provisions.  Certain loan agreements and debt instruments entered into or guaranteed by the Company and its subsidiaries provide for default in the event of a specified change in control of the Company or particular subsidiaries of the Company.


85


 
Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)

Leases and Debt Maturities.Maturities
 
The Company leases transportation equipment, as well as office and other operating facilities, under various capital and operating leases. Rental expenses under operating leases were $136.8$139.0 million, $103.0$137.1 million, and $57.7$129.4 million for the years ended December 31, 2006, 2005,2009, 2008, and 2004,2007, respectively. Contingent rentals and sublease rentals were not significant. Minimum annual payments and present value thereof under existing capital leases, other debt maturities and minimum annual rental commitments under non-cancelable operating leases follow(in millions):
 
                                                                
   Capital Leases            Capital Leases   Operating Leases 
 Long-
 Minimum
   Net
   Operating Leases  Long-
 Minimum
   Net
         
 Term
 Lease
 Less
 Present
 Total
 Southern
 Third
    Term
 Lease
 Less
 Present
 Total
 Southern
 Third
   
Years
 Debt Payments Interest Value Debt Capital Party Total  Debt Payments Interest Value Debt Capital Party Total 
2007(i) $92.2  $0.7  $0.1  $0.6  $92.8  $18.8  $104.8  $123.6 
2008  230.7   0.7   0.1   0.6   231.3   19.2   90.4   109.6 
2009  204.1   0.5      0.5   204.6   17.0   78.9   95.9 
2010  3.9   0.1      0.1   4.0   18.0   73.6   91.6  $65.8  $3.5  $1.2  $2.3  $68.1  $20.2  $126.4  $146.6 
2011  126.4            126.4   13.0   63.3   76.3   14.2   3.8   1.0   2.8   17.0   19.8   119.9   139.7 
Thereafter(ii)  1,097.9            1,097.9   94.8   366.8   461.6 
2012  474.4   3.9   0.8   3.1   477.5   14.8   98.0   112.8 
2013  658.5   2.0   0.6   1.4   659.9   13.2   88.8   102.0 
2014  176.3   2.1   0.5   1.6   177.9   12.5   84.8   97.3 
Thereafter  574.8   5.3   0.5   4.8   579.6   69.7   436.1   505.8 
                                  
Total $1,755.2  $2.0  $0.2  $1.8  $1,757.0  $180.8  $777.8  $958.6  $1,964.0  $20.6  $4.6  $16.0  $1,980.0  $150.2  $954.0  $1,104.2 
                                  
(i)Includes current liability related to Grupo KCSM acquisition.
(ii)Includes long-term liability related to Grupo KCSM acquisition.
 
In the normal course of business, the Company enters into long-term contractual requirements for future goods and services needed for the operations of the business. Such commitments are not in excess of expected requirements and are not reasonably likely to result in performance penalties or payments that would have a material adverse effect on the Company’s liquidity.


71


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)
 
Note 7.8.  Income Taxes
 
Current income tax expense represents the amounts expected to be reported on the Company’s income tax return,returns, and deferred tax expense or benefit represents the change in net deferred tax assets and liabilities. Deferred tax assets and liabilities are determined based on the difference between the financial statement and tax basis of assets and liabilities as measured by the enacted tax rates that will be in effect when these differences reverse. Valuation allowances are usedrecorded as appropriate to reduce deferred tax assets to the amount considered likely to be realized.


86


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)

 
Tax Expense.  Income tax provisionexpense (benefit) consists of the following components(in millions):
 
                        
 2006 2005 2004  2009 2008 2007 
Current:
                        
Federal $4.0  $11.2  $(12.4) $(1.1) $0.9  $ 
State and local  0.4   (1.3)  0.1   1.3   (0.2)  0.8 
Foreign     0.3      3.0       
              
Total current  4.4   10.2   (12.3)  3.2   0.7   0.8 
              
Deferred:
                        
Federal  12.7   (17.8)  33.8   35.4   40.8   33.2 
State and local  7.2   1.4   2.1   2.1   7.9   2.4 
Foreign  21.1   (0.9)     (6.1)  15.1   30.7 
              
Total deferred  41.0   (17.3)  35.9   31.4   63.8   66.3 
              
Total income tax expense (benefit) $45.4  $(7.1) $23.6 
Total income tax expense $34.6  $64.5  $67.1 
              
 
The tax effects of temporary differences that give rise to significant portions of the deferred tax assets and deferred tax liabilities follow at December 31(in millions):
 
                
 2006 2005  2009 2008 
Liabilities:
                
Depreciation $571.2  $565.2  $579.7  $545.6 
Investments  13.4   16.2   74.0   71.0 
Concession rights  256.7   277.5   154.6   152.5 
Other, net  5.6   5.6   16.7   8.5 
          
Gross deferred tax liabilities  846.9   864.5   825.0   777.6 
          
Assets:
                
Loss carryovers  (480.7)  (491.3)  (276.5)  (284.5)
Book reserves not currently deductible for tax  (48.3)  (57.4)  (124.6)  (99.3)
Inventories and provisions  (33.1)  (70.9)
Vacation accrual  (3.8)  (3.5)  (3.6)  (3.7)
Other, net  (9.8)  (3.9)  (28.6)  (19.8)
          
Gross deferred tax assets before valuation allowance  (575.7)  (627.0)  (433.3)  (407.3)
Valuation allowance on loss carryovers  9.8   9.5   23.7   22.9 
          
Gross deferred tax assets  (565.9)  (617.5)  (409.6)  (384.4)
          
Net deferred tax liability $281.0  $247.0  $415.4  $393.2 
          


8772


 
Kansas City Southern
 
Notes to Consolidated Financial Statements — (Continued)

Tax Rates.  Differences between the Company’s effective income tax rates and the U.S. federal income tax statutory rates of 35% follow(in millions):
 
             
  2006  2005  2004 
 
Income tax provision using the Statutory rate in effect $54.1  $26.7  $16.8 
Tax effect of:            
Earnings (losses) of equity investees  (0.6)  0.3   1.8 
State and local income tax provision  3.9   0.1   2.8 
Tax credits  (1.8)  (2.4)   
Change in tax contingency  (2.8)      
Foreign exchange, tax rate and indexation adjustments  (4.9)  4.3    
Write off of deferred profit sharing     10.1    
VAT/Put settlement     (42.3)   
Difference between U.S. and foreign tax rate  (3.1)  (3.9)   
Foreign asset tax     0.3    
Other, net(i)  0.6   (0.3)  2.2 
             
Income tax expense (benefit) $45.4  $(7.1) $23.6 
             
Effective tax rate  29.4%  (9.3)%  49.1%
             
  2009  2008  2007 
 
Income tax expense using the statutory rate in effect $36.3  $87.0  $77.5 
Tax effect of:            
Permanent items  2.2   3.3   2.1 
State and local income tax provision, net  1.8   2.8   2.1 
Tax credits  (1.9)  (2.5)  (2.9)
Uncertain tax positions     (4.3)   
Difference between U.S. and foreign tax rate  (5.2)  (8.5)  (9.0)
Foreign exchange and inflation adjustments  12.2   (27.4)  (5.6)
Change in valuation allowances  0.8   14.0    
Change in Mexican tax law  (11.1)      
Other, net  (0.5)  0.1   2.9 
             
Income tax expense $34.6  $64.5  $67.1 
             
(i)2004 includes certain adjustments of prior year provision estimates resulting in a $1.1 million increase in tax expense.
 
Difference Attributable to KCSM Investment.Foreign Investments.  At December 31, 2006,2009, the Company’s book basis exceeded the tax basis of its investment in KCSMforeign investments by $563$756.4 million. The Company has not provided a deferred income tax liability for the income taxes, if any, which might become payable on the realization of this basis difference because the Company intends to indefinitely reinvest in KCSMforeign investments the financial accountingoperating earnings which gave rise to the basis differential.differential or remit the earnings in tax-free transactions. Moreover, the Company has no other plans to realize this basis differential by a sale of its investmentinterests in KCSM.foreign investments. If the Companyearnings were to realize this basis differencebe remitted in the future by a receipt of dividends or the sale of its interest in KCSM,taxable transaction, as of December 31, 2006,2009, the Company would incur gross federal income taxes of $197.1$264.7 million which mightwould be partially offset by Mexican income taxes.foreign tax credits.
 
PriorChanges in Tax Law.  On October 1, 2007 the Entrepreneurial Tax of Unique Rate (referred to by its Spanish acronym, IETU or “Flat Tax”) in Mexico was enacted. The Flat Tax law became effective on January 1, 2008 and replaced the acquisitionAsset Tax law. The Flat Tax applies to a different tax base than the regular income tax and will be paid if the Flat Tax exceeds the ordinary income tax computed under existing law.
On December 28, 2009, the final provisions of a controlling interest in Grupo KCSM on April 1, 2005, Grupo KCSM provided deferredMexico’s 2010 tax reform were enacted. The income taxestax rate was increased to 30% from 28% for the difference between the financial reportingyears 2010 to 2012, 29% for 2013 and income tax basesthen returns to its current rate of its assets and liabilities. KCS recorded its proportionate share of these income taxes through its equity28% in Grupo KCSM’s earnings. Since April 1, 2005, Grupo KCSM income taxes are reflected in the consolidated results. Although KCSM has generated book profits, it has incurred tax losses due primarily to the accelerated tax amortization of the Concession rights.2014. The Company has recognized aCompany’s deferred income tax asset forassets and liabilities were revalued using the resulting net operating loss carryforwards. Management anticipates that such net operating loss carryforwards willrates expected to be realized givenin effect when the expiration dates (through the year 2046) of the loss carryforwards, as well as the fact that KCSM expectsunderlying temporary differences are expected to generate taxable incomereverse. This revaluation resulted in an $11.1 million benefit in the future. Management’s2009 tax projections take into consideration certain assumptions, some of which are under their control and others which are not. Key assumptions include inflation rates, currency fluctuations and future revenue growth. If management’s assumptions are not correct, a valuation allowance may haveprovision. A 1% increase to be recognized on the deferred tax asset.
As described in Note 4, on September 12, 2005, the Company and its subsidiaries, KCSM and Grupo KCSM, along with TMM, entered into a settlement agreement with the Mexican government, resolving the controversies and disputes between the companies and the Mexican government concerning the payment of a value added tax (“VAT”) refund to KCSM and the obligation (“Put”) to purchase the remaining shares of


88


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)

KCSM owned by the Mexican government (the “VAT/Put Settlement”). All Mexican income taxesrate was also enacted, however, this increase will not have a material impact on the VAT were paid as part ofconsolidated financial statements because, under Mexican law, value added tax is fully transferred to the VAT/Put Settlement. The Company believes, based upon opinions of outside legal counsel and other factors, that the VAT/Put Settlement is not taxable to KCS for U.S. income tax purposes.final customer.
 
Tax Carryovers.  In the year ended December 31, 2005,prior years, the Company has generated both U.S. federal and state net operating losses. The losses are carried forward 20 years for federal and from 5 to 20 years for state.
Both the federal and state loss carryovers are analyzed each year to determine the likelihood of realization. The U.S. federal loss carryover at December 31, 2006,2009 is $137.8$101.1 million and if not used, would begin to expire in 2023. In addition, the Company has $16.9 million of tax credits consisting primarily of $15.1 million of track maintenance credits and $0.5 million of employment credits which, if not used, will begin to expire beginning in 2008. The Company believes the federal loss carryover will be realized.2025, and $1.3 million of alternative minimum tax credits which do not have an expiration period.
 
The state loss carryovers arise from both combined and separately filedseparate tax filings from as early as 1991.1994. The loss carryovers may expire as early as December 31, 2007,2010 and as late as December 31, 2026.2029. The state loss


73


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)
carryover at December 31, 2006,2009 is $527.9$450.4 million ($16.0with a related $28.3 million of tax),tax benefit, of which it is expected that $203.6$162.4 million ($6.2with a related $10.2 million of tax)tax benefit, will be realized. Management believes that state loss carryovers, net of the valuation allowance, will be ultimately realized.
 
The Mexico federal loss carryovers at December 31, 2006,2009 are $1.5 billion (Mexican pesos$797.7 million, of Ps16.2 billion)which $110.1 million will begin to expire in 2016 and the remaining $687.6 million will expire as early as 2015 and as late asin 2046. A deferred tax asset was recorded in prior periods for the expected future tax benefit of these losses which will be carried forward to reduce only ordinary Mexican income tax payable in future years. With the addition of the Flat Tax, the losses are not projected to completely eliminate future tax liabilities. A deferred tax asset is recorded for an asset tax credit carryover in the amount of $8.1 million which began to expire in 2008 at a rate of 10 percent per year. A valuation allowance of $11.9 million has been recorded to reflect the reduced expected tax benefit to be derived from these carryovers.
The Company believes it is more likely than not that the Mexicanresults of future operations will generate sufficient taxable income to realize the deferred tax assets, net of valuation allowances, related to loss carryovers will be realized.and tax credits.
 
Internal Revenue Service Reviews.Uncertain Tax Positions.  The IRSaccounting guidance for uncertainty in income taxes prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. The guidance requires the Company to recognize in the financial statements the benefit of a tax position only if the impact is currently reviewingmore likely than not of being sustained on audit based on the technical merits of the position. The guidance also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods and disclosure. The provisions were effective for the Company beginning January 1, 2007. A reconciliation of the beginning and ending amount of unrecognized tax benefits is as follows (in millions):
         
  2009  2008 
 
Balance at January 1, $2.1  $32.6 
Additions based on tax positions related to the current year      
Additions for tax positions of prior years     0.9 
Reductions for tax positions of prior years     (18.5)
Settlements     (12.9)
         
Balance at December 31, $2.1  $2.1 
         
The remaining $2.1 million of unrecognized tax benefits would affect the effective income tax rate if recognized and is not expected to change in the next twelve months.
Interest and penalties related to uncertain tax positions are included in income before taxes on the income statement. Accrued interest and penalties on unrecognized tax benefits are $0.2 million as of December 31, 2009 and December 31, 2008. For the year ended December 31, 2009, the Company recognized less than $0.1 million in interest and penalty expense. For the years ended December 31, 2008 and 2007, the Company recognized a reduction of interest and penalty expense of $5.5 million and an increase of interest and penalty expense of $2.3 million, respectively.
The Company settled the audit of the U.S. consolidated federal income tax returns for the years 1997 through 2002. A current2002 and paid the accrued tax liability in 2009. The U.S. federal statute of limitations has closed for years prior to 2004. The Internal Revenue Service (“IRS”) is currently examining the 2008 U.S. consolidated federal income tax liability has been accruedreturn. As a result of the IRS settlement, the Company filed state amended tax returns for tax years1997-2007. Due to these filings, the statute of limitations for various states is open for years 1997 forward.
Tax returns filed in Mexico through 2002 are closed to examination by the taxing authorities in Mexico. The 2003 through 2005 Mexico tax returns are currently under examination. The Company received a


74


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)
preliminary audit assessment for the anticipated outcome.year ended December 31, 2003, from Servicio de Administracion Tributaria (the “SAT”), the Mexican equivalent of the IRS. The Company is currently in negotiations with the SAT, and if a settlement is not reached, the matter will be litigated. The Company believes that it has strong legal arguments in its favor and will more likely than not ultimately prevail in any challenge of this assessment. The Company believes that an adequate provision has been made for any adjustment (taxes and interest) that maywill be assesseddue for all open years. The federal statute of limitations has closed for years prior to 1997.
 
Note 8.9.  Stockholders’ Equity
 
Information regarding the Company’s capital stock at December 31 follows:
 
                        
 Shares
      Shares
     
 Authorized
 Shares Issued  Authorized
 Shares Issued 
 2006 and 2005 2006 2005  2009 and 2008 2009 2008 
$25 par, 4% noncumulative, preferred stock  840,000   649,736   649,736   840,000   649,736   649,736 
$1 par, preferred stock  2,000,000         2,000,000       
$1 par, series A, preferred stock  150,000         150,000       
$1 par, series B convertible, preferred stock  1,000,000         1,000,000       
$1 par, series C redeemable cumulative convertible perpetual preferred stock  400,000   400,000   400,000   400,000       
$1 par, series D cumulative convertible perpetual preferred stock  210,000   210,000   210,000   210,000   210,000   210,000 
$.01 par, common stock  400,000,000   92,863,585   91,369,116   400,000,000   110,583,068   106,252,860 
 
Shares outstanding at December 31:
 
                
 2006 2005  2009 2008 
$25 par, 4% noncumulative, preferred stock  242,170   242,170   242,170   242,170 
$1 par, series C redeemable cumulative convertible perpetual preferred stock  400,000   400,000 
$1 par, series D cumulative convertible perpetual preferred stock  210,000   210,000   209,995   209,995 
$.01 par, common stock  75,920,333   73,412,081   96,213,346   91,463,762 

Treasury Stock.  Shares of common stock in Treasury and related activity follow:
             
  2009  2008  2007 
 
Balance at beginning of year  14,789,098   15,888,078   16,943,252 
Shares issued for preferred stock dividend        (378,667)
Shares issued to fund stock option exercises  (359,575)  (1,065,724)  (84,528)
Employee stock purc hase plan shares issued  (71,699)  (91,326)  (116,663)
Nonvested shares issued  (107,365)  (225,873)  (563,112)
Nonvested shares forfeited  119,263   283,943   87,796 
             
Balance at end of year  14,369,722   14,789,098   15,888,078 
             
Redemption of Series C Redeemable Cumulative Convertible Perpetual Preferred Stock.  On June 12, 2008, the Company called for redemption all of the outstanding shares of its 4.25% Series C Redeemable Cumulative Convertible Perpetual Preferred Stock (the “Series C Preferred Stock”) with a redemption date of July 15, 2008 (the “Redemption Date”). The holders of the outstanding shares had the option to redeem at a redemption price of $500 per share or convert each share into 33.4728 shares of KCS common stock. Each share converted also received an appropriate number of common stock or other preferred stock purchase rights under KCS’ 2005 Rights Agreement. All 400,000 shares of Series C Preferred Stock were converted into 13,389,109 shares of common stock.


8975


 
Kansas City Southern
 
Notes to Consolidated Financial Statements — (Continued)

Treasury Stock.  Shares of common stock in Treasury and related activity follow:
             
  2006  2005  2004 
 
Balance at beginning of year  17,957,035   10,098,912   11,193,495 
Shares purchased     9,000,000    
Shares issued to fund stock option exercises  (617,107)  (528,758)  (889,803)
Employee stock purchase plan shares issued  (109,644)  (205,928)  (197,780)
Nonvested shares issued  (428,143)  (442,632)  (7,000)
Nonvested shares forfeited  141,111   35,441    
             
Balance at end of year  16,943,252   17,957,035   10,098,912 
             
Series C Redeemable Cumulative Convertible Perpetual Preferred Stock.  On May 5, 2003, the Company completed the sale of $200 million of Redeemable Cumulative Convertible Perpetual Preferred Stock (“Series C Preferred Stock”) with a liquidation preference of $500 per share in a private offering. Dividends on the Series C Preferred Stock are cumulative and payable quarterly at an annual rate of 4.25% of the liquidation preference, as declared by the Company’s Board of Directors. Each share of Series C Preferred Stock is convertible into 33.4728 shares of the Company’s common stock. After May 19, 2008, the Company may redeem any or all of the Series C Preferred Stock, subject to certain conditions. The Company may be required to redeem the Series C Preferred Stock from the holders at their option only if substantially all of the Company’s common stock is exchanged for or converted into common stock that is not listed on a U.S. national securities exchange or the NASDAQ National Market (a “fundamental change”). The practical effect of this provision is to limit the Company’s ability to eliminate a holder’s ability to convert the Series C Preferred Stock into common shares of a publicly traded company through a merger or consolidation transaction. Accordingly, since the Company is in a position to control whether the Company experiences a fundamental change, the Series C Preferred Stock is classified as permanent equity capital.
 
Series D Cumulative Convertible Perpetual Preferred Stock.  On December 9, 2005, KCS completed the sale and issuance of 210,000 shares of its 5.125% Series D Convertible Preferred Stock, par value $1.00 per share (“Series D Preferred Stock”). Each share of Series D Preferred Stock is convertible into 33.3333 shares of KCS common stock, subject to certain adjustments. Dividends on the Series D Preferred Stock are cumulative and payable quarterly in any combination of cash and KCS common stock, as declared by the KCS Board of Directors, at the rate of 5.125% per annum of the liquidation preference of $1,000. The Series D Preferred Stock ranks senior to the common stock and to each class or series of KCS capital stock that has terms that provide that such class or series will rank junior to the Series D Preferred Stock. AfterOn or after February 19,20, 2011, KCS may convert all of the Series D Preferred Stock into common stock at the then prevailing conversion rate, but only if the closing sale price of the common stock multiplied by the conversion rate then in effect equals or exceeds 130% of the liquidation preference for 20 trading days during any consecutive 30 trading day period, and if KCS has paid all accumulated and unpaid dividends on the dividend payment date immediately preceding the forced conversion date.
 
Upon certain designated events (a “fundamental change”), holders of the Series D Preferred Stock may, subject to legally available funds, require KCS to redeem any or all of the shares, which KCS may pay in either cash, in shares of KCS stock or any combination thereof, at KCS’ option. Since KCS has the ability in this event to pay the redemption price in KCS common stock (which is not required to be registered), the Series D Preferred Stock is classified as permanent equity capital. The number of shares to be issued would be based upon the value of KCS common stock at that time but in no event will the number of shares issued on the occurrence of a fundamental change exceed 52.5 million shares.
 
Common Stock Issuance.On December 12, 2005,April 27, 2009, the Company used substantially allentered into an ATM Equity Offeringsm Sales Agreement with Bank of America Merrill Lynch, Pierce, Fenner & Smith, Incorporated (the “ATM Equity Offering”), in which the Company received proceeds of $51.4 million (net of commission of $0.9 million and fees and other expenses of $0.2 million) from the issuance of 3,204,900 common shares, at a weighted average sales price of $16.38. On July 31, 2009, the Company entered into a Common Stock Purchase Agreement with certain institutional investors in which the Company issued 1,125,308 shares of the proceeds from the Series D Preferred Stock offering to repurchase 9,000,000 shares of KCSCompany’s common stock issued to TMM in April 2005 in


90


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)

connection with the acquisition of KCSM. All of the 9,000,000 shares were purchased at a purchase price of $22.25$20.00 per share or $200.3on August 3, 2009 for aggregate proceeds of $22.5 million. The Company does not have a formal program forThis completed the repurchaseCompany’s offering of any additional shares of its equity securities.under the ATM Equity Offering and Common Stock Purchase Agreement.
 
Dividend Restrictions.  Following completion of the preparation of the 2005 financial statements of KCS, the Company determined that its Consolidated Coverage Ratio (as defined in the indentures for KCSR’s 71/2senior notesSenior Notes and 91/2senior notes)Senior Notes) was less than 2.0:1. As a result, pursuant to the terms of each KCSR indenture, the Company was unable to pay cash dividends on its Series C Preferred Stock and dividends in cash or shares of KCS common stock on its Series D Preferred Stock. The dividends accumulateaccumulated until such ratio increasesincreased to at least 2.0:1. See Note 16On January 12, 2007, KCS declared a dividend on the Series C Preferred Stock and Series D Preferred Stock for further discussion.all outstanding arrear dividends. As of December 31, 2009, 2008, and 2007, KCS is current with respect to its Preferred Stock dividend payments.
 
Stockholder Rights Plan.  On September 27, 2005, the Board of Directors of the Company declared a dividend distribution of one right for each outstanding share of the Company’s common stock to stockholders of record as of the close of business on October 12, 2005, replacing a previous Rights Agreement that expired on October 12, 2005. Each right entitles the stockholder to purchase from the Company one one-thousandth of a share of Series A Preferred Stock (or in certain circumstances, common stock, other securities, cash or other assets), at a price of $100 per share (both shares and price are subject to adjustment periodically to prevent dilution). The rights are traded with the Company’s common stock.
 
The Rights Plan has certain anti-takeover provisions that may cause substantial dilution to a person or group that attempts to acquire the Company without the approval of the Board of Directors. The Rights Plan will not interfere with any offer for all of the outstanding common stock that has the approval of the


76


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)
Independent Directors. The rights will become excercisableexercisable after a non-approved person or group has acquired, or a tender offer is made for, 15% or more of the common stock of the Company (13% or more in the case of certain acquisitions by “Adverse Persons”). Right holders (other than the acquiring person or group) may then exercise their rights at the then current purchase price, and receive the number of shares of Preferred Stock (or in certain circumstances, common stock) having a market value of two times the purchase price of the rights. Additionally, if the Company is thereafter merged into another entity, or if more than 50% of the Company’s consolidated assets or earning power is sold or transferred, holders of the rights may exercise their rights at the then current purchase price and receive common stock of the acquirer equal to two times the purchase price of the rights. KCS may redeem the rights for $0.0025 per right until a triggering acquisition. The rights expire October 11, 2010.
 
Change in Control Provisions.  The Company and certain of its subsidiaries have entered into agreements with employees whereby, upon defined circumstances constituting a change in control of the Company or subsidiary, certain stock options become exercisable, certain benefit entitlements are automatically funded and such employees are entitled to specified cash payments upon termination of employment.
 
The Company and certain of its subsidiaries have established trusts to provide for the funding of corporate commitments and entitlements of officers, directors, employees and others in the event of a specified change in control of the Company or subsidiary. Assets held in such trusts on December 31, 2006,2009 and 2008, were not material. Depending upon the circumstances at the time of any such change in control, the most significant factor of which would be the highest price paid for KCS common stock by a party seeking to control the Company, funding of the Company’s trusts could be substantial.
 
Note 9.10.  Share-Based Compensation
 
On October 7, 2008, the Company’s stockholders approved the Kansas City Southern 2008 Stock Option Plan.and Performance Award Plan (the “2008 Plan”). The 2008 plan became effective on October 14, 2008 and replaces the Kansas City Southern 1991 Amended and Restated Stock Option and Performance Award Plan (as amended and restated effective May 5, 2004) (the “Plan”“1991 Plan”). The 2008 Plan provides for the granting of options to purchase up to 16.02.3 million shares of the Company’s common stock by officers and other designated employees. Options have beento eligible persons as defined in the 2008 Plan. Outstanding equity awards granted under the 1991 Plan and the 2008 Plan (the “Plans”) are to be governed by the terms and conditions of each individual plan and the related award agreements.
Stock Option Plan.  Options will be granted under the 2008 Plan at 100% of the closing market price of the Company’s stock on the date of grant. Under the 1991 Plan, options were granted at 100% of the average market price of the Company’s stock on the date of grant andgrant. Options generally have a 5 year cliff vesting period and are exercisable


91


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)

over the 10 year contractual term, except that options outstanding with limited rights (“LRs”) or limited stock appreciation rights (“LSARs”), become immediately exercisable upon certain defined circumstances constituting a change in control of the Company. The Plan includesPlans include provisions for stock appreciation rights, LRs and LSARs. All outstanding options include LSARs, except for options granted to non-employee Directors prior to 1999. The grant date fair value, less estimated forfeitures, is recorded to expense on a straight-line basis over the vesting period.
 
The fair value of each option award is estimated on the date of grant using the Black-Scholes option pricing model. The weighted-average assumptions used were as follows:
 
                        
 2006 2005 2004  2009 2008 2007 
Expected dividend yield  0%  0%  0%  0%  0%  0%
Expected volatility  37.84%  26.78%  29.66%  42.86%  32.28%  34.17%
Risk-free interest rate  4.96%  3.41%  2.75%  1.66%  3.29%  4.70%
Expected term(years)
  6.83   5.50   3.43   7.50   7.50   7.50 
Fair value at grant date $12.62  $3.98  $3.64 
Weighted-average grant date fair value of stock options granted $6.45  $18.33  $16.04 


77


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)
 
The Company has not historically paid dividends to common shareholders.shareholders since January of 2000 and currently does not expect to pay dividends to common stockholders in the future. The expected volatility is based on the historical volatility of the Company’s stock price over a term equal to the estimated life of the options. The risk-free interest rate is determined based on the U.S. Treasury rates approximating the expected life of the options granted, which represents the period of time the awards are expected to be outstanding and is based on the historical experience of similar awards.
 
The following table summarizes combined activity under the stock option plan:Plans:
 
                                
   Weighted-
 Weighted-
      Weighted-
 Weighted-
   
   Average
 Average
      Average
 Average
   
   Exercise
 Remaining
 Aggregate
    Exercise
 Remaining
 Aggregate
 
 Number of
 Price
 Contractual
 Intrinsic
  Number of
 Price
 Contractual
 Intrinsic
 
 Shares per Share Term Value  Shares per Share Term Value 
     In years In millions      In years In millions 
Options outstanding at December 31, 2003  4,612,863  $7.36         
Options outstanding at December 31, 2006  2,940,332  $8.98         
Granted  590,247   14.67           32,500   33.78         
Exercised  (894,832)  5.64           (95,907)  6.14         
Forfeited or expired  (115,536)  12.27           (19,162)  20.95         
          
Options outstanding at December 31, 2004  4,192,742   8.62         
Options outstanding at December 31, 2007  2,857,763   9.28         
Granted  104,200   17.51           15,380   43.15         
Exercised  (554,869)  6.88           (1,094,184)  7.79         
Forfeited or expired  (34,680)  10.54           (91,344)  17.99         
          
Options outstanding at December 31, 2005  3,707,393   9.11         
Options outstanding at December 31, 2008  1,687,615   10.08         
Granted  90,800   26.03           8,000   13.52         
Exercised  (627,907)  10.83           (359,623)  8.26         
Forfeited or expired  (229,954)  12.77           (34,137)  23.65         
          
Options outstanding at December 31, 2006  2,940,332  $8.98   4.59  $58.8 
Options outstanding at December 31, 2009  1,301,855  $10.25   1.99  $30.0 
                  
Vested and expected to vest at December 31, 2006  2,929,307  $8.94   4.57  $58.7 
Vested and expected to vest at December 31, 2009  1,297,665  $10.18   1.97  $30.0 
                  
Exercisable at December 31, 2006  2,499,144  $7.74   4.16  $53.1 
Exercisable at December 31, 2009  1,245,975  $9.24   1.76  $30.0 
                  
 
Compensation expense of $0.6less than $0.1 million, $0.1 million, and $0.7 million was recognized for stock option awards for the yearyears ended December 31, 2006.2009, 2008, and 2007, respectively. The total income tax benefit recognized in the income statement for stock options was


92


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)

$0.2 million. As described in Note 2, no compensation expense was recognized less than $0.1 million for the years ended December 31, 20052009 and 2004 as2008, and $0.3 million for the Company accounted for share-based compensation in accordance with APB 25 prior to the adoption of SFAS 123R on the modified prospective basis on January 1, 2006.year ended December 31, 2007.
 
Additional information regarding stock option exercises appears in the table below(in millions):
 
                           
 2006 2005 2004  2009 2008 2007   
Aggregate grant-date fair value of stock options vested $0.7  $2.1  $1.1  $0.2  $1.2  $0.5     
Intrinsic value of stock options exercised  11.4   9.7   10.8   5.9   37.9   2.9     
Cash received from option exercises  6.7   3.8   5.0   3.0   8.3   0.6     
Excess tax benefit realized from option exercises  0.2       
 
As of December 31, 2006, $1.42009, $0.4 million of unrecognized compensation cost relating to nonvested stock options is expected to be recognized over a weighted-average period of 1.471.49 years. At December 31, 2006,2009, there were 2,693,2172,166,834 shares available for future grants under the 2008 Plan.
 
Nonvested Stock.  The Kansas City Southern 1991 Amended and Restated Stock Option and Performance Award Plan providesPlans provide for the granting of nonvested stock awards to officers and other designated employees. The grant date fair value is based on the average market price of the stock (under the


78


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)
1991 Plan) or the closing market price (under the 2008 Plan) on the date of the grant. These awards are subject to forfeiture if employment terminates during the vesting period, which is generally three year or five year cliff vesting for employees and one year for directors. The grant date fair value of nonvested shares, less estimated forfeitures, is recorded to compensation expense on a straight-line basis over the vesting period.
 
A combined summary of nonvested stock activity is as follows:
 
                        
   Weighted-
      Weighted-
   
   Average Grant
 Aggregate
    Average Grant
 Aggregate
 
 Number of
 Date
 Intrinsic
  Number of
 Date
 Intrinsic
 
 Shares Fair Value Value  Shares Fair Value Value 
     In millions      In millions 
Nonvested stock at December 31, 2004    $     
Nonvested stock at December 31, 2006  613,573  $23.74     
Granted  435,032   20.64       570,464   33.26     
Vested  (7,440)  18.56       (81,613)  24.86     
Forfeited  (35,441)  21.88       (87,796)  26.05     
          
Nonvested stock at December 31, 2005  392,151   20.57     
Nonvested stock at December 31, 2007  1,014,628   28.80     
Granted  421,002   25.73       232,551   37.95     
Vested  (58,469)  20.17       (134,979)  30.50     
Forfeited  (141,111)  22.33       (283,943)  26.91     
          
Nonvested stock at December 31, 2006  613,573  $23.74  $17.8 
Nonvested stock at December 31, 2008  828,257   31.74     
Granted  116,130   18.49     
Vested  (105,078)  31.32     
Forfeited  (119,263)  30.37     
            
Nonvested stock at December 31, 2009  720,046  $29.89  $24.0 
       
 
Compensation cost onfor nonvested stock was $3.1$7.2 million, $5.1 million, and $1.5$6.7 million, for the years ended December 31, 20062009, 2008, and 2005,2007, respectively. The total income tax benefit recognized in the income statement for nonvested stock awards was $1.1$2.7 million and $0.5$1.9 million and $2.5 million for the years ended December 31, 20062009, 2008, and 2005,2007, respectively.
 
As of December 31, 2006, $11.02009, $6.5 million of unrecognized compensation costs related to nonvested stock is expected to be recognized over a weighted — averageweighted-average period of 2.071.41 years. The fair value (at vest date) of shares vested during the year ended December 31, 2006,2009, was $1.2$1.9 million.
Performance Based Awards.  During 2009, 2008, and 2007, the Company granted performance based nonvested stock awards. The awards granted establish an annual target number of shares that generally vest at the end of a three year requisite service period following the grant date or on January 17, 2010. In addition to the service condition, the number of nonvested shares to be received depends on the attainment of performance goals based on the following annual measures: operating ratio, earnings before interest, tax, depreciation and amortization (EBITDA) and return on capital employed. The number of nonvested shares ultimately earned will range from zero to 200% of the annual target award.


79


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)
A summary of performance based nonvested awards activity at target is as follows:
         
     Weighted-Average
 
  Target Number of
  Grant Date
 
  Shares*  Fair Value 
 
Nonvested stock, at December 31, 2006    $ 
Granted  504,638   30.77 
Vested      
Forfeited  (27,000)  29.82 
         
Nonvested stock, at December 31, 2007  477,638   30.82 
Granted  83,229   37.82 
Vested  (46,988)  30.13 
Forfeited  (127,999)  29.93 
         
Nonvested stock, at December 31, 2008  385,880   32.71 
Granted  5,642   18.67 
Vested  (47,609)  30.75 
Forfeited  (38,318)  33.36 
         
Nonvested stock, at December 31, 2009  305,595  $32.67 
         
*The performance shares earned in 2008 and 2007 were 85,640 and 115,419 which was approximately 62% and 120% of the annual target award granted for the 2008 and 2007 performance periods, respectively. No performance shares were earned for the 2009 performance period as the target was not met.
The Company expenses the grant date fair value of the awards which are probable of being earned based on forecasted annual performance goals over the three year performance period. Compensation expense on performance based awards was $1.7 million, $1.5 million, and $3.1 million for the years ended December 31, 2009, 2008, and 2007, respectively. Total income tax benefit recognized in the income statement for performance based awards was $0.6 million, $0.5 million, and $1.1 million for the years ended December 31, 2009, 2008, and 2007, respectively.
As of December 31, 2009, there is less than $0.1 million of unrecognized compensation cost related to performance based awards. The fair value (at vest date) of shares vested for the year ended December 31, 2009 was $0.6 million.
 
Employee Stock Purchase Plan.  The Employee Stock Purchase Plan (“ESPP”), established in 1977, provides substantially all full-time employees of the Company, certain subsidiaries and certain other affiliated entities, with the right to subscribe to an aggregate of 11.4 million shares of common stock. The ESPP is subject to annual approval by the Company’s Board of Directors. Employees may


93


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)

elect to withhold an amount from payroll on the offering date in exchange for rights to purchase a fixed number of designated shares of the Company’s common stock. For offerings under
On May 7, 2009, the Eighteenth, Seventeenth and Sixteenth Offerings,stockholders of KCS approved the Kansas City Southern 2009 Employee Stock Plan (the “2009 ESPP”), which replaces the ESPP for years ending after December 31, 2009. The 2009 ESPP provides for the issuance of a maximum of up to four million shares of common stock of the Company. Under the 2009 ESPP, eligible employees may contribute, through payroll deductions up to 5% of their regular base compensation during six-month purchase periods beginning January 18, 2010. At the end of each purchase period, the accumulated deductions are applied toward the purchase pricesof the Company’s common stock.
Pursuant to the terms of the ESPP and the 2009 ESPP, the purchase price for shares wasis equal to 90% of the average market price on either the exercise date or the offering date, whichever is lower. Under SFAS 123R, bothBoth the 10%


80


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)
discount in grant price and the 90% share option are valued to derive the award’s fair value. The awards vest and the expense is recognized ratably over one year. the offering period.
The following table summarizes activity related to the various ESPP offerings:
 
                             
  Offering Date  Exercise Date  Received
 
     Purchase
  Shares
     Purchase
  Shares
  from
 
  Date  Price  Subscribed  Date Issued  Price  Issued  Employees(i) 
                    (In millions) 
 
Eighteenth offering  October 31, 2006  $25.97   101,737     $     $ 
Seventeenth offering  October 31, 2005   20.10   140,867   January 31, 2007   20.10   114,554   2.3 
Sixteenth offering  October 29, 2004   15.14   119,384   January 24, 2006   15.14   109,062   1.7 
                   
  Offering Date  Exercise Date  Received
 
  Purchase
  Date
 Purchase
  Shares
  from
 
  Price  Issued Price  Issued  Employees(i) 
             In millions 
 
2010 offering $29.63   $     $ 
2009 offering  26.78  February 5,
2010
  26.78   81,692   2.2 
2008 offering  34.69  February 5,
2009
  16.79   71,830   1.2 
 
 
(i)Represents amounts received from employees through payroll deductions for share purchases under applicable offering.
 
The fair value of the ESPP stock purchase rights is estimated on the date of grant using the Black-Scholes option pricing model. The weighted average assumptions used for each of the respective periods were as follows:
 
                        
 Eighteenth
 Seventeenth
 Sixteenth
  2010
 2009
 2008
 
 Offering Offering Offering  Offering Offering Offering 
Expected dividends  0%  0%  0%  0%  0%  0%
Expected volatility  32%  28%  27%  34%  66%  32%
Risk free interest rate  4.99%  4.15%  2.85%  0.12%  1.38%  4.10%
Expected life(years)
  1   1   1   0.5   1.0   1.0 
Fair value at grant date $7.15  $5.12  $2.96  $6.49  $10.56  $9.32 
 
Compensation expense of $0.6$0.9 million, $0.7 million, and $0.7 million and was recognized for ESPP option awards for the yearyears ended December 31, 2006.2009, 2008, and 2007, respectively. At December 31, 2006,2009, there were 4.14.0 million remaining shares available for future ESPP offerings.offerings under the 2009 ESPP.
 
Note 10.11.  Profit Sharing and Other Postretirement Benefits
 
Health and Welfare.  Certain U.S. employees that have met age and service requirements are eligible for medical benefits and life insurance coverage and medical benefits during retirement. The retiree medical plan is contributory and provides benefits to retirees, their covered dependents and beneficiaries. The plan provides for annual adjustments to retiree contributions, and also contains, depending on the coverage selected, certain deductibles, co-payments, co-insurance, and coordination with Medicare. Certain management employees also maintain their status under a collective bargaining agreement, which permits them access to post-retirement medical under the multiemployermulti-employer plan described below. The life insurance plan is non-contributory and covers union retirees only. The Company’s policy, in most cases, is to fund benefits payable under these plans as the obligations become due. However, certain plan assets (money market funds held in a life insurance company) exist with respect to life insurance benefits.
 
KCSM Union Pension.Post-Employment Benefits.  Under the provisions of a bargaining agreement for covered employees in Mexico,Mexican law requires that the Company provides a substantive pension benefit in the form of a lump-sum post-retirement paymentprovide certain post-employment benefits to retireesits Mexican union and non-union employees. These plans provide statutorily calculated benefits which are payable upon retirement, death, disability, voluntary or involuntary termination to employees who leavemeet applicable service requirements. In addition to these statutorily required post-employment benefits, the Company after age 60.and the union have been engaged in negotiations regarding an incremental benefit that would be paid to the Company’s union employees upon retirement. The benefitcurrent calculated liability related to retireesthis incremental benefit is based on a statutory termination indemnity calculation under Mexico law which isvarious factors including retirement eligibility based on a combination of age and years of credited service and the retiree’semployee’s salary at the time of retirement and the numberretirement. As of years of credited service. The Company’s practice is to fund benefits under this program as the obligations become due.


9481


 
Kansas City Southern
 
Notes to Consolidated Financial Statements — (Continued)

the date of this filing, the Company was still negotiating with the union regarding this benefit and details of this benefit continue to be discussed.
 
The Company uses December 31 as the measurement date for its pension and post-retirementretirement benefit obligations.
 
Net Periodic Benefit Cost, Plan Obligations and Funded Status
 
Components of the net cost (benefit) for these plans were as follows for the years ended December 31(in millions):
 
                                            
 Health and Welfare Pension  Health and Welfare Mexico Post-Employment Benefit 
 2006 2005 2004 2006 2005(i)  2009 2008 2007 2009 2008 2007 
Service cost $0.1  $0.1  $0.2  $1.7  $1.1  $0.1  $0.1  $0.1  $2.5  $1.9  $2.0 
Interest cost  0.5   0.5   0.6   1.0   0.6   0.3   0.4   0.4   1.4   1.4   1.2 
Expected return on plan assets                                 
Actuarial (gain) loss (ii)  (0.7)  0.1   (1.0)  (2.6)  0.7 
Prior service credit (iii)  (0.3)            
Actuarial (gain) loss(i)  (0.2)  0.2   0.1   (3.6)  1.0   (1.0)
Foreign currency (gain) loss           0.7   (3.8)   
Prior service credit(ii)  (0.3)  (0.3)  (0.3)         
                        
Net periodic cost (benefit) recognized $(0.4) $0.7  $(0.2) $0.1  $2.4  $(0.1) $0.4  $0.3  $1.0  $0.5  $2.2 
                        
 
 
(i)The obligation related to the KCSM pension was acquired with the change in control and consolidation of KCSM beginning April 1, 2005. The pension cost presented for 2005 represents an estimated cost for the nine month period from April 1, 2005 through December 31, 2005. Prior to April 1, 2005, KCSM was accounted for as an equity method investee. The pension obligation was established during the finalization of purchase accounting (see Note 4). The pension costs since the date of acquisition have been included in the results for the year ended December 31, 2006.
(ii)Net benefit costs above do not include a component for the amortization of actuarial gains or losses as the Company’s policy is to recognize such gains and losses immediately.
 
(iii)(ii)During 2005, the Company revised its medical plan to exclude prescription drug coverage available under Medicare part D. This negative plan amendment generated an unrecognized prior service benefit of $2.3 million which is being amortized over the estimated remaining life of the affected participants of 9.5 years.


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Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)

 
The following table reconciles the change in the benefit obligation, fair value of plan assets, change in the funded status, and the accrued benefit cost as of and for each of the years ended December 31(in millions):
 
                                
 Health and Welfare Pension  Health and Welfare Mexico Post-Employment Benefit 
 2006 2005 2006 2005(i)  2009 2008 2009 2008 
Benefit obligation at beginning of year $8.6  $9.1  $12.4  $10.0  $7.0  $7.1  $16.0  $18.2 
Obligation from acquisition of Mexrail     2.0       
Plan amendment     (2.3)      
Service cost  0.1   0.1   1.7   1.1   0.1   0.1   2.5   1.9 
Interest cost  0.5   0.5   1.0   0.6   0.3   0.4   1.4   1.4 
Actuarial (gain) loss  (0.7)  0.1   (2.6)  0.7   (0.3)  0.1   (3.6)  1.0 
Benefits paid, net of retiree contributions(ii)  (1.3)  (0.9)  (0.4)   
Foreign currency (gain) loss        0.7   (3.8)
Benefits paid, net of retiree contributions(i)  (0.7)  (0.7)  (1.1)  (1.5)
Prior service cost           (1.2)
                  
Benefit obligation at end of year  7.2   8.6   12.1   12.4   6.4   7.0   15.9   16.0 
                  
Fair value of plan assets at beginning of year  0.7   0.8           0.3   0.5         
Actual return on plan assets  (0.1)  0.1                       
Benefits paid, net of contributions (ii)  (0.1)  (0.2)        
Benefits paid, net of contributions(i)  (0.2)  (0.2)        
          
Fair value of plan assets at end of year  0.5   0.7           0.1   0.3         
          
Funded status  (6.7)  (7.9)  (12.1)  (12.4) $(6.3) $(6.7) $(15.9) $(16.0)
Unrecognized prior service benefit (iii)     (2.3)      
                  
Accrued benefit cost $(6.7) $(10.2) $(12.1) $(12.4)
         
 
 
(i)The obligation related to the KCSM pension was acquired with the change in control and consolidation of KCSM beginning April 1, 2005. The beginning obligation presented for 2005 represents the obligation as of the acquisition on April 1, 2005 and the 2005 activity as presented is for the nine month period ended December 31, 2005.
(ii)Benefits paid forreflected in the reconciliation of the benefit obligation include both medical and life insurance benefits, whereas benefits paid fromreflected in the reconciliation of the funded status include only life insurance benefits. Plan assets relate only to life insurance benefits. Medical benefits are funded as obligations become due.
(iii)The Company adopted the provisions of SFAS 158 for the year ended December 31, 2006. Accordingly, the unrecognized prior service benefit related to the plan amendment in 2005 ($2.1 million at December 31, 2006) was reclassified from liabilities and has been included as a component of accumulated other comprehensive income.


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Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)
 
Assumptions
 
The assumptions used to determine benefit obligations and costs are selected based on current and expected market conditions. Discount rates are selected based on low risk government bonds with cash flows approximating the timing of expected benefit payments. The Mexico bond market is utilized for the KCSM pensionpost employment obligation and the U.S. bond market is utilized for the U.S. health and welfare obligation. The expected rate of return on life insurance plan assets is determined using historical and forward looking returns for similar investments over the period that the benefits are expected to be paid.


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Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)

 
Weighted average assumptions used to determine benefit obligations were as follows for the years ended December 31:
 
                                
 Health and Welfare Pension    Mexico Post-Employment
 2006 2005 2006 2005  Health and Welfare Benefit
 2009 2008 2009 2008
Discount rate  5.75%  5.40%  8.00%  8.00%
Discount rate (U.S. and Mexico)  5.25%  6.00%  8.50%  8.00%
Rate of compensation increase  n/a   n/a   5.00%  5.50%  n/a   n/a   4.50%  4.50%
 
Weighted average assumptions used to determine net benefit cost for the periods were as follows for the years ended December 31:
 
                
   Mexico Post-
 
                   Employment
 
 Health and Welfare Pension  Health and Welfare Benefit 
 2006 2005 2006 2005  2009 2008 2009 2008 
Discount rate  5.40%  5.65%  8.00%  8.00%  6.00%  6.00%  8.50%  8.00%
Expected long-term rate of return on plan assets  3.00%  6.25%  n/a   n/a   3.00%  3.00%  n/a   n/a 
Rate of compensation increase  n/a   n/a   5.00%  5.50%  n/a   n/a   4.50%  4.50%
 
The Company’s health care costs, excluding former Gateway Western and MidSouth participants, are limited to the increase in the Consumer Price Index (“CPI”) with a maximum annual increase of 5%. Accordingly, health care costs in excess of the CPI limit will be borne by the plan participants, and therefore assumptions regarding health care cost trends are not applicable. The following table presents the assumed health care cost trends related to Gateway Western and Midsouth participants:
 
                        
 2006 2005 2004  2009 2008 2007 
Health care trend rate for next year  9.00%  10.00%  10.25%  7.50%  8.00%  8.00%
Ultimate trend rate  5.00%  5.00%  5.25%  5.00%  5.00%  5.00%
Year that rate reaches ultimate rate  2010   2010   2009   2015   2015   2014 
 
Cash Flows
 
The following table represents benefit payments expected to be paid, which reflect expected future service, as appropriate, for each of the next five years and the aggregate five years thereafter(in millions):
 
         
  Health and
    
Year
 Welfare  Pension 
 
2007 $0.9  $1.0 
2008  0.9   0.3 
2009  0.9   0.4 
2010  0.8   0.5 
2011  0.8   0.7 
2012 — 2016  3.5   8.9 
         
    Mexico
  Health and
 Post-Employment
Year
 Welfare Benefit
 
2010 $0.7  $0.6 
2011  0.8   0.6 
2012  0.8   0.6 
2013  0.7   0.6 
2014  0.6   0.6 
2015 - 2019  2.5   3.6 


83


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)
 
Multi-Employer Plan.  Under collective bargaining agreements, KCSR participates in a multi-employer benefit plan, which provides certain post-retirement health care and life insurance benefits to eligible union employees and certain retirees. Premiums under this plan are expensed as incurred and were $2.6$3.3 million, $2.6$3.4 million, and $1.9$2.8 million for the years ended December 31, 2006, 20052009, 2008 and 2004,2007, respectively. Based on existing rates, premium amounts are not expected to change substantially in 2007 as compared to 2006.
 
401(k) and Profit Sharing Plan.  The Company sponsors the KCS 401(k) and Profit Sharing Plan (the “401(k) plan”), whereby participants can choose to make contributions in the form of salary deductions pursuant to sectionSection 401(k) of the Internal Revenue Code. The Company matches 401(k) contributions up to a


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Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)

maximum of 5% of compensation. ForThe Company recognized expense of $1.8 million for the years ended December 31, 2006, 20052009 and 2004, the Company expensed $1.52008 and $1.6 million $1.4 million, and $1.2 million, respectively,for 2007, related to the KCS 401(k) and Profit Sharing Plan.
 
Note 11.12.  Commitments and Contingencies
Concession Duty.  Under the Concession, the Mexican government has the right to receive a payment from the Company equivalent to 0.5% of the gross revenue during the first 15 years of the Concession period and 1.25% of the gross revenue during the remaining years of the Concession period. For the year ended December 31, 2009, the concession duty expense, which is recorded within operating expenses, amounted to $3.2 million, compared to $4.3 million for the same periods in 2008 and 2007.
 
Litigation.  The Company is a party to various legal proceedings and administrative actions, all of which, except as set forth below, are of an ordinary, routine nature and incidental to its operations. Included in these proceedings are various tort claims brought by current and former employees for job relatedjob-related injuries and by third parties for injuries related to railroad operations. KCS aggressively defends these matters and has established liability reserves, which management believes are adequate to cover expected costs. Although it is not possible to predict the outcome of any legal proceeding, in the opinion of management, other than those proceedings described in detail below, such proceedings and actions should not, individually, or in the aggregate, have a material adverse effect on the Company’s financial condition.condition and liquidity. However, a material adverse outcome in one or more of these proceedings could have a material adverse impact on the operating results of operations in a particular period.
Reinsurance Litigation.  As previously disclosed in the Company’s quarterly reports onForm 10-Q, insurance companies who provided insurance to the Company filed an action in federal court in Vermont (“Reinsurance Litigation”) seeking a declaration that they have no obligation to indemnify the Company concerning a particular casualty claim. That claim, styledKemp, et al v. The Kansas City Southern Railway Company, et al, was filed in the Circuit Court of Jackson County, Missouri (“Kemp Litigation”) and went to trial in September 2006. The Company reached a settlement with the plaintiffs in the Kemp Litigation. The Company also reached settlements with various parties, including several of the insurance companies involved in the Reinsurance Litigation, to indemnify the Company for a significant portion of the settlement. The Kemp settlement is fully reflected in the Company’s financial statements and the Company has no further risk associated with this litigation. The Company is, however, continuing the Reinsurance Litigation against certain other insurance companies, seeking to establish their obligation to indemnify the Company for their share of the settlement with Kemp.quarter or fiscal year.
 
Environmental Liabilities.  The Company’s U.S. operations are subject to extensive federal, state and local environmental laws and regulations. The major U.S. environmental laws to which the Company is subject include, among others, the Federal Comprehensive Environmental Response, Compensation and Liability Act (“CERCLA,” also known as the Superfund law), the Toxic Substances Control Act, the Federal Water Pollution Control Act, and the Hazardous Materials Transportation Act. CERCLA can impose joint and several liabilities for cleanup and investigation costs, without regard to fault or legality of the original conduct, on current and predecessor owners and operators of a site, as well as those who generate, or arrange for the disposal of, hazardous substances. The Company does not believe that compliance with the requirements imposed by the environmental legislation will impair its competitive capability or result in any material additional capital expenditures, operating or maintenance costs. The Company is, however, subject to environmental remediation costs as described below.
 
The MexicanCompany’s Mexico operations are subject to Mexican federal and state laws and regulations relating to the protection of the environment through the establishment of standards for water discharge, water supply, emissions, noise pollution, hazardous substances and transportation and handling of hazardous and solid waste. The Mexican government may bring administrative and criminal proceedings and impose economic sanctions against companies that violate environmental laws, and temporarily or even permanently close non-complying facilities.
 
The risk of incurring environmental liability is inherent in the railroad industry. As part of serving the petroleum and chemicals industry, the Company transports hazardous materials and has a professional team available to respond to and handle environmental issues that might occur in the transport of such materials. Additionally, the Company is a partner in the Responsible Care® program and, as a result, has initiated certain


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Kansas City Southern
 
Notes to Consolidated Financial Statements — (Continued)

Additionally, the Company is a partner in the Responsible Care® program and, as a result, has initiated additional environmental, health and safety programs.management system programs and has been certified by an outside professional auditing company in the American Chemistry Council’s Responsible Care Management System®. The Company performs ongoing reviews and evaluations of the various environmental programs and issues within the Company’s operations, and, as necessary, takes actions intended to limit the Company’s exposure to potential liability.
 
The Company owns property that is, or has been, used for industrial purposes. Use of these properties may subject the Company to potentially material liabilities relating to the investigation and cleanup of contaminants, claims alleging personal injury, or property damage as the result of exposures to, or release of, hazardous substances. Although the Company is responsible for investigating and remediating contamination at several locations, based on currently available information, the Company does not expect any related liabilities, individually or collectively, to have a material impact on its results of operations, financial position or cash flows. Should the Company become subject to more stringent cleanup requirements at these sites, discover additional contamination, or become subject to related personal or property damage claims, the Company could incur material costs in connection with these sites.
 
The Company records liabilities for remediation and restoration costs related to past activities when the Company’s obligation is probable and the costs can be reasonably estimated. Costs of ongoing compliance activities to current operations are expensed as incurred. The Company’s recorded liabilities for these issues represent its best estimates (on an undiscounted basis) of remediation and restoration costs that may be required to comply with present laws and regulations. Although these costs cannot be predicted with certainty, management believes that the ultimate outcome of identified matters will not have a material adverse effect on the Company’s consolidated results of operations, financial conditionposition or cash flows.
 
Environmental remediation expense was $3.1$4.8 million and $6.1 million for the yearyears ended December 31, 2006,2009 and 2008, respectively, and was included in purchased servicescasualties and insurance expense on the consolidated statements of income. Additionally, as of December 31, 2006,2009, KCS had a liability for environmental remediation of $7.8$4.7 million. This amount was derived from a range of reasonable estimates based upon the studies and site surveys described above and in accordance with SFAS 5.the accounting guidance for the recognition of loss contingencies.
 
CasualtyPersonal Injury Claim Reserves.  The Company’s casualty and liabilitypersonal injury claim reserve for its U.S. business segment is based on a study by an independent third partysemi-annual actuarial firmstudies performed on an undiscounted basis. TheThis reserve is based on personal injury claims filed and an estimate of claims incurred but not yet reported. While the ultimate amount of claims incurred is dependent on various factors, it is management’s opinion that the recorded liability is a reasonable estimate of aggregate future claims.payments. Adjustments to the liability are reflected aswithin operating expenses in the period in which the adjustmentschanges to estimates are known. CasualtyPersonal injury claims in excess of self-insurance levels are insured up to certain coverage amounts, depending on the type of claim and year of occurrence. The activity in the reserve follows(in millions):
 
                
 2006 2005  2009 2008 
Balance at beginning of year $103.9  $52.8  $90.7  $90.0 
Liability acquired in the Mexrail acquisition     13.9 
Accruals, net (includes the impact of actuarial studies)  35.0   57.6   7.4   16.0 
Payments  (21.5)  (20.4)  (11.2)  (15.3)
          
Balance at end of year $117.4  $103.9  $86.9  $90.7 
          
 
BasedThe personal injury claim reserve balance as of December 31, 2009 is based on an updated study of casualtypersonal injury reserves for data through November 30, 20062009 and the settlementreview of the Kemp case;last month’s experience. The activity for the twelve months ended December 31, 2009 primarily relates to the net settlements and the reserves for FELA, third party, and occupational illness claims are reflected in the table above for the year ended December 31, 2006. The changes to the reserve in the current year reflect the Kemp settlements and favorable loss experience in 2006.
During the third quarter of 2005, the Company initiated a new comprehensive actuarial study of all of its casualty reserves. Based on that study, the reserves for FELA,Federal Employers Liability Act (“FELA”), third-party, and occupational illness claims wereclaims. The


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Kansas City Southern
 
Notes to Consolidated Financial Statements — (Continued)

increased, resulting in a charge
changes to third quarter operating income of $37.8 million. The charge reflects the impact of higher settlements for major FELA and third-party claims and significant increasesreserve in the frequencycurrent year compared to the prior year reflect the current accruals related to the favorable trend of loss experience, including favorable settlements, since the date of the prior study.
Reflecting potential uncertainty surrounding the outcome of personal injury claims, it is reasonably possible based on assessments that future costs to settle personal injury claims may range from approximately $83 million to $91 million. While the final outcome of these claims in 2004 and 2005. In addition,cannot be predicted with certainty, management believes that the charge includes reserves for occupational illness including asbestos-related claims that were established on an actuarial basis$86.9 million recorded is the best estimate of the Company’s future obligations for the first time.
Based on the resultssettlement of the actuarial study, reserves for FELA and third-partypersonal injury claims were increased $30.3 million. The majority of these increases are attributable to adverse experience occurring since the previous year’s study, including an increase in the number of new claims and adverse development in the dollar amount of potential settlements for many significant prior claims.
Management believes that its previous reserve estimates for those prior claims were reasonable based on the information available at the time. The Company is continuing its practice of accruing monthly for estimated claim costs at levels recommended by the actuarial study and evaluation of recent known trends, and those accruals have been increased accordingly.December 31, 2009.
 
Certain Disputes Relatingwith Ferromex.  KCSM’s operations are subject to Paymentscertain trackage rights, haulage rights, and interline services with Ferrocarril Mexicano, S.A. de C.V. (“Ferromex”). Other than the rates to be charged pursuant to the Trackage Rights Agreement, dated February 9, 2010, between KCSM and Ferromex, the rates payable for these services have not been agreed upon by KCSM and Ferromex for the Use of Trackageperiods beginning in 1998 through December 31, 2008. KCSM is currently involved in judicial, civil and Haulage Rightsadministrative proceedings and Interline Services.negotiations with Ferromex regarding the rates payable under these arrangements, as described below.
KCSM and Ferromex both initiated administrative proceedings seeking a determination by the MexicanSecretariaSecretaría de CommunicacionesComunicaciones y Transportes(“SecretariatMinistry of Communications and Transports”Transportation” or “SCT”) of the rates that KCSM and Ferromex should pay each other in connection with the use of trackage rights. The SCT issued a ruling setting the rates for trackage rights in March of 2002. KCSM and Ferromex challenged the ruling.
Following the trial and appellate court decisions, in February 2006 the Mexican Supreme Court sustained KCSM’s appeal of the SCT’s trackage rights ruling, in effect vacating the ruling and ordering the SCT to issue a new ruling consistent with the Court’s decision. On June 27, 2008, KCSM was served with the new ruling issued by the SCT. In this ruling, the SCT established the consideration that KCSM and Ferromex must pay each other in connection with the use of the trackage rights granted in their respective concessions between 2002 and 2004, and further stated that in the event KCSM and Ferromex failed to reach an agreement in connection with the rates for the years after 2004, the SCT shall make a determination along the same lines. In September 2008, KCSM and Ferromex appealed this new ruling with the MexicanTribunal Federal de Justicia Fiscal y Administrativa(“Administrative and Fiscal Federal Court”), which as of the date of this filing has yet to issue a decision on the matter.
KCSM and Ferromex both initiated administrative proceedings seeking a determination by the SCT of the rates that the companies should pay each other in connection with the use of trackage and haulage rights and interline and terminal services. The SCT, on March 13, 2002, issued rulings setting the rates for trackage and haulage rights. On August 5, 2002, the SCT issued a ruling setting the rates for interline and terminal services.services in August of 2002. Both KCSM and Ferromex challenged the ruling. In April 2005, the Administrative and Fiscal Federal Court ruled in favor of KCSM in the challenge to the SCT interline and terminal services decision. Ferromex, however, challenged this court ruling before the Fifteenth Collegiate Court, and the Court ruled in its favor. Both Ferromex and KCSM appealed both rulings and, following trial and appellate court decisions,the ruling to the Mexican Supreme Court. On June 30, 2009, the Mexican Supreme Court on February 24, 2006, sustained KCSM’s appeal of the SCT’s trackage and haulage rights ruling, vacating the ruling and orderingordered the SCT to issue a new ruling consistent with the Court’s opinion. KCSMdecision. As of the date of this filing, the SCT has not yet receivedissued the written opinion of the Mexican Supreme Court relatingnew ruling on this matter.
KCSM expects various proceedings and appeals related to the decision nor hasmatters described above. Although KCSM and Ferromex have challenged these matters based on different grounds and these cases continue to evolve, management believes the Mexican Supreme Court decided the interlineamounts recorded related to these matters are adequate and terminal services appeal. The Company believes that even if the rates set in 2002 become effective,does not believe there will be noa future material adverse effect on KCS’impact to the results of operations. On October 2, 2006, KCS was served with a claim raised by Ferromex in which Ferromex asked for information concerning the interline traffic between KCSM and Ferromex, from January 1, 2002, through December 31, 2004, and an answer to this claim has been filed.operations arising out of these disputes.
 
Disputes RelatingSCT Sanction Proceedings.  In April 2006, the SCT initiated proceedings against KCSM, claiming that KCSM had failed to make certain minimum capital investments projected for 2004 and 2005 under its five-year business plan filed with the SCT prior to its April 2005 acquisition by KCS (collectively, the “Capital Investment Proceedings”). KCSM believes it made capital expenditures exceeding the required amounts. KCSM responded to the ScopeSCT by providing evidence in support of the Mandatory Trackage Rights.  The SCT issued rulings determining Ferromex’s trackage rights in Monterrey in 2002. KCSMits investments and Ferromex both appealed the SCT’s rulings. KCSM obtained a favorable ruling at the administrative federal court level. Ferromex appealed the ruling. The case was remanded to the Administrative Federal Court with the instructions to consider additional arguments before issuing its ruling. KCSM is still awaiting that ruling, but does not expect the ruling to have a material adverse effect on its financial condition or results of operations.explaining why it
Claims Asserted under the TMM Acquisition Agreement.  As part of the acquisition of Grupo KCSM in 2005, KCS issued escrow notes totaling $47.0 million which are subject to reduction for certain potential losses related to incorrect representations and warranties or breaches of covenants in the Acquisition Agreement by TMM. On January 29, 2007, KCS advised TMM that KCS intended to assert claims for indemnification under the acquisition agreement related to representations and warranties made by TMM. On February 1, 2007, KCS received notice from TMM indicating that TMM would seek damages from KCS under the Acquisition Agreement, aggregating approximately $43 million as well as other unspecified damages. The parties are obligated under the Acquisition Agreement to attempt to resolve their differences informally and, if not successful, then to submit them to binding arbitration.
Acquisitions of Locomotives.  KCSM entered into an agreement with General Electric Company (“GE”) on August 14, 2006, to acquire 30 locomotives at a cost of approximately $63.7 million. Of the 30 locomotives, KCSM has taken legal possession of 22 as of December 31, 2006 with the remainder to be completed and delivered in the first quarter of 2007. The 22 locomotives where legal possession has been


10086


 
Kansas City Southern
 
Notes to Consolidated Financial Statements — (Continued)

taken
believes sanctions are not appropriate. In May 2007, KCSM was served with an SCT resolution regarding the Capital Investment Proceeding for 2004, in which the SCT resolved to impose no sanction. In June 2007, KCSM was served with an SCT resolution regarding the Capital Investment Proceeding for 2005, in which the SCT determined that KCSM had indeed failed to make the minimum capital investments required for such year, and imposed a minimal fine. KCSM has filed an action in the Mexican Administrative and Fiscal Federal Court challenging this ruling. KCSM will have been recorded as assets held for salethe right to challenge any adverse ruling.
In May 2008, the SCT initiated a proceeding against KCSM at year-end. Upon completionthe request of a Mexican subsidiary of a large U.S. Auto Manufacturer (the “Auto Manufacturer”), alleging that KCSM impermissibly bundled international rail services and delivery of all 30 units,engaged in discriminatory pricing practices with respect to rail services provided by KCSM to the Company will enter intoAuto Manufacturer. In March 2009, the SCT issued a sale-leaseback transaction withdecision determining that KCSM had engaged in the locomotives.activities alleged, but imposed no sanction since this was the first time KCSM had engaged in such activities. On May 6, 2009, KCSM challenged the SCT’s decision and the appeal is currently pending in the Administrative and Fiscal Federal Court.
 
On August 25,July 23, 2008, the SCT delivered notice to KCSM of new proceedings against KCSM, claiming, among other things, that KCSM refused to grant Ferromex access to certain trackage over which Ferromex alleges it has trackage rights on six different occasions and thus denied Ferromex the ability to provide service to the Auto Manufacturer at this location.
KCSM believes it has defenses to the imposition of sanctions for the forgoing proceedings and intends to vigorously contest these allegations. KCSM does not believe that these SCT proceedings will have a material adverse effect on its results of operations or financial condition. However, if KCSM is ultimately sanctioned by the SCT for “generic” sanctions on five occasions over the term of the Concession, KCSM could be subject to possible future SCT action seeking revocation of the Concession.
Concession Dispute.  On December 9, 2009, KCSM was notified of a lawsuit filed by Minera México, S.A. de C.V. (“Minera México”), a subsidiary of Grupo México, S.A.B. de C.V. and an affiliate Ferromex, against the Federal Government of Mexico, the SCT, Ferrocarriles Nacionales de México (“FNM”), KCSM, Nafta Rail, S.A. de C.V. (“Nafta Rail”), and KCS. The lawsuit claims that after the privatization bidding process for the acquisition of a majority interest in Ferrocarril del Noreste, S.A. de C.V. (“FNE”) (now KCSM) had concluded in 1997, in which the bidding was awarded to Transportación Ferroviaria Mexicana, S. de R.L. de C.V. (“TFM”) and the relevant stock purchase agreement was signed, the defendants improperly amended the stock purchase agreement and the purchasers paid a price lower than the price offered. The lawsuit alleges that the Mexican Federal Government, the SCT, FNM, KCSM, Nafta Rail and KCS violated a variety of the rules and regulations associated with the privatization bidding process. As a result of these alleged improprieties, Minera México claims the acquisition of FNE by KCS (through TFM) should be declared null and void and, consequently, the capital stock of FNE should be returned to the Federal Government of Mexico and Minera México, as the second place bidder in the bidding process, should be awarded the right to purchase the capital stock of FNE. On February 9, 2010, Minera México agreed to dismiss this lawsuit.
Disputes Relating to the Provision of Services to a Mexican Subsidiary of a Large U.S. Auto Manufacturer.  KCSM is involved in several disputes related to providing service to a Mexican subsidiary of a large U.S. Auto Manufacturer (the “Auto Manufacturer”).
In March 2008, the Auto Manufacturer filed an arbitration suit against KCSM under a contract for services to the Auto Manufacturer’s plants in Mexico, which, as amended, had a stated termination date of January 31, 2008. The Auto Manufacturer claimed that the contract was implicitly extended and continued in effect beyond its stated termination date. The Auto Manufacturer is seeking a declaration by the arbitrator that the rates being assessed by KCSM are discriminatory, even though the rates being charged are within the legal rate limits set by Mexican law for such freight transportation. KCSM claimed that the contract did in fact


87


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)
expire on its stated termination date, and that services rendered thereafter are thus subject to the general terms and conditions (including rates) applicable in the absence of a specific contract, pursuant to Mexican law. Accordingly, KCSM filed a counterclaim against the Auto Manufacturer to, among other things, recover the applicable rate difference between the rates under the contract and KCSM’s rates. The arbitration was divided in two phases. On May 18, 2009, the arbitrator issued an award on the first phase of the arbitration proceeding, ruling that the contract had terminated on May 8, 2008. As of the date of this filing, the second phase of the arbitration proceeding, regarding the claim that the rates assessed by KCSM are discriminatory, is in the evidentiary stage and has not been resolved. Management believes the final resolution of these claims will not have any material impact on KCSM’s results of operations.
Mancera Proceeding.  In February 2006, KCSRMancera Ernst & Young, S.C., (“Mancera”) filed a claim against KCSM seeking payment for an additional contingency fee for costs and expenses related to Mancera’s representation of KCSM in its value added tax or “VAT” claim against the Mexican government. Following litigation, KCSM was notified on May 29, 2009, that in a session held on May 28, 2009, the magistrates of the Twelfth Civil Federal Court of Appeals in Mexico decided by majority vote to deny KCSM’s most recent appeal. As a result of the decision, KCSM was required to pay Mancera $7.8 million related to the principal claim. KCSM previously made a good faith payment to the Mexico courts of $2.6 million in December 2007 and paid the remaining $5.2 million on September 4, 2009. On October 27, 2009, the Company paid the remaining obligation related to interest and legal costs, which did not have an impact on the Company’s results of operations.
Third Party Contractual Agreements.  In the normal course of business, the Company enters into various third party contractual agreements related to the use of other railroads’ or governmental entities’ infrastructure needed for the operations of the business. The Company is involved in certain disputes involving transportation rates and charges related to these agreements. While the outcome of these matters cannot be predicted with certainty, the Company does not believe, when finally resolved, that these disputes will have a material effect on its results of operations or financial condition. However, an unexpected adverse resolution could have a material effect on the results of operations in a particular quarter or fiscal year.
Credit Risk.  The Company continually monitors risks related to the downturn in the economy and certain customer receivables concentrations. Significant changes in customer concentration or payment terms, deterioration of customer credit-worthiness or further weakening in economic trends could have a significant impact on the collectability of the Company’s receivables and operating results. If the financial condition of the Company’s customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances may be required. The Company has recorded reserves for uncollectability based on its best estimate at December 31, 2009.
PCRC Guarantees and Indemnities.  The Company has issued five irrevocable standby letters of credit totaling approximately $3.2 million to fulfill the Company’s fifty percent guarantee of additional equipment loans. The Company agreed to fund 50% of any debt service reserve or liquidity reserve shortfall by PCRC, reserves which were established by PCRC in connection with the issuance of the 7.0% Senior Secured Notes due November 2026 (the “Notes”). At December 31, 2009, the Company has issued a standby letter of credit in the amount of $3.9 million. Additionally, KCS has pledged its shares of PCRC as security for the Notes.
Note 13.  Settlement Agreement with TMM
In furtherance of the Company’s strategy for expansion into Mexico, on December 15, 2004, the Company entered into an agreementAmended and Restated Acquisition Agreement (the “Acquisition Agreement”) with Electro-Motive Diesel, Inc.Grupo TMM, S.A.B. (“EMD”TMM”, formerly Grupo TMM, S.A.) to acquire 30 locomotives to be delivered June 2007, and other parties under which KCS acquired full control of KCSM through September 2007 at a total costthe purchase of $61.5 million. The Company intends to finance the acquisitions with equipment lease financings treated as operating leases.shares of common stock of Grupo KCSM.


88


Kansas City Southern
 
Letters of Intent.  KCSR and KCSMNotes to Consolidated Financial Statements — (Continued)
On September 24, 2007, KCS entered into a letterSettlement Agreement (the “Agreement”) with TMM, TMM Logistics, S.A. de C.V., a subsidiary of intent with GE on September 28, 2006,TMM, and VEX Asesores Corporativos, S.A. de C.V. (formerly José F. Serrano International Business, S.A. de C.V.) (the “Consulting Firm”), resolving certain claims and disputes over liabilities established as part of KCS’ acquisition of KCSM (successor by merger to acquire 80 locomotives to be delivered in late 2007 through August 2008 at an aggregate cost of approximately $160.8 million. KCSR intends to acquire 30 of these locomotives and KCSM intends to acquire the other 50. The letter of intent also provides KCSR and KCSM with an option to acquire an additional aggregate 40 locomotives for delivery in 2008. KCSR and KCSM each anticipates entering into purchase agreements with GE in the first quarter of 2007 with respectGrupo KCSM). Pursuant to the 80 locomotives. KCSRterms of the Agreement, KCS agreed to pay TMM $54.1 million in cash to retire two notes totaling $86.6 million which were negotiated in 2005 at the closing of KCS’ acquisition of KCSM to cover certain post-closing contingencies and KCSM entered into a lettertax liabilities. The parties also agreed to terminate the consulting agreement between KCS and the Consulting Firm and make the final annual payment of intent with EMD$3.0 million, payable on November 29, 2006,settlement. The settlement amount of $57.1 million was paid by KCS to acquire 70 locomotives for delivery inTMM on October 2007 through April 2008 at an aggregate cost of approximately $140.9 million. KCSR intends to acquire 30 of these locomotives and KCSM intends to acquire the other 40. The Company intends to finance the acquisitions with equipment lease financings treated as operating leases.1, 2007.
 
Panama Canal Railway Company.  Under certain limited conditions, the Company is a guarantor for up to $5.6 million of cash deficiencies associated with the operations of PCRC. In addition, the Company is a guarantor for up to $3.0 million of equipment loans. Further, if the Company or its partner terminates the concession contract without the consent of IFC, the Company is a guarantor for up to half of the outstanding senior loans. See Note 3.
Note 12.14.  Derivative Instruments
 
The Company does not engage in the trading of derivatives. Thederivative financial instruments except where the Company’s objective for using derivative instruments is to manage the variability of forecasted interest payments attributable to changes in interest rates or fuel price risk and currency fluctuations.risk. In general, the Company enters into derivative transactions in limited situations based on management’s assessment of current market conditions and perceived risks. However, management intends to respond to evolving business and market conditions and in doing so, may enter into such transactions more frequently as deemed appropriate.
 
Credit Risk.  As a result of the use of derivative instruments, the Company is exposed to counterparty credit risk. The Company manages the counterparty credit risk by entering into contracts with large financial institutions with which the Company has an established banking relationship. As of December 31, 2009, the Company did not expect any losses as a result of default of its counterparties.
Interest Rate Swaps.  During 2008, the Company entered into five forward starting interest rate swaps, which have been designated as cash flow hedges. The forward starting interest rate swaps effectively convert interest payments from variable rates to fixed rates. The swaps are highly effective and as a result there will be de minimus earnings impact associated with ineffectiveness of these hedges. The hedging instruments have an aggregate notional amount of $250.0 million at an average fixed rate of 2.71%, with forward starting settlements indexed to the three-month LIBOR occurring every quarter, expiring September 2010 through March 2011.
Fuel Derivative Transactions.  TheIn January 2009, the Company was a party to fuel swap agreements for 1.3 million gallons of fuel on December 31, 2006. Fuel hedging transactions, including fuel swaps as well as forward purchase commitments, resulted in a decrease in fuel expense of $0.7 million, $2.4 million and $3.0 million in 2006, 2005 and 2004, respectively. Subsequent to December 31, 2006, KCS entered into fuel swap agreements, for 1.3 million gallons.
Foreign Exchange Contracts.which had been designated as cash flow hedges. The purposeeffective portion of KCSM’s foreign exchange contracts is to limit the risks arisinggain or loss on the derivative instruments was reported as a component of other comprehensive income (loss) and reclassified into earnings in the same period or periods during which the hedged transaction affected earnings. Gains and losses on the derivative representing either hedge ineffectiveness or hedge components excluded from exchange rate fluctuationsthe assessment of the effectiveness were recognized in its Mexican peso-denominated monetary assetscurrent earnings. During the second quarter of 2009, it became probable that the hedged transactions would not occur as forecasted. Therefore, the hedging relationship was dedesignated on May 31, 2009 and liabilities. Management determineshedge accounting was discontinued. Changes in the nature and quantityfair value of any hedging transactions based upon net asset exposure and market conditions. Onthe derivative instrument after dedesignation are recorded in earnings. As of December 31, 2006, KCSM had one peso call option2009, the Company has no outstanding in the notational amount of $1.7 million based on an exchange rate per dollar of 14.50 Mexican pesos. The option expires May 30, 2007. On December 31, 2005, KCSM had two Mexican peso call options in the notational amounts of $1.2 million and $1.7 million, based on the average exchange rate of 13.00 and 12.50 pesos per dollar, respectively. These options expired on September 6 and May 30, 2006, respectively.fuel swap agreements.
Foreign Currency Balances.  At December 31, 2006, KCSM had monetary assets and liabilities denominated in Mexican pesos of Ps2,304 million and Ps651 million, respectively. At December 31, 2005, KCSM had monetary assets and liabilities denominated in Mexican pesos of Ps1,088 million and Ps549 million, respectively. At December 31, 2006 and 2005, the exchange rate was 10.82 pesos per dollar and 10.64 pesos per dollar, respectively.


10189


 
Kansas City Southern
 
Notes to Consolidated Financial Statements — (Continued)

 
Note 13.  Quarterly Financial Data (Unaudited)
The following table presents the fair value of derivative instruments included in the consolidated balance sheet as of December 31, 2009(in millions):
 
                 
  Fourth  Third  Second  First 
  In millions, except per share amounts 
 
2006
                
Revenues $442.4  $415.7  $413.1  $388.4 
Operating income  88.2   77.3   77.5   61.3 
Net income  40.6   31.3   24.1   12.9 
Per share data:
                
Basic earnings per common share $0.48  $0.35  $0.26  $0.11 
Diluted earnings per common share  0.41   0.32   0.24   0.11 
Dividends per share:
                
$25 par preferred stock $0.25  $0.25  $0.25  $0.25 
$1 par series C preferred stock           5.31 
$1 par series D preferred stock           9.40 
Stock price ranges:
                
$25 par preferred:                
 — High $23.65  $23.50  $23.75  $23.50 
 — Low  22.75   22.25   22.00   22.00 
Common:                
 — High $30.00  $28.41  $27.75  $26.17 
 — Low  26.49   23.24   23.46   22.32 
2005
                
Revenues $388.1  $384.6  $381.1  $198.2 
Operating income (loss)  47.7   (1.9)  (8.3)  24.8 
Net income (loss)  5.2   112.7   (25.1)  8.1 
Per share data:
                
Basic earnings (loss) per common share $0.03  $1.35  $(0.33) $0.09 
Diluted earnings (loss) per common share  0.03   1.14   (0.33)  0.09 
Dividends per share:
                
$25 par preferred stock $0.25  $0.25  $0.25  $0.25 
$1 par series C preferred stock(i)  5.31   5.31   5.31   5.31 
$1 par series D preferred stock            
Stock price ranges:
                
$25 par preferred:                
 — High $23.50  $23.50  $23.50  $24.00 
 — Low  22.00   22.60   22.00   21.45 
Common:                
 — High $25.71  $23.44  $21.00  $20.34 
 — Low  20.55   19.47   18.45   16.05 
             
  Asset Derivatives  Liability Derivatives 
  Balance Sheet Location Fair Value  Balance Sheet Location Fair Value 
 
Derivatives designated as hedging instruments:            
Interest rate contracts Other current assets $  Accounts payable & accrued
liabilities
 $3.2 
Interest rate contracts Other assets    Other non-current liabilities &
deferred credits
  1.7 
             
Total derivatives designated as hedging instruments   $    $4.9 
             
 
The following table presents the amounts affecting the consolidated statement of income for the year ended December 31, 2009(in millions):
 
(i)The addition of four quarters of dividends on the $1 Par Preferred Stock Series C do not total the annual amount of $21.25, due to rounding.

                 
          Location of Gain/
 Amount of Gain/
 
          (Loss) Recognized in
 (Loss) Recognized in
 
  Amount of
  Location of Gain/(Loss)
 Amount of Gain/(Loss)
  Income on Derivative
 Income on Derivative
 
  Gain/(Loss)
  Reclassified from
 Reclassified from
  (Ineffective Portion
 (Ineffective Portion
 
Derivatives in Cash
 Recognized in OCI
  Accumulated OCI into
 Accumulated OCI into
  and Amount Excluded
 and Amount Excluded
 
Flow Hedging
 on Derivative
  Income (Effective
 Income (Effective
  from Effectiveness
 from Effectiveness
 
Relationships
 (Effective Portion)  Portion) Portion)  Testing) Testing) 
 
Interest rate contracts $(3.4) Interest expense $(4.5) Interest expense $ 
Fuel swap contracts  0.9  Fuel expense  0.9  Fuel Expense  (2.0)
                 
Total $(2.5)   $(3.6)   $(2.0)
                 
       
  Location of Gain/(Loss)
 Amount of Gain/(Loss)
 
  Recognized in Income
 Recognized in Income
 
Derivatives not Designated as Hedging Instruments
 on Derivative on Derivative 
 
Fuel swap contracts Fuel expense $0.7 
       
Total   $0.7 
       


10290


 
Kansas City Southern
 
Notes to Consolidated Financial Statements — (Continued)

 
Note 15.  Quarterly Financial Data (Unaudited)
                 
  Fourth  Third  Second  First 
  In millions, except per share amounts 
 
2009
                
Revenues $406.8  $386.1  $341.3  $346.0 
Operating income  91.9   84.4   43.4   48.5 
Net income (loss)  34.9   29.0   7.3   (2.2)
Net income (loss) attributable to Kansas City Southern and subsidiaries  34.7   28.6   6.8   (2.1)
Per share data:
                
Basic earnings (loss) per common share $0.33  $0.27  $0.07  $(0.08)
Diluted earnings (loss) per common share  0.33   0.27   0.07   (0.08)
Dividends per share:
                
$25 par preferred stock $0.25  $0.25  $0.25  $0.25 
$1 par series D preferred stock  12.81   12.81      25.62 
Stock price ranges:
                
$25 par preferred:                
— High $22.90  $21.00  $22.00  $21.00 
— Low  19.55   17.50   17.68   14.27 
Common:                
— High $34.57  $29.19  $17.98  $23.54 
— Low  22.57   14.75   12.25   12.47 
                 
2008
                
Revenues $423.8  $491.5  $486.2  $450.6 
Operating income  91.2   111.0   104.6   83.4 
Net income  39.2   51.7   55.5   37.8 
Net income attributable to Kansas City Southern and subsidiaries  39.2   51.6   55.4   37.7 
Per share data:
                
Basic earnings per common share $0.40  $0.55  $0.64  $0.43 
Diluted earnings per common share  0.40   0.52   0.56   0.39 
Dividends per share:
                
$25 par preferred stock $0.25  $0.25  $0.25  $0.25 
$1 par series C preferred stock        5.31   5.31 
$1 par series D preferred stock  12.81   12.81   12.81   12.81 
Stock price ranges:
                
$25 par preferred:                
— High $22.20  $24.50  $23.60  $26.00 
— Low  17.55   20.00   22.00   20.95 
Common:                
— High $44.38  $55.90  $50.66  $41.55 
— Low  15.71   40.05   39.01   29.00 


91


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)
Note 14.16.  Condensed Consolidating Financial Information
 
As discussed in Note 6,7, at December 31, 2009, KCSR has outstanding $200$275.0 million of 91/2%8.0% Senior Notes due 20082015 and $200$190.0 million of 71/2%13.0% Senior Notes due 2009. These notes2013, which are unsecured obligations of KCSR, however, theywhich are also jointly and severally and fully and unconditionally guaranteed on an unsecured senior basis by KCS and certain wholly-owned domestic subsidiaries. For each of these note issues, KCSR registered exchange notes withAs a result, the SEC that have substantially identical terms and associated guarantees and all of the initial senior notes for each issue have been exchanged for $200 million of registered exchange notes for each respective note issue.
Thefollowing accompanying condensed consolidating financial information(in millions)has been prepared and presented pursuant to SECRegulation S-XRule 3-10 “Financial statements of guarantors and affiliates whoseissuers of guaranteed securities collateralize an issue registered or being registered.” This condensed information is not intendedThe 8.0% Senior Notes were registered by means of an amendment to present the financial position, resultsKCS’ shelf registration statement filed and automatically effective as of operationsMay 23, 2008. The 13.0% Senior Notes were registered under KCS’ shelf registration statement filed and cash flowsautomatically effective as of the individual companies or groups of companies in accordance with U.S. GAAP.November 21, 2008.
 
Condensed Consolidating Statements of Income
 
                         
  2006 
        Guarantor
  Non-Guarantor
  Consolidating
  Consolidated
 
  Parent  KCSR  Subsidiaries  Subsidiaries  Adjustments  KCS 
 
Revenues $  $789.3  $10.0  $881.3  $(20.9) $1,659.7 
Operating expenses  16.7   631.7   19.5   708.4   (20.9)  1,355.4 
                         
Operating income (loss)  (16.7)  157.6   (9.5)  172.9      304.3 
Equity in net earnings (losses) of unconsolidated affiliates  130.2   (1.7)     4.9   (126.1)  7.3 
Interest expense  (5.7)  (65.1)  (1.7)  (96.1)  1.4   (167.2)
Debt retirement costs     (2.2)     (2.6)     (4.8)
Foreign exchange loss           (3.7)     (3.7)
Other income  0.7   10.7      8.7   (1.4)  18.7 
                         
Income (loss) before income taxes and minority interest  108.5   99.3   (11.2)  84.1   (126.1)  154.6 
Income tax expense (benefit)  (0.7)  32.1   (4.3)  18.3      45.4 
Minority interest  0.3               0.3 
                         
Net income (loss) $108.9  $67.2  $(6.9) $65.8  $(126.1) $108.9 
                         
                         
  2009 
        Guarantor
  Non-Guarantor
  Consolidating
  Consolidated
 
  Parent  KCSR  Subsidiaries  Subsidiaries  Adjustments  KCS 
 
Revenues $  $753.4  $17.8  $739.8  $(30.8) $1,480.2 
Operating expenses  4.1   602.5   18.8   619.9   (33.3)  1,212.0 
                         
Operating income (loss)  (4.1)  150.9   (1.0)  119.9   2.5   268.2 
Equity in net earnings of unconsolidated affiliates  72.3   3.2      17.8   (85.6)  7.7 
Interest income (expense)  (0.2)  (64.8)  1.6   (113.5)  3.2   (173.7)
Debt retirement costs     (5.3)     (0.6)     (5.9)
Foreign exchange gain           2.1      2.1 
Other income, net  0.7   6.6      3.6   (5.7)  5.2 
                         
Income before income taxes and noncontrolling interest  68.7   90.6   0.6   29.3   (85.6)  103.6 
Income tax expense  0.7   31.3   0.4   2.2      34.6 
                         
Net income  68.0   59.3   0.2   27.1   (85.6)  69.0 
Noncontrolling interest           1.0      1.0 
                         
Net income attributable to Kansas City Southern and subsidiaries $68.0  $59.3  $0.2  $26.1  $(85.6) $68.0 
                         
 


103


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)

                         
  2005 
        Guarantor
  Non-Guarantor
  Consolidating
  Consolidated
 
  Parent  KCSR  Subsidiaries  Subsidiaries  Adjustments  KCS 
 
Revenues $  $725.9  $21.9  $637.1  $(32.9) $1,352.0 
Operating expenses  19.1   650.7   22.9   629.9   (32.9)  1,289.7 
                         
Operating income (loss)  (19.1)  75.2   (1.0)  7.2      62.3 
Equity in net earnings (losses) of unconsolidated affiliates  127.1   1.6      (4.1)  (121.7)  2.9 
Interest income (expense)  (5.7)  (58.5)  2.4   (73.3)  1.6   (133.5)
Debt retirement costs           (4.4)     (4.4)
Foreign exchange gain           3.5      3.5 
VAT/Put settlement gain (loss), net  (9.0)        140.9      131.9 
Other income  2.2   6.3   0.1   6.3   (1.6)  13.3 
                         
Income before income taxes and minority interest  95.5   24.6   1.5   76.1   (121.7)  76.0 
Income tax expense (benefit)  (5.4)  1.7   0.2   (3.6)     (7.1)
Minority interest           (17.8)     (17.8)
                         
Net income $100.9  $22.9  $1.3  $97.5  $(121.7) $100.9 
                         

                         
  2004 
        Guarantor
  Non-Guarantor
  Consolidating
  Consolidated
 
  Parent  KCSR  Subsidiaries  Subsidiaries  Adjustments  KCS 
 
Revenues $  $635.2  $20.5  $14.1  $(30.3) $639.5 
Operating expenses  14.7   529.0   19.1   23.5   (30.3)  556.0 
                         
Operating income (loss)  (14.7)  106.2   1.4   (9.4)     83.5 
Equity in net earnings (losses) of unconsolidated affiliates  35.1   (0.8)     (3.9)  (34.9)  (4.5)
Interest expense  (0.8)  (43.6)  (0.4)     0.4   (44.4)
Other income  0.3   16.3      1.4   (0.4)  17.6 
Debt retirement costs     (4.2)           (4.2)
                         
Income (loss) before income taxes  19.9   73.9   1.0   (11.9)  (34.9)  48.0 
Income tax expense (benefit)  (4.5)  31.0   0.4   (3.3)     23.6 
                         
Net income (loss) $24.4  $42.9  $0.6  $(8.6) $(34.9) $24.4 
                         

10492


 
Kansas City Southern
 
Notes to Consolidated Financial Statements — (Continued)

Condensed Consolidating Balance Sheets
 
                         
  December 31, 2006 
        Guarantor
  Non-Guarantor
  Consolidating
  Consolidated
 
  Parent  KCSR  Subsidiaries  Subsidiaries  Adjustments  KCS 
 
Assets:
                        
Current assets $4.8  $253.4  $4.8  $355.8  $(12.8) $606.0 
Investments held for operating purposes and affiliate investment  1,952.3   429.9      450.8   (2,768.1)  64.9 
Property and equipment, net  0.6   1,163.7   227.9   1,060.5   (0.5)  2,452.2 
Concession assets, net           1,303.3      1,303.3 
Other assets  5.0   31.4      174.5      210.9 
                         
Total assets $1,962.7  $1,878.4  $232.7  $3,344.9  $(2,781.4) $4,637.3 
                         
Liabilities and equity:
                        
Current liabilities $353.4  $(229.5) $140.1  $386.1  $(12.7) $637.4 
Long-term debt  0.2   733.4   0.6   897.6      1,631.8 
Payables to affiliates  32.4               32.4 
Deferred income taxes  (10.4)  361.0   76.5   (9.8)     417.3 
Other liabilities  4.7   94.5   13.0   123.8   (0.3)  235.7 
Minority interest     31.4      100.3   (31.4)  100.3 
Stockholders’ equity  1,582.4   887.6   2.5   1,846.9   (2,737.0)  1,582.4 
                         
Total liabilities and equity $1,962.7  $1,878.4  $232.7  $3,344.9  $(2,781.4) $4,637.3 
                         
                         
  2008 
        Guarantor
  Non-Guarantor
  Consolidating
  Consolidated
 
  Parent  KCSR  Subsidiaries  Subsidiaries  Adjustments  KCS 
 
Revenues $  $925.4  $15.1  $944.7  $(33.1) $1,852.1 
Operating expenses  8.1   749.9   23.7   715.4   (35.2)  1,461.9 
                         
Operating income (loss)  (8.1)  175.5   (8.6)  229.3   2.1   390.2 
Equity in net earnings of unconsolidated affiliates  190.5   4.0      16.7   (193.2)  18.0 
Interest income (expense)  3.8   (57.8)  1.6   (90.2)  3.7   (138.9)
Debt retirement costs     (5.6)           (5.6)
Foreign exchange loss           (21.0)     (21.0)
Other income (expense), net  (1.1)  6.8      6.1   (5.8)  6.0 
                         
Income (loss) before income taxes and noncontrolling interest  185.1   122.9   (7.0)  140.9   (193.2)  248.7 
Income tax expense (benefit)  0.9   42.7   (3.7)  24.6      64.5 
                         
Net income (loss)  184.2   80.2   (3.3)  116.3   (193.2)  184.2 
Noncontrolling interest  0.3               0.3 
                         
Net income (loss) attributable to
Kansas City Southern and
subsidiaries
 $183.9  $80.2  $(3.3) $116.3  $(193.2) $183.9 
                         
 
                         
  December 31, 2005 
        Guarantor
  Non-Guarantor
  Consolidating
  Consolidated
 
  Parent  KCSR  Subsidiaries  Subsidiaries  Adjustments  KCS 
 
Assets:
                        
Current assets $2.4  $476.1  $20.3  $233.3  $(265.3) $466.8 
Investments held for operating purposes and affiliate investment  1,715.4   435.8      464.2   (2,555.1)  60.3 
Property and equipment, net  0.1   1,334.0   239.3   724.9      2,298.3 
Concession assets, net           1,360.4      1,360.4 
Other assets  10.9   19.6   5.3   218.0   (16.0)  237.8 
                         
Total assets $1,728.8  $2,265.5  $264.9  $3,000.8  $(2,836.4) $4,423.6 
                         
Liabilities and equity:
                        
Current liabilities $202.2  $141.0  $240.2  $257.8  $(267.5) $573.7 
Long-term debt  0.2   738.1   0.6   925.0      1,663.9 
Payables to affiliates  98.1      0.7   26.6   (45.0)  80.4 
Deferred income taxes  (3.5)  424.6   (0.5)  4.5   (15.9)  409.2 
Other liabilities  5.6   110.5   14.6   139.5      270.2 
Stockholders’ equity  1,426.2   851.3   9.3   1,647.4   (2,508.0)  1,426.2 
                         
Total liabilities and equity $1,728.8  $2,265.5  $264.9  $3,000.8  $(2,836.4) $4,423.6 
                         
                         
  2007 
        Guarantor
  Non-Guarantor
  Consolidating
  Consolidated
 
  Parent  KCSR  Subsidiaries  Subsidiaries  Adjustments  KCS 
 
Revenues $  $807.8  $37.2  $928.4  $(30.6) $1,742.8 
Operating expenses  21.3   682.0   19.4   687.0   (29.3)  1,380.4 
                         
Operating income (loss)  (21.3)  125.8   17.8   241.4   (1.3)  362.4 
Equity in net earnings (losses) of unconsolidated affiliates  180.1   15.4      9.3   (193.4)  11.4 
Interest income (expense)  (2.5)  (62.9)  (1.3)  (91.8)  1.8   (156.7)
Debt retirement costs           (6.9)     (6.9)
Foreign exchange loss           (0.9)     (0.9)
Other income (expense), net  (0.5)  5.8      7.2   (0.5)  12.0 
                         
Income before income taxes and noncontrolling interest  155.8   84.1   16.5   158.3   (193.4)  221.3 
Income tax expense  1.6   16.9   7.1   41.5      67.1 
                         
Net income  154.2   67.2   9.4   116.8   (193.4)  154.2 
Noncontrolling interest  0.4               0.4 
                         
Net income attributable to
Kansas City Southern and
subsidiaries
 $153.8  $67.2  $9.4  $116.8  $(193.4) $153.8 
                         


10593


 
Kansas City Southern
 
Notes to Consolidated Financial Statements — (Continued)

Condensed Consolidating Statements of Cash FlowsBalance Sheets
 
                         
  2006 
        Guarantor
  Non-Guarantor
  Consolidating
  Consolidated
 
  Parent  KCSR  Subsidiaries  Subsidiaries  Adjustments  KCS 
 
Operating activities:
                        
Excluding intercompany activity $(148.7) $225.4  $81.5  $128.0  $(18.7) $267.5 
Intercompany activity  187.7   (145.3)  (80.5)  19.4   18.7    
                         
Net cash provided  39.0   80.1   1.0   147.4      267.5 
                         
Investing activities:
                        
Capital expenditures     (93.1)     (148.7)     (241.8)
Proceeds from disposal of property     26.9      3.1      30.0 
Contribution from NS for MSLLC (net of change in restricted contribution)           79.5      79.5 
Property investments in MSLLC           (37.8)     (37.8)
Other restricted cash           (3.0)     (3.0)
Proceeds from sales of investments, net     8.2            8.2 
Investments in and loans to affiliates           (1.1)     (1.1)
                         
Net cash used     (58.0)     (108.0)     (166.0)
                         
Financing activities:
                        
Proceeds from issuance of long- term debt     410.2      206.1      616.3 
Repayment of long-term debt  (44.0)  (409.3)  (0.1)  (205.1)     (658.5)
Debt issuance costs     (7.5)     (8.4)     (15.9)
Proceeds from stock plans  8.6               8.6 
Dividends paid  (4.3)              (4.3)
Excess tax benefit realized from options exercised  .2               .2 
                         
Net cash used  (39.5)  (6.6)  (0.1)  (7.4)     (53.6)
                         
Cash and cash equivalents:
                        
Net increase (decrease)  (0.5)  15.5   0.9   32.0      47.9 
At beginning of year  0.7   20.7   (0.9)  10.6      31.1 
                         
At end of year $0.2  $36.2  $  $42.6  $  $79.0 
                         
                         
  December 31, 2009 
        Guarantor
  Non-Guarantor
  Consolidating
  Consolidated
 
  Parent  KCSR  Subsidiaries  Subsidiaries  Adjustments  KCS 
 
Assets:
                        
Current assets $0.5  $219.1  $3.4  $428.8  $(38.0) $613.8 
Investments held for operating purposes and affiliate investment  1,577.8   31.7   1.9   1,616.0   (3,180.6)  46.8 
Property and equipment (including concession assets), net     1,734.1   212.4   2,800.7      4,747.2 
Other assets  1.3   42.0      90.9   (62.9)  71.3 
                         
Total assets $1,579.6  $2,026.9  $217.7  $4,936.4  $(3,281.5) $5,479.1 
                         
Liabilities and equity:
                        
Current liabilities $(455.7) $567.6  $124.0  $211.7  $(36.8) $410.8 
Long-term debt  0.2   793.8   0.4   1,147.5   (30.0)  1,911.9 
Deferred income taxes  (27.8)  423.1   79.6   92.2      567.1 
Other liabilities  4.1   142.0   3.0   132.7   (34.1)  247.7 
Stockholders’ equity  2,058.8   69.0   10.7   3,069.5   (3,149.2)  2,058.8 
Noncontrolling interest     31.4      282.8   (31.4)  282.8 
                         
Total liabilities and equity $1,579.6  $2,026.9  $217.7  $4,936.4  $(3,281.5) $5,479.1 
                         
 

                         
  December 31, 2008 
        Guarantor
  Non-Guarantor
  Consolidating
  Consolidated
 
  Parent  KCSR  Subsidiaries  Subsidiaries  Adjustments  KCS 
 
Assets:
                        
Current assets $21.9  $354.0  $3.4  $319.6  $(13.3) $685.6 
Investments held for operating purposes and affiliate investment  2,280.4   45.2   1.8   722.8   (2,989.7)  60.5 
Property and equipment (including concession assets), net     1,593.6   213.4   2,791.4      4,598.4 
Deferred income taxes           36.4      36.4 
Other assets  1.0   37.6      33.5   (13.8)  58.3 
                         
Total assets $2,303.3  $2,030.4  $218.6  $3,903.7  $(3,016.8) $5,439.2 
                         
Liabilities and equity:
                        
Current liabilities $415.1  $391.8  $120.7  $178.1  $(12.9) $1,092.8 
Long-term debt  0.2   454.1   0.6   993.8      1,448.7 
Deferred income taxes  (27.5)  367.7   79.4   72.8      492.4 
Other liabilities  4.0   134.3   7.5   88.5   (14.2)  220.1 
Stockholders’ equity  1,911.5   651.1   10.4   2,296.8   (2,958.3)  1,911.5 
Noncontrolling interest     31.4      273.7   (31.4)  273.7 
                         
Total liabilities and equity $2,303.3  $2,030.4  $218.6  $3,903.7  $(3,016.8) $5,439.2 
                         


106


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)

                         
  2005 
        Guarantor
  Non-Guarantor
  Consolidating
  Consolidated
 
  Parent  KCSR  Subsidiaries  Subsidiaries  Adjustments  KCS 
 
Operating activities:
                        
Excluding intercompany activity $(1.1) $107.4  $11.3  $61.2  $  $178.8 
Intercompany activity  17.3   (14.9)  (8.9)  6.5       
                         
Net cash provided  16.2   92.5   2.4   67.7      178.8 
                         
Investing activities:
                        
Capital expenditures     (170.9)  (3.5)  (101.3)     (275.7)
Proceeds from disposal of property     5.7      0.6      6.3 
Proceeds from investment sales     (8.0)           (8.0)
Investments in and loans to affiliates  (9.9)  (16.3)     8.0   7.7   (10.5)
Acquisition costs  (10.1)              (10.1)
Cash of Mexrail at acquisition           3.0      3.0 
Cash of KCSM at acquisition           5.5      5.5 
Repayment of loans to affiliates     10.1      4.2   (14.3)   
                         
Net cash used  (20.0)  (179.4)  (3.5)  (80.0)  (6.6)  (289.5)
                         
Financing activities:
                        
Proceeds from issuance of long- term debt     20.3      624.4      644.7 
Repayment of long-term debt  (1.0)  62.7      (583.2)     (521.5)
Capital contribution           5.5   (5.5)   
Proceeds of loans from affiliates  5.2            (5.2)   
Repayment of loans from affiliates  (6.7)        (10.6)  17.3    
Debt issuance costs     (2.9)     (13.6)     (16.5)
Proceeds from stock plans  1.7               1.7 
Repurchase of common stock  (200.4)              (200.4)
Issuance of preferred stock, net proceeds  203.9               203.9 
Dividends paid  (8.7)              (8.7)
                         
Net cash provided (used)  (6.0)  80.1      22.5   6.6   103.2 
                         
Cash and cash equivalents:
                        
Net increase (decrease)  (9.8)  (6.8)  (1.1)  10.2      (7.5)
At beginning of year  10.5   27.5   0.2   0.4      38.6 
                         
At end of year $0.7  $20.7  $(0.9) $10.6  $  $31.1 
                         

107


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)

                         
  2004 
        Guarantor
  Non-Guarantor
  Consolidating
  Consolidated
 
  Parent  KCSR  Subsidiaries  Subsidiaries  Adjustments  KCS 
 
Operating activities:
                        
Excluding intercompany activity $(11.5) $156.2  $1.9  $(3.9) $  $142.7 
Intercompany activity  236.6   (239.7)  (0.2)  3.3       
                         
Net cash provided (used)  225.1   (83.5)  1.7   (0.6)     142.7 
                         
Investing activities:
                        
Capital expenditures     (116.7)  (0.5)        (117.2)
Proceeds from disposal of property     4.9            4.9 
Other restricted cash  (200.0)              (200.0)
Investments in and loans to affiliates  (41.7)  (10.5)     (9.3)  6.5   (55.0)
Proceeds from investment sales  0.4         0.1      0.5 
Repayment of loans to affiliates           8.8   (8.8)   
Other, net  (9.6)  (0.4)           (10.0)
                         
Net cash used  (250.9)  (122.7)  (0.5)  (0.4)  (2.3)  (376.8)
                         
Financing activities:
                        
Proceeds from issuance of long- term debt     250.0            250.0 
Repayment of long-term debt     (106.6)  (1.0)        (107.6)
Proceeds of loans from affiliates  6.5            (6.5)   
Repayment of loans from affiliates  (8.8)           8.8    
Debt issuance costs     (3.8)           (3.8)
Proceeds from stock plans  7.4               7.4 
Dividends paid  (8.7)              (8.7)
                         
Net cash provided (used)  (3.6)  139.6   (1.0)     2.3   137.3 
                         
Cash and cash equivalents:
                        
Net increase (decrease)  (29.4)  (66.6)  0.2   (1.0)     (96.8)
At beginning of year  39.9   94.0   0.1   1.4      135.4 
                         
At end of year $10.5  $27.4  $0.3  $0.4  $  $38.6 
                         

Note 15.  Segment Reporting
The accompanying segment reporting information(in millions)has been prepared and presented pursuant to Statement of Financial Accounting Standards No. 131, “Disclosures about Segments of an Enterprise and Related Information.” Operating units are defined as either U.S. or Mexico segments. Appropriate eliminations of revenue and reclassifications of operating revenues and expenses have been recorded in deriving

10894


 
Kansas City Southern
 
Notes to Consolidated Financial Statements — (Continued)

consolidated data. The U.S. segment consists primarily
Condensed Consolidating Statements of KCSR and Tex-Mex. The Mexico segment consists of Grupo KCSM, KCSM and Arrendadora.Cash Flows
 
                 
  2006 
  U.S. ��Mexico  Elimination  Consolidated 
 
Revenue $885.7  $774.0  $  $1,659.7 
                 
Operating expenses:                
Compensation and benefits  264.3   123.4      387.7 
Purchased services  82.8   131.0   1.4   215.2 
Fuel  140.8   112.8      253.6 
Equipment costs  82.7   97.0      179.7 
Depreciation and amortization  65.7   89.3      155.0 
Casualties and insurance  44.9   8.5      53.4 
KCSM employees’ statutory profit sharing     5.9      5.9 
Other  78.9   27.4   (1.4)  104.9 
                 
Total operating expenses  760.1   595.3      1,355.4 
                 
Operating income $125.6  $178.7  $  $304.3 
                 
Income before income taxes and minority interest $133.5  $87.2  $(66.1) $154.6 
                 
Total assets $3,464.7  $2,465.4  $(1,292.8) $4,637.3 
Total liabilities  1,750.6   1,204.0      2,954.6 
Capital expenditures  125.7   116.1      241.8 
                         
  2009 
        Guarantor
  Non-Guarantor
  Consolidating
  Consolidated
 
  Parent  KCSR  Subsidiaries  Subsidiaries  Adjustments  KCS 
 
Operating activities:
                        
Excluding intercompany activity $787.6  $(513.0) $3.4  $18.1  $(3.2) $292.9 
Intercompany activity  (855.5)  773.8   2.8   78.9       
                         
Net cash provided (used)  (67.9)  260.8   6.2   97.0   (3.2)  292.9 
                         
Investing activities:
                        
Capital expenditures     (197.4)  (5.2)  (148.0)  1.4   (349.2)
Return of investment           101.0   (101.0)   
Property investments in MSLLC           (22.0)     (22.0)
Other investing activities     10.9   (0.9)  (35.4)  50.2   24.8 
                         
Net cash used     (186.5)  (6.1)  (104.4)  (49.4)  (346.4)
                         
Financing activities:
                        
Proceeds from issuance of long-term debt  0.8   51.0      189.0   (38.7)  202.1 
Repayment of long-term debt  (0.4)  (285.4)     (42.0)  8.7   (319.1)
Proceeds from common stock issuance  73.9               73.9 
Other financing activities  (6.5)  (5.1)     (86.8)  82.6   (15.8)
                         
Net cash provided (used)  67.8   (239.5)     60.2   52.6   (58.9)
                         
Cash and cash equivalents:
                        
Net increase (decrease)  (0.1)  (165.2)  0.1   52.8      (112.4)
At beginning of year     177.9   0.2   51.8      229.9 
                         
At end of year $(0.1) $12.7  $0.3  $104.6  $  $117.5 
                         
 
                 
  2005 
  U.S.  Mexico  Elimination  Consolidated 
 
Revenue $804.4  $547.6  $  $1,352.0 
                 
Operating expenses:                
Compensation and benefits  244.8   95.6      340.4 
Purchased services  84.6   108.7   1.8   195.1 
Fuel  123.8   83.1      206.9 
Equipment costs  68.9   80.9      149.8 
Depreciation and amortization  60.0   67.7      127.7 
Casualties and insurance  88.7   14.7      103.4 
KCSM employees’ statutory profit sharing     41.1      41.1 
Other  88.5   38.6   (1.8)  125.3 
                 
Total operating expenses  759.3   530.4      1,289.7 
                 
Operating income $45.1  $17.2  $  $62.3 
                 
Income before income taxes and minority interest $90.0  $85.4  $(99.4) $76.0 
                 
Total assets $3,271.2  $2,418.3  $(1,265.9) $4,423.6 
Total liabilities  1,849.4   1,215.5   (67.5)  2,997.4 
Capital expenditures  203.7   72.0      275.7 


10995


 
Kansas City Southern
 
Notes to Consolidated Financial Statements — (Continued)
                         
  2008 
        Guarantor
  Non-Guarantor
  Consolidating
  Consolidated
 
  Parent  KCSR  Subsidiaries  Subsidiaries  Adjustments  KCS 
 
Operating activities:
                        
Excluding intercompany activity $(55.9) $216.8  $(7.0) $266.2  $(7.1) $413.0 
Intercompany activity  57.2   18.5   8.0   (83.7)      
                         
Net cash provided  1.3   235.3   1.0   182.5   (7.1)  413.0 
                         
Investing activities:
                        
Capital expenditures     (308.5)  (0.7)  (224.6)     (533.8)
Proceeds from disposal of property     17.7      3.2      20.9 
Contribution from NS for MSLLC           27.0      27.0 
Property investments in MSLLC           (30.4)     (30.4)
Other investing activities  0.5   2.9   (0.2)  (24.9)     (21.7)
                         
Net cash provided (used)  0.5   (287.9)  (0.9)  (249.7)     (538.0)
                         
Financing activities:
                        
Proceeds from issuance of long- term debt     455.2      124.9      580.1 
Repayment of long-term debt  (0.6)  (236.4)     (25.8)     (262.8)
Other financing activities  (1.0)  (15.9)     (8.1)  7.1   (17.9)
                         
Net cash provided (used)  (1.6)  202.9      91.0   7.1   299.4 
                         
Cash and cash equivalents:
                        
Net increase  0.2   150.3   0.1   23.8      174.4 
At beginning of year  (0.2)  27.6   0.1   28.0      55.5 
                         
At end of year $  $177.9  $0.2  $51.8  $  $229.9 
                         

96


Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)
                         
  2007 
        Guarantor
  Non-Guarantor
  Consolidating
  Consolidated
 
  Parent  KCSR  Subsidiaries  Subsidiaries  Adjustments  KCS 
 
Operating activities:
                        
Excluding intercompany activity $12.2  $32.5  $24.3  $298.8  $  $367.8 
Intercompany activity  61.7   14.7   (27.9)  (48.5)      
                         
Net cash provided  73.9   47.2   (3.6)  250.3      367.8 
                         
Investing activities:
                        
Capital expenditures     (156.4)  3.7   (244.1)     (396.8)
Contribution from NS for MSLLC           143.4      143.4 
Property investments in MSLLC           (118.0)     (118.0)
Other investing activities     18.7      (14.1)     4.6 
                         
Net cash used     (137.7)  3.7   (232.8)     (366.8)
                         
Financing activities:
                        
Proceeds from issuance of long- term debt     105.0      221.6      326.6 
Repayment of long-term debt  (54.1)  (19.6)     (237.6)     (311.3)
Other financing activities  (20.2)  (3.5)     (16.1)     (39.8)
                         
Net cash provided (used)  (74.3)  81.9      (32.1)     (24.5)
                         
Cash and cash equivalents:
                        
Net increase (decrease)  (0.4)  (8.6)  0.1   (14.6)     (23.5)
At beginning of year  0.2   36.2      42.6      79.0 
                         
At end of year $(0.2) $27.6  $0.1  $28.0  $  $55.5 
                         
Note 17.  Geographic Information
The Company strategically manages its rail operations as one reportable business segment over a single coordinated rail network that extends from the midwest and southeast portions of the United States south into Mexico and connects with other Class I railroads. Financial information reported at this level, such as revenues, operating income and cash flows from operations, is used by corporate management, including the Company’s chief operating decision-maker, in evaluating overall financial and operational performance, market strategies, as well as the decisions to allocate capital resources.
The Company’s strategic initiatives, which drive its operational direction, are developed and managed at the Company’s headquarters and targets are communicated to its various regional activity centers. Corporate management is responsible for, among others, KCS’ marketing strategy, the oversight of large cross-border customer accounts, overall planning and control of infrastructure and rolling stock, the allocation of capital resources based upon growth and capacity constraints over the coordinated network, and other functions such as financial planning, accounting, and treasury.
The role of each region is to manage the operational activities and monitor and control costs over the coordinated rail network. Such cost control is required to ensure that pre-established efficiency standards set at the corporate level are attained. The regional activity centers are responsible for executing the overall corporate strategy and operating plan established by corporate management as a coordinated system.

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Kansas City Southern
Notes to Consolidated Financial Statements — (Continued)
The following tables(in millions)provide information by geographic area in accordance with the accounting guidance on segment reporting:
             
  Years Ended December 31 
  2009  2008  2007 
 
Revenues            
U.S.  $864.2  $1,033.6  $929.6 
Mexico  616.0   818.5   813.2 
             
Total revenues $1,480.2  $1,852.1  $1,742.8 
             
         
  Years Ended December 31 
  2009  2008 
 
Property and equipment (including concession assets), net        
U.S.  $2,501.2  $2,342.1 
Mexico  2,246.0   2,256.3 
         
Total property and equipment (including concession assets), net $4,747.2  $4,598.4 
         
Note 16.18.  Subsequent EventsEvent
 
Preferred Stock Dividends.Fuel Derivative Transactions.  On January 12, 2007,In anticipation of future increases in diesel fuel prices, the Company declared a cash dividend onentered into fuel swap agreements in the Series C Preferred Stock and a stock dividend onfirst quarter of 2010 to hedge 22.6 million gallons of diesel fuel purchases through the Series D Preferred Stock for dividends in arrears that were due May 15, 2006, August 15, 2006 and November 15, 2006, and the dividend payment due February 15, 2007. The dividends were paid on February 15, 2007, to stockholdersend of record on February 5, 2007. The Company also declared a cash dividend on the 4%, noncumulative Preferred Stock, payable April 3, 2007, to stockholders2010 at an average swap price per gallon of record on March 12, 2007.$2.22.
 
Consent Solicitation.  On January 29, 2007, KCSR commenced a consent solicitation to amend the indentures under which KCSR’s 91/2% Senior Notes due 2008 (“91/2% Notes”) and 71/2% Senior Notes due 2009 (“71/2% Notes”) were issued. The purpose of the consent solicitation was to (i) resolve an inconsistency in the inclusion of certain expenses, but not the income, of restricted subsidiaries in the calculation of the consolidated coverage ratio under the indentures, (ii) amend the definition of refinancing indebtedness to allow the inclusion of certain related premiums, interest, fees and expenses in permitted refinancing indebtedness and (iii) obtain waivers of any defaults arising from certain actions taken in the absence of such proposed amendments. On February 5, 2007, KCSR obtained the requisite consents from the holders of each series of Notes to amend their respective indentures as described above and executed supplemental indentures containing such amendments and waivers.
Credit Facility Waiver.  On January 31, 2007, KCS provided written notice to the lenders under the 2006 Credit Agreement of certain representation and other defaults under the 2006 Credit Agreement arising from the potential defaults which existed under KCSR indentures as described above. These defaults limited KCSR’s access to the revolving credit facility. In its notice of default, the Company also requested that the lenders waive these defaults. On February 5, 2007 the Company received a waiver of such defaults from all of the lenders under the 2006 Credit Agreement. The Company is currently not in default ofhas evaluated subsequent events through February 11, 2010, the 2006 Credit Agreementdate that these financial statements were issued and has access to the revolving credit facility.determined that no additional subsequent events occurred that would require additional recognition or disclosure.


11098


Item 9.  Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
Item 9.Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
 
None.
 
Item 9A.  Controls and Procedures
Item 9A.Controls and Procedures
 
(a) Disclosure Controls and Procedures
 
The Chief Executive Officer and Chief Financial Officer have reviewed and evaluated the effectiveness of the Company’s disclosure controls and procedures (as defined inRules 13a-15(e) and15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), as of the end of the fiscal year for which this annual report onForm 10-K is filed. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer have concluded that the current disclosure controls and procedures are effective to ensure that information required to be disclosed in reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission rules and forms, and include controls and procedures designed to ensure that information required to be disclosed by the Company in such reports is accumulated and communicated to management, including the Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosures.
 
(b) Changes in Internal Control over Financial Reporting
 
There have been no changes in the Company’s internal control over financial reporting that occurred during the last fiscal quarter (the fourth quarter in the case of an annual report) that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
 
(c) Internal Control over Financial Reporting
 
The report of management on the Company’s internal control over financial reporting (as defined inRule 13a-15(f) and15d-15(f) under the Exchange Act) is included as “Management’s Report on Internal Control over Financial Reporting” in Item 8.
 
KPMG LLP, the independent registered public accounting firm that audited the Company’s financial statements contained herein, has issued an attestation report on management’s assessment of the effectiveness of the Company’s internal control over financial reporting as of December 31, 2006.2009. The attestation report is included in Item 8.8 of thisForm 10-K.
Item 9B.Other Information
We are providing the following disclosure in lieu of providing this information in a current report onForm 8-K pursuant to Item 8.01, “Other Events”. All capitalized terms not defined herein shall have the meanings as set forth in the applicable agreements.
 
Item 9B.  Other InformationTrackage Rights Agreement
 
None.KCSM and Ferromex have entered into a Trackage Rights, Switching and Interline Settlement Agreement, dated February 9, 2010 (the “Trackage Rights Agreement”). Pursuant to the Trackage Rights Agreement, the Parties terminated, in a definitive and irrevocable manner, all actions and procedures regarding: (a) rates applicable to trackage rights, switching and interlinear services from January 1, 2009 onward but not regarding the applicable rates before January 1, 2009 or the amounts owed by the parties to one another prior to the execution of the Trackage Rights Agreement; (b) the scope of certain trackage rights in Monterrey, Nuevo León, Guadalajara, Jalisco and Altamira, Tamaulipas, the Long Trackage Right, and Aguascalientes; and (c) court costs, as well as any other directly-related issue or dispute that arises from, is related in any manner directly or indirectly with, the terms and conditionsand/or scope of such mandatory trackageand/or switching rights or that arises by reason of the definition of trackage rights (the “Settlement Controversies”). The parties waived their rights to any future actions derived from or related to the Settlement Controversies.
Further, KCSM and Ferromex set the rates applicable for January 1, 2009 onward applicable to each party for the use of that party’s trackage rights of the other party’s trackage.


99


Explicitly excluded from the scope and purpose of the Trackage Rights Agreement are all procedures, disputes, lawsuits, remedies, appeals and disagreements that were not expressly identified in the Trackage Rights Agreement, including without limitation, the disputes, claims and lawsuits that relate to the determination of rates for mandatory trackageand/or switching rights and for interconnectionand/or terminal services, accrued prior to January 1, 2009, as well as the disputes among the parties regarding amounts payable to one another for trackage rights, interline services and switching services, that are currently being disputed by both parties at the Federal Court of Fiscal and Administrative Justice. Furthermore, the parties did not settle or agree to settle any other trackage and switching rights not specifically mentioned in the Trackage Rights Agreement.
The Trackage Rights Agreement shall remain in effect until the term of the concession title of Ferromex or the concession title of KCSM expire, unless the Parties mutually agree to renew the Trackage Rights Agreement beyond the expiration of either party’s concession title. The Trackage Rights Agreement may be terminated, at KCSM’s option, before its stipulated term if Ferromex is sold or if it transfers, directly or indirectly, its concession under its concession title. A change in control of KCSM or its affiliates, however, shall not be a cause for termination.
Settlement Agreement
On February 9, 2010, (i) KCSM and (ii) Ferromex, Ferrosur, Minera México, S.A. de C.V., Infraestructura y Transportes Ferroviarios, S.A. de C.V., Infraestructura y Transportes México, S.A. de C.V., Líneas Ferroviarias de México, S.A. de C.V., Grupo Ferroviario Mexicano, S.A. de C.V., and Grupo México, S.A.B. de C.V. (jointly, the “Ferromex Parties”) entered into a Settlement Agreement (the “Settlement Agreement”).
Pursuant to the Settlement Agreement, the parties agreed to completely, definitively and irrevocably terminate (i) the private disputes, procedures and controversies among KCSM and the Ferromex Parties, in connection with the merger between Ferromex and Ferrosur, including KCSM’s involvement in such procedures as an interested party; and (ii) the lawsuit filed against KCSM and the Mexican Government in connection with several disputes, procedures and controversies before judicial authorities with respect to the acquisition of the shares of Ferrocarril del Noreste, S.A. de C.V. (now KCSM) by Grupo Transportación Ferroviaria Mexicana, S.A. de C.V., in 1997 (the “Settlement Procedures”). The parties waived their rights to any future actions derived from or related to the Settlement Procedures. Further, the parties did not settle or agree to settle any disputes, controversies or procedures other than the Settlement Procedures.
Under the Settlement Agreement, Ferrosur agreed to grant KCSM certain trackage and switching rights within Veracruz, México, and switching rights in the Puebla-Tlaxcala zone. In a related agreement, the parties further agreed to amend the FTVM by-laws to, among other changes, grant certain veto and voting rights to KCSM at the shareholders’ and the board of directors’ levels.
The Settlement Agreement shall remain in effect until the term of the concession title of KCSM expires, unless the parties mutually agree to renew the Settlement Agreement beyond the expiration of KCSM’s concession title. The Settlement Agreement may be terminated earlier upon delivery by KCSM of a notice to the Ferromex Parties indicating any breach by the Ferromex Parties of any of their respective obligations under the Settlement Agreement. Notwithstanding, the settlement and termination of the Settlement Procedures shall not be subject to rescission or termination.
The Settlement Agreement may be terminated, at KCSM’s option, before its stipulated term if Ferromex is sold or if it transfers, directly or indirectly, its concession under its concession title. A change in control of KCSM or its affiliates, however, shall not be a cause for termination. Likewise, the Settlement Agreement will terminate three years after Ferromex and Ferrosur cease to be under the common control of one person or group of persons acting jointly or in agreement to adopt coordinated resolutions (“Common Control”). Notwithstanding, if for any reason Ferromex and Ferrosur are under Common Control within five years after the Settlement Agreement is terminated due to Ferromex and Ferrosur ceasing to be under the Common Control, the Settlement Agreement would automatically be reinstated.


100


In November 2005, Ferromex acquired control of and merged with Ferrosur creating Mexico’s largest railway, though such merger has been previously rejected by COFECO. If the COFECO does not authorize the merger of Ferromex and Ferrosur, the Settlement Agreement shall be terminated twelve months after the relevant resolution of the Governmental Authority is issued or when the unwinding is effective, whichever is later.
 
Part III
 
The Company has incorporated by reference certain responses to the Items of this Part III pursuant toRule 12b-23 under the Exchange Act and General Instruction G(3) toForm 10-K. The Company’s definitive proxy statement for the annual meeting of stockholders scheduled for May 3, 20076, 2010 (“Proxy Statement”), will be filed no later than 120 days after December 31, 2006.2009.
 
Item 10.  Directors, Executive Officers and Corporate Governance
 
(a) Directors of the Company
 
The sections of the Company’s definitive proxy statement for the 20072010 annual meeting of stockholders entitled “Proposal 1 — Election of TwoThree Directors” and “The Board of Directors” are incorporated by reference in partial response to this Item 10.


111


 
(b) Executive Officers of the Company
 
See “Executive Officers of KCS and Subsidiaries” in Part I, Item 4 of this annual report incorporated by reference herein for information about the executive officers of the Company.
 
(c) Changes to Shareholder Nominating Procedures
The Information set forth in the Company’s definitive proxy statement for the 2010 annual meeting of stockholders is incorporated by reference in partial response to this Item 10.
(d) Audit Committee and Audit Committee Financial Experts
 
The section of the Company’s definitive proxy statement for the 20072010 annual meeting of stockholders entitled “Board Committees — The Audit Committee” is incorporated by reference in partial response to this Item 10.
 
(d)(e) Compliance with Section 16(a) of the Exchange Act
 
The response to Item 405 ofRegulation S-K under “Section 16(a) Beneficial Ownership Reporting Compliance” in the Company’s definitive proxy statement for the 20072010 annual meeting of stockholders is incorporated by reference in partial response to this Item 10.
 
(e)(f) Code of Ethics
 
The Company has adopted a Code of Business Conduct and Ethics (“Code of Ethics”) that applies to directors, officers (including, among others, the principal executive officer, principal financial officer and principal accounting officer) and employees. The Company has posted its Code of Ethics on its website (www.kcsouthern.com) and will post on its website any amendments to, or waivers from, a provision of its Code of Ethics that applies to the Company’s principal executive officer, principal financial officer or principal accounting officer as required by applicable rules and regulations. The Code of Ethics is available, in print, upon written request to the Corporate Secretary, P.O. Box 219335, Kansas City, Missouri64121-9335.
 
(f)(g) Annual Certification to the New York Stock Exchange
 
KCS’ common stock is listed on the New York Stock Exchange (“NYSE”) under the ticker symbol “KSU”. As a result, the Chief Executive Officer is required to make annually, and he made on May 22, 2006,8, 2009, a CEO’s Annual Certification to the New York Stock Exchange in accordance with Section 303A.12 of the NYSE Listed Company Manual stating that he was not aware of any violations by KCS of the NYSE corporate governance listing standards.


101


Item 11.  Executive Compensation
 
The sections of the Company’s definitive proxy statement for the 20072010 annual meeting of stockholders entitled “Non-Management Director Compensation,” “Compensation Committee Report,” “Compensation Discussion and Analysis,” “Management Compensation Tables,” and “Board Committees — The Compensation Committee — Compensation Committee Interlocks and Insider Participation” are incorporated by reference in response to this Item 11.
 
Item 12.  Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Item 12.Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
 
The section of the Company’s definitive proxy statement for the 20072010 annual meeting of stockholders entitled “Beneficial Ownership” is incorporated by reference in partial response to this Item 12.


112


Equity Compensation Plan Information.Information
 
The following table provides information as of December 31, 2006,2009, about the common stock that may be issued upon the exercise of options, warrants and rights, as well as shares remaining available for future issuance under the Company’s existing equity compensation plans.
 
                        
     Number of Securities
    Weighted-
 Number of Securities
 
     Remaining Available
    Average Exercise
 Remaining Available for
 
 Number of Securities
   for Future Issuance
  Number of Securities
 Price of
 Future Issuance Under
 
 to be Issued
 Weighted-Average
 Under Equity Compensation
  to be Issued upon
 Outstanding
 Equity Compensation
 
 Upon Exercise of
 Exercise Price of
 Plans — Excluding
  Exercise of
 Options,
 Plans-Excluding
 
 Outstanding Options,
 Outstanding Options,
 Securities Reflected in
  Outstanding Options,
 Warrants and
 Securities Reflected in
 
Plan Category
 Warrants and Rights Warrants and Rights the First Column(i)  Warrants and Rights Rights the First Column(i) 
Equity compensation plans:                        
Approved by security holders  2,940,332  $8.98   6,895,114   1,744,555  $15.53   10,124,400 
Not approved by security holders                  
              
Total  2,940,332  $8.98   6,895,114   1,744,555  $15.53   10,124,400 
              
 
 
(i)Includes 4,201,8974,000,000 shares available for issuance under the 2009 Employee Stock Purchase Plan, 3,957,566 shares available for issuance under the Employee Stock Purchase Plan (this plan has been replaced with the 2009 Employee Stock Purchase Plan and 2,693,217the final purchase period of this plan was in 2009) and 2,166,834 shares available for issuance under the 19912008 Plan as awards in the form of Nonvested Shares, Bonus Shares, Performance Units or Performance Shares or issued upon the exercise of Options (including ISOs), stock appreciation rights or limited stock appreciation rights awarded under the 19912008 Plan.
 
The Company has no knowledge of any arrangement the operation of which may at a subsequent date result in a change of control of the Company.
 
Item 13.  Certain Relationships and Related Transactions, and Director Independence
 
The sections of the Company’s definitive proxy statement for the 20072010 annual meeting of stockholders entitled “Insider Disclosures,” “The Board of Directors — Non-Management Director Independence” and “Board Committees — The Compensation Committee — Compensation Committee Interlocks and Insider Participation” are incorporated by reference in response to this Item 13.
 
Item 14.  Principal Accountant Fees and Services
 
The sections of the Company’s definitive proxy statement for the 20072010 annual meeting of stockholders entitled “Board Committees — the Audit Committee” and “Independent Registered Public Accounting Firm” are incorporated by reference in partial response to this Item 14.


102


 
Part IV
 
Item 15.  Exhibits and Financial Statement Schedules
 
(a)  List of Documents filed as part of this Report
 
(1) Financial Statements
 
The financial statements and related notes, together with the report of KPMG LLP appear in Part II Item 8, Financial Statements and Supplementary Data, of thisForm 10-K.
 
(2) Financial Statement Schedules
 
The schedules and exhibits for which provision is made in the applicable accounting regulation of the Securities and Exchange Commission appear in Part II Item 8, “Financial Statements and Supplementary Data” of thisForm 10-K.None.


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(3) List of Exhibits
 
(a) Exhibits
 
The Company has attached or incorporated by reference herein certain exhibits as specified below pursuant toRule 12b-32 under the Exchange Act.
 
     
Exhibit
 
Description
 
   (2)  Plan of acquisition, reorganization, arrangement, liquidation or succession
 2.1 Amended and Restated Acquisition Agreement, dated as of December 15, 2004, by and among KCS, KARA Sub, Inc., KCS Investment I, Ltd., KCS Acquisition Subsidiary, Inc., Caymex Transportation, Inc., Grupo TMM, S.A., TMM Holdings, S.A. de C.V., TMM Multimodal, S.A. de C.V. and Grupo Transportación Ferroviaria Mexicana, S.A. de C.V. (currently known as Grupo KCSM, S.A. de C.V. (“Grupo KCSM”)) (the “Amended Acquisition Agreement”), filed as Exhibit 10.1 to the Company’s Current Report onForm 8-K filed on December 21, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 2.1.
 2.2 Stockholders’ Agreement by and among KCS, Grupo TMM, S.A., TMM Holdings, S.A. de C.V., TMM Multimodal, S.A. de C.V. and certain stockholders of Grupo TMM, S.A (the “Stockholders’ Agreement”), filed as Exhibit 10.3 to the Company’s Current Report onForm 8-K filed on December 21, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 2.2.
 2.3 Registration Rights Agreement by and among KCS, Grupo TMM, S.A., TMM Multimodal, S.A. de C.V. and certain stockholders of Grupo TMM, S.A. (the “Acquisition Registration Rights Agreement”), filed as Exhibit 10.4 to the Company’s Current Report onForm 8-K filed on December 21, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 2.3.
 2.4 Consulting Agreement by and between KCS and José F. Serrano International Business, S.A. de C.V. (the “Consulting Agreement”), filed as Exhibit 10.5 to the Company’s Current Report onForm 8-K filed on December 21, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 2.4.
 2.5 Marketing and Services Agreement by and among KCSR, TMM Logistics, S.A. de C.V. and TFM, S.A. de C.V. (currently known as Kansas City Southern de México, S. de R.L. de C.V. (“KCSM”)) (the “Marketing and Services Agreement”), filed as Exhibit 10.6 to the Company’s Current Report onForm 8-K filed on December 21, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 2.5.
 2.6 Rights Agreement, dated as of September 29, 2005, by and between KCS and UMB Bank, n.a. (the “2005 Rights Agreement”), filed as Exhibit 10.1 to the Company’s Current Report onForm 8-K filed on October 3, 2005 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 2.6.
 2.7 Registration Rights Agreement, dated November 21, 2006, among Kansas City Southern de México, S.A. de C.V. (currently known as Kansas City Southern de México, S. de R.L. de C.V. (“KCSM”)), Morgan Stanley & Co. Incorporated, Banc of America Securities LLC, BBVA Securities Inc., BMO Capital Markets Corp., and Scotia Capital (USA) Inc. (the “2006 Registration Rights Agreement”), filed as Exhibit 4.3 to the Company’s Current Report onForm 8-K filed on November 28, 2006 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 2.7.
   (3)  Articles of Incorporation and Bylaws
    Articles of Incorporation
 3.1 Exhibit 3.1 to the Company’s Registration Statement onForm S-4 originally filed July 12, 2002 (RegistrationNo. 333-92360), as amended and declared effective on July 30, 2002 (the “2002S-4 Registration Statement”), Restated Certificate of Incorporation, is incorporated herein by reference as Exhibit 3.1.
    Bylaws
 3.2 The Amended and Restated By-Laws of Kansas City Southern, as amended on January 18, 2007, are attached to thisForm 10-K as Exhibit 3.2.
   (4)  Instruments Defining the Right of Security Holders, Including Indentures
 4.1 The Fourth, Seventh, Eighth, Eleventh, Twelfth, Thirteenth, Fourteenth, Fifteenth and Sixteenth paragraphs of the Company’s Restated Certificate of Incorporation. (See Exhibit 3.1).
     
Exhibit
 
Description
 
 (2)  Plan of acquisition, reorganization, arrangement, liquidation or succession
 2.1 Stockholders’ Agreement, dated December 15, 2004, by and among KCS, Grupo TMM, S.A., TMM Holdings, S.A. de C.V., TMM Multimodal, S.A. de C.V. and certain stockholders of Grupo TMM, S.A. (the “Stockholders’ Agreement”), filed as Exhibit 10.3 to the Company’s Current Report onForm 8-K, filed on December 21, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 2.1.
 2.2 Registration Rights Agreement by and among KCS, Grupo TMM, S.A., TMM Multimodal, S.A. de C.V. and certain stockholders of Grupo TMM, S.A. (the “Acquisition Registration Rights Agreement”), filed as Exhibit 10.4 to the Company’s Current Report onForm 8-K, filed on December 21, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 2.2.
 2.3 Rights Agreement, dated September 29, 2005, by and between KCS and UMB Bank, n.a. (the “2005 Rights Agreement”), filed as Exhibit 10.1 to the Company’s Current Report onForm 8-K, filed on October 3, 2005 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 2.3.
 2.4 Registration Rights Agreement, dated May 5, 2003, between KCS and Morgan Stanley & Co. Incorporated and Deutsche Bank Securities Inc. (the “2003 Registration Rights Agreement”), filed as Exhibit 4.5 to the Company’s Registration Statement onForm S-3 originally filed on August 1, 2003 (RegistrationNo. 333-107573), (the “2003S-3 Registration Statement”), is incorporated herein by reference as Exhibit 2.4.
 2.5 Registration Rights Agreement, dated April 19, 2005, between Kansas City Southern de México, S.A. de C.V. (“KCSM”), and Morgan Stanley & Co. Incorporated and Scotia Capital (USA) Inc. (the “2005 KCSM Registration Rights Agreement”), is incorporated herein by reference to Exhibit 4.1 of KCSM’s Current Report onForm 8-K, filed on April 25, 2005 (FileNo. 333-08322) is incorporated herein by reference as Exhibit 2.5.
 2.6 Registration Rights Agreement, dated November 21, 2006, between KCSM and Morgan Stanley & Co. Incorporated, Banc of America Securities LLC, BBVA Securities Inc., BMO Capital Markets Corp., and Scotia Capital (USA) Inc. (the “2006 KCSM Registration Rights Agreement”), filed as Exhibit 4.3 to the Company’s Current Report onForm 8-K, filed on November 28, 2006 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 2.6.
 2.7 Registration Rights Agreement, dated May 16, 2007, between KCSM and Morgan Stanley & Co. Incorporated, Banc of America Securities LLC, BBVA Securities Inc., BMO Capital Markets Corp., and Scotia Capital (USA) Inc. (the “2007 KCSM Registration Rights Agreement”), filed as Exhibit 2.5 to the Company’sForm 10-K for the year ended December 31, 2007 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 2.7.


114103


     
Exhibit
 
Description
 
 4.2 Article I, Sections 1, 3 and 11 of Article II, Article V and Article VIII of the Company’s Bylaws. (See Exhibit 3.2).
 4.3 Indenture, dated July 1, 1992, between Kansas City Southern and The Chase Manhattan Bank (the “1992 Indenture”) filed as Exhibit 4 to the Company’s Shelf Registration of $300 million of Debt Securities onForm S-3 filed June 19, 1992 (RegistrationNo. 33-47198) and as Exhibit 4(a) to the Company’sForm S-3 filed March 29, 2003 (RegistrationNo. 33-60192) registering $200 million of Debt Securities, is incorporated herein by reference as Exhibit 4.3.
 4.3.1 Supplemental Indenture, dated December 17, 1999, with respect to the 7% Debentures Due December 15, 2025 issued pursuant to the 1992 Indenture, filed as Exhibit 4.5.4 to the Company’sForm 10-K for the fiscal year ended December 31, 1999 (File No 1-4717), is incorporated herein by reference as Exhibit 4.3.1.
 4.4 Indenture, dated as of September 27, 2000, among the Company, The Kansas City Southern Railway Company (“KCSR”), certain other subsidiaries of the Company and The Bank of New York, as Trustee (the “2000 Indenture”), filed as Exhibit 4.1 to the Company’s Registration Statement onForm S-4 originally filed on January 25, 2001 (RegistrationNo. 333-54262), as amended and declared effective on March 15, 2001 (the “2001S-4 Registration Statement”), is incorporated herein by reference as Exhibit 4.4.
 4.4.1 Supplemental Indenture, dated as of January 29, 2001, to the 2000 Indenture, among the Company, KCSR, certain other subsidiaries of the Company and The Bank of New York, as trustee, filed as Exhibit 4.1.1 to the Company’s 2001S-4 Registration Statement (RegistrationNo. 333-54262), is incorporated herein by reference as Exhibit 4.4.1.
 4.4.2 Second Supplemental Indenture, dated as of June 10, 2005, to the 2000 Indenture, among the Company, KCSR, and certain other subsidiaries of the Company and The Bank of New York, as Trustee, filed as Exhibit 10.1 to the Company’s Quarterly Report onForm 10-Q for the period ended June 30, 2005 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 4.4.2.
 4.4.3 Third Supplemental Indenture, dated as of February 5, 2007, to the 2000 Indenture, among the Company, KCSR, certain other subsidiaries of the Company and the Bank of New York Trust Company, N.A., as Trustee, is attached to thisForm 10-K as Exhibit 4.4.3
 4.4.4 Form of Exchange Note (included as Exhibit B to Exhibit 4.4 of thisForm 10-K).
 4.5 Exchange and Registration Rights Agreement, dated as of September 27, 2000, among the Company, KCSR, and certain other subsidiaries of the Company, filed as Exhibit 4.3 to the Company’s 2001S-4 Registration Statement (RegistrationNo. 333-54262), is incorporated herein by reference as Exhibit 4.5.
 4.6 The Indenture, dated June 12, 2002, among KCSR, the Company and certain subsidiaries of the Company, and U.S. Bank National Association, as Trustee (the “June 12, 2002 Indenture”), filed as Exhibit 4.1 to the 2002S-4 Registration Statement (RegistrationNo. 333-92360), is incorporated herein by reference as Exhibit 4.6.
 4.6.1 Form of Face of Exchange Note, included as Exhibit B to Exhibit 4.7 and filed as Exhibit 4.2 to the 2002S-4 Registration Statement (RegistrationNo. 333-92360), is incorporated herein by reference as Exhibit 4.6.1.
 4.6.2 Supplemental Indenture, dated June 10, 2005, to the June 12, 2002 Indenture among the Company, KCSR, and certain other subsidiaries of the Company, and U.S. Bank National Association, as Trustee, filed as Exhibit 10.2 to the Company’s Quarterly Report onForm 10-Q for the period ended June 30, 2005, is incorporated herein by reference as Exhibit 4.6.2.
 4.6.3 Second Supplemental Indenture, dated as of February 5, 2007, to the June 12, 2002 Indenture among the Company, KCSR, and certain other subsidiaries of the Company, and U.S. Bank National Association, as Trustee, is attached to thisForm 10-K as Exhibit 4.6.3.
 4.7 Certificate of Designations of 4.25% Redeemable Cumulative Convertible Perpetual Preferred Stock, Series C, filed as Exhibit 3.1(b) to the Company’s Quarterly Report onForm 10-Q for the period ended March 31, 2003 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 4.7.
     
Exhibit
 
Description
 
 2.8 Registration Rights Agreement, dated March 30, 2009, between Kansas City Southern de México, S.A. de C.V. (“KCSM”) and Banc of America Securities, LLC, as representative of the placement agents listed therein (“2009 KCSM Registration Rights Agreement”), filed as Exhibit 2.1 to the Company’sForm 10-Q for the quarter ended March 31, 2009 (FileNo. 1-4717), is incorporated by reference as Exhibit 2.8.
 2.9 Registration Rights Agreement, dated January 22, 2010, between KCSM and Banc of America Securities, LLC, as representative of the placement agents listed therein (the “2010 KCSM Registration Rights Agreement”), filed as Exhibit 4.2 to the Company’s Current Report onForm 8-K, filed on January 28, 2010 (FileNo. 1-4717), is incorporated by reference as Exhibit 2.9.
 (3)  Articles of Incorporation and Bylaws Articles of Incorporation
 3.1 Restated Certificate of Incorporation, filed as Exhibit 3.1 to the Company’s Registration Statement onForm S-4 originally filed July 12, 2002 (RegistrationNo. 333-92360), as amended and declared effective on July 30, 2002 (the “2002S-4 Registration Statement”), is incorporated herein by reference as Exhibit 3.1.
 3.2 The Amended and Restated By-Laws of the Company, as amended on November 11, 2008, filed as Exhibit 3.2 to the Company’s Current Report onForm 8-K, filed on November 11, 2008 (FileNo. 1-4717), are incorporated herein by reference as Exhibit 3.2.
 (4)  Instruments Defining the Right of Security Holders, Including Indentures
 4.1 The Fourth, Seventh, Eighth, Eleventh, Twelfth, Thirteenth, Fourteenth, Fifteenth and Sixteenth paragraphs of the Company’s Restated Certificate of Incorporation. (See Exhibit 3.1)
 4.2 Article I, Sections 1, 3 and 11 of Article II, Article V and Article VIII of the Company’s Bylaws. (See Exhibit 3.2)
 4.3 Indenture, dated July 1, 1992, between the Company and The Chase Manhattan Bank (the “1992 Indenture”) filed as Exhibit 4 to the Company’s Shelf Registration of $300 million of 7% Debentures onForm S-3 filed June 19, 1992 (RegistrationNo. 33-47198), is incorporated herein by reference as Exhibit 4.3.
 4.3.1 Supplemental Indenture, dated December 17, 1999, to the 1992 Indenture between the Company and The Chase Manhattan Bank, filed as Exhibit 4.5.4 to the Company’sForm 10-K for the year ended December 31, 1999 (File No 1-4717), is incorporated herein by reference as Exhibit 4.3.1.
 4.4 Indenture, dated September 27, 2000, among the Company, The Kansas City Southern Railway Company (“KCSR”), certain other subsidiaries of the Company and The Bank of New York, as Trustee (the “2000 Indenture”), filed as Exhibit 4.1 to the Company’s Registration Statement onForm S-4 originally filed on January 25, 2001 (RegistrationNo. 333-54262), as amended and declared effective on March 15, 2001 (the “2001S-4 Registration Statement”), is incorporated herein by reference as Exhibit 4.4.
 4.4.1 Supplemental Indenture, dated January 29, 2001, to the 2000 Indenture, among the Company, KCSR, certain other subsidiaries of the Company and The Bank of New York, as trustee, filed as Exhibit 4.1.1 to the Company’s 2001S-4 Registration Statement (RegistrationNo. 333-54262), is incorporated herein by reference as Exhibit 4.4.1.
 4.4.2 Second Supplemental Indenture, dated June 10, 2005, to the 2000 Indenture, among the Company, KCSR, and certain other subsidiaries of the Company and The Bank of New York, as trustee, filed as Exhibit 10.1 to the Company’sForm 10-Q for the quarter ended June 30, 2005 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 4.4.2.
 4.4.3 Third Supplemental Indenture, dated February 5, 2007, to the 2000 Indenture, among the Company, KCSR, certain other subsidiaries of the Company and the Bank of New York Trust Company, N.A., as trustee, filed as Exhibit 4.4.3 to the Company’sForm 10-K for the year ended December 31, 2006 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 4.4.3.
 4.4.4 Fourth Supplemental Indenture, dated May 21, 2008, to the 2000 Indenture, among the Company, KCSR, certain other subsidiaries of the Company and the Bank of New York Trust Company, N.A., as trustee, filed as Exhibit 10.1 to the Company’s Current Report onForm 8-K filed on May 23, 2008 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 4.4.4.
 4.4.5 Form of Exchange Note (included as Exhibit B to Exhibit 4.4 of thisForm 10-K).

115104


     
Exhibit
 
Description
 
 4.8 Registration Rights Agreement dated May 5, 2003 among KCS, Morgan Stanley & Co. Incorporated and Deutsche Bank Securities Inc., filed as Exhibit 4.5 to the Company’s Registration Statement onForm S-3 originally filed on August 1, 2003 (RegistrationNo. 333-107573), as amended and declared effective on October 24, 2003 (the “2003S-3 Registration Statement”), is incorporated herein by reference as Exhibit 4.8.
 4.9 Certificate of Designations of 5.125% Cumulative Convertible Perpetual Preferred Stock, Series D, filed as Exhibit 4.1 to the Company’s Current Report onForm 8-K, filed on December 15, 2005 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 4.9.
 4.10 Indenture, dated as of June 16, 1997, among KCSM, Grupo TFM, S.A. de C.V.(currently known as Grupo KCSM, S.A. de C.V. (“Grupo KCSM”)), as guarantor, The Bank of New York, as trustee, and Bankers Trust Luxembourg, S.A., as a Paying Agent, covering up to $150,000,000 of TFM’s 10.25% Senior Notes due 2007 (the “1997 Indenture”), filed as Exhibit 4.10 to the Company’s Registration Statement onForm S-1 originally filed on November 20, 2006 (RegistrationNo. 333-138831), as amended and declared effective on December 4, 2006 (the “2006S-1 Registration Statement”), is incorporated herein by reference as Exhibit 4.10.
 4.10.1 First Supplemental Indenture, dated as of May 21, 2002, among KCSM, Grupo KCSM, as guarantor, The Bank of New York, as trustee, and Deutsche Bank Luxembourg S.A., as the paying agent, to the 1997 Indenture, filed as Exhibit 4.11 to 2006S-1 Registration Statement (RegistrationNo. 333-138831), is incorporated herein by reference as Exhibit 4.10.1.
 4.10.2 Second Supplemental Indenture, dated November 21, 2006, among Kansas City Southern de México, S.A. de C.V., as issuer, The Bank of New York, as trustee, Deutsche Bank Luxembourg S.A., as paying agent and Grupo KCSM, S.A. de C.V., as guarantor, to the 1997 Indenture, filed as Exhibit 4.1 to the Company’s Current Report onForm 8-K filed on November 28, 2006 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 4.10.2.
 4.11 Indenture, dated as of June 13, 2002, between TFM and The Bank of New York, as Trustee, covering up to $180,000,000 of TFM’s 12.50% Senior Notes due 2012 (the “June 13, 2002 Indenture”), filed as Exhibit 4.12 to the 2006S-1 Registration Statement (RegistrationNo. 333-138831), is incorporated herein by reference as Exhibit 4.11.
 4.12 Indenture, dated as of April 19, 2005, between TFM and The Bank of Nova Scotia Trust Company of New York, covering up to $460,000,000 of TFM’s 93/8% Senior Notes due 2012 (the “2005 Indenture”), filed as Exhibit 4.13 to the 2006S-1 Registration Statement (RegistrationNo. 333-138831), is incorporated herein by reference as Exhibit 4.12.
 4.13 Indenture, dated November 21, 2006, between Kansas City Southern de Mexico, S.A. de C.V. and U.S. Bank National Association, as trustee and paying agent (the “2006 Indenture”), filed as Exhibit 4.2 to the Company’s Current Report onForm 8-K filed on November 28, 2006 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 4.13.
  (10)  Material Contracts
 10.1 Form of Officer Indemnification Agreement attached as Exhibit 10.1 to the Company’sForm 10-K for the fiscal year ended December 31, 2001 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.1.
 10.2 Form of Director Indemnification Agreement attached as Exhibit 10.2 to the Company’sForm 10-K for the fiscal year ended December 31, 2001 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.2.
 10.3 Description of the Company’s 1991 incentive compensation plan, filed as Exhibit 10.4 to the Company’sForm 10-K for the fiscal year ended December 31, 1990 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.3.
 10.4 Directors Deferred Fee Plan, adopted August 20, 1982, as amended and restated effective January 1, 2005, filed as Exhibit 10.7 to the Company’sForm 10-K for the fiscal year ended December 31, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.4.
     
Exhibit
 
Description
 
 4.5 Exchange and Registration Rights Agreement, dated September 27, 2000, among the Company, KCSR, and certain other subsidiaries of the Company, filed as Exhibit 4.3 to the Company’s 2001S-4 Registration Statement (RegistrationNo. 333-54262), is incorporated herein by reference as Exhibit 4.5.
 4.6 Indenture, dated June 12, 2002, among KCSR, the Company and certain subsidiaries of the Company, and U.S. Bank National Association, as trustee, covering up to $200,000,000 of KCSR’s 71/2% Senior Notes due 2009 (the “June 12, 2002 Indenture”), filed as Exhibit 4.1 to the 2002S-4 Registration Statement (RegistrationNo. 333-92360), is incorporated herein by reference as Exhibit 4.6.
 4.6.1 Form of Face of Exchange Note, filed as Exhibit 4.2 to the 2002S-4 Registration Statement (RegistrationNo. 333-92360), is incorporated herein by reference as Exhibit 4.6.1.
 4.6.2 Supplemental Indenture, dated June 10, 2005, to the June 12, 2002 Indenture, among the Company, KCSR, and certain other subsidiaries of the Company, and U.S. Bank National Association, as trustee, filed as Exhibit 10.2 to the Company’sForm 10-Q for the quarter ended June 30, 2005, is incorporated herein by reference as Exhibit 4.6.2.
 4.6.3 Second Supplemental Indenture, dated February 5, 2007, to the June 12, 2002 Indenture, among the Company, KCSR, and certain other subsidiaries of the Company, and U.S. Bank National Association, as trustee, filed as Exhibit 4.6.3 to the Company’sForm 10-K for year ended December 31, 2006, is incorporated herein by reference as Exhibit 4.6.3.
 4.6.4 Third Supplemental Indenture, dated January 27, 2009, to the June 12, 2002 Indenture, among the Company, KCSR, and certain other subsidiaries of the Company, and U.S. Bank National Association, as trustee, filed as Exhibit 10.1 to the Company’s Current Report onForm 8-K filed on February 2, 2009, is incorporated herein by reference as Exhibit 4.6.4.
 4.7 Certificate of Designations of 4.25% Redeemable Cumulative Convertible Perpetual Preferred Stock, Series C, filed as Exhibit 3.1(b) to the Company’sForm 10-Q for the quarter ended March 31, 2003 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 4.7.
 4.8 2003 Registration Rights Agreement (See Exhibit 2.4)
 4.9 Certificate of Designations of 5.125% Cumulative Convertible Perpetual Preferred Stock, Series D, filed as Exhibit 4.1 to the Company’s Current Report onForm 8-K, filed on December 15, 2005 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 4.9.
 4.10 Indenture, dated April 19, 2005, between TFM and The Bank of Nova Scotia Trust Company of New York, covering up to $460,000,000 of TFM’s 93/8% Senior Notes due 2012 (the “2005 KCSM Indenture”), filed as Exhibit 4.13 to the Company’s 2006S-1 Registration Statement (RegistrationNo. 333-138831), is incorporated herein by reference as Exhibit 4.10.
 4.10.1 The 2005 KCSM Registration Rights Agreement. (See Exhibit 2.5)
 4.11 Indenture, dated November 21, 2006, between KCSM and U.S. Bank National Association, as trustee and paying agent, covering up to $175,000,000 of KCSM’s 75/8% Senior Notes due 2013 (the “2006 KCSM Indenture”), filed as Exhibit 4.2 to the Company’s Current Report onForm 8-K, filed on November 28, 2006 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 4.11.
 4.11.1 The 2006 KCSM Registration Rights Agreement. (See Exhibit 2.6)
 4.12 Indenture, dated May 16, 2007, between KCSM and U.S. Bank National Association, as trustee and paying agent, covering up to $165,000,000 of KCSM’s 73/8% Senior Notes due 2014 (the “2007 KCSM Indenture”), filed as Exhibit 4.14 to the Company’sForm 10-K for the year ended December 31, 2007 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 4.12.
 4.12.1 The KCSM 2007 Registration Rights Agreement. (See Exhibit 2.7)
 4.13 Indenture, dated May 30, 2008, among KCSR, the Company and certain subsidiaries of the Company, and U.S. Bank National Association, as trustee, covering up to $275,000,000 of KCSR’s 8% Senior Notes due 2015 (the “May 2008 Indenture”), filed as Exhibit 4.2 to the Company’s Current Report onForm 8-K filed on June 2, 2008 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 4.13.

116105


     
Exhibit
 
Description
 
 10.5 Kansas City Southern 1991 Amended and Restated Stock Option and Performance Award Plan, as amended and restated effective as of May 5, 2005 (the “Amended 1991 Plan”), filed as Exhibit 10.1 to the Company’s Current Report onForm 8-K, filed on May 11, 2005 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.5.
 10.5.1 Form of Non-Qualified Stock Option Award Agreement for employees under the Amended 1991 Plan, filed as Exhibit 10.8.2 to the Company’sForm 10-K for the fiscal year ended December 31, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.5.1.
 10.5.2 Form of Non-Qualified Stock Option Award Agreement for Directors under the Amended 1991 Plan, filed as Exhibit 10.8.3 to the Company’sForm 10-K for the fiscal year ended December 31, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.5.2.
 10.5.3 Form of Non-Qualified Stock Option Award agreement for employees under the Amended 1991 Plan (referencing threshold dates), filed as Exhibit 10.8.4 to the Company’sForm 10-K for the fiscal year ended December 31, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.5.3.
 10.5.4 Form of Restricted Shares Award and Performance Shares Award Agreement under the Amended 1991 Plan, is attached to thisForm 10-K as Exhibit 10.5.4.
 10.5.5 Form of Restricted Shares Award Agreement (graded vesting) under the Amended 1991 Plan, filed as Exhibit 10.2 to the Company’s Current Report onForm 8-K, filed on May 11, 2005 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.5.5.
 10.5.6 Form of Restricted Shares Award Agreement (cliff vesting) under the Amended 1991 Plan, filed as Exhibit 10.1 to the Company’sForm 8-K filed on March 18, 2005 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.5.6.
 10.5.7 Form of Restricted Shares Award Agreement under the Amended 1991 Plan (applicable to restricted shares to be purchased), filed as Exhibit 10.8.7 to the Company’sForm 10-K for the fiscal year ended December 31, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.5.7.
 10.6 Kansas City Southern 401(k) and Profit Sharing Plan (as amended and restated, effective April 1, 2002) (the “Amended 401(k) and Profit Sharing Plan”), filed as Exhibit 10.10.1 to the Company’sForm 10-K for the fiscal year ended December 31, 2002 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.6.
 10.6.1 First Amendment to the Amended 401(k) and Profit Sharing Plan, effective January 1, 2003, filed as Exhibit 10.10.2 to the Company’sForm 10-K for the fiscal year ended December 31, 2002 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.6.1.
 10.6.2 Amendment to the Amended 401(k) and Profit Sharing Plan, dated June 30, 2003 and effective as of January 1, 2001, filed as Exhibit 10.10.3 to the Company’sForm 10-K for the fiscal year ended December 31, 2003 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.6.2.
 10.6.3 Amendment to the Amended 401(k) and Profit Sharing Plan, dated December 3, 2003 and effective as of January 1, 2003, filed as Exhibit 10.10.4 to the Company’sForm 10-K for the fiscal year ended December 31, 2003 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.6.3.
 10.7 Assignment, Consent and Acceptance Agreement, dated August 10, 1999, by and among the Company, DST Systems, Inc. and Stilwell Financial Inc., filed as Exhibit 10.10 to the Company’s 2001S-4 Registration Statement (RegistrationNo. 333-54262), is incorporated herein by reference as Exhibit 10.7.
 10.8 Employment Agreement, as amended and restated January 1, 2001, by and among the Company, KCSR and Michael R. Haverty, filed as Exhibit 10.12 to the Company’sForm 10-K for the fiscal year ended December 31, 2001 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.8.
 10.9 Employment Agreement, dated January 1, 2005, between KCSR and Arthur L. Shoener, filed as Exhibit 10.1 to the Company’s Current Report onForm 8-K/A filed on February 14, 2005 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.9.
 10.10 Employment Agreement, dated May 15, 2006, between KCSR and Patrick J. Ottensmeyer, attached as Exhibit 10.1 to the Company’s Current Report onForm 8-K, filed on June 12, 2006 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.10.
     
Exhibit
 
Description
 
 4.14 Indenture, dated December 18, 2008 among KCSR, the Company and certain subsidiaries of the Company, and U.S. Bank National Association, as trustee, covering up to $190,000,000 of KCSR’s 13% Senior Notes due 2013 (the “December 2008 Indenture”), filed as Exhibit 4.1 to the Company’s Current Report onForm 8-K filed on December 19, 2008 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 4.14.
 4.15 Indenture, dated March 30, 2009, between KCSM and U.S. Bank National Association, as trustee and paying agent, covering up to $200,000,000 of KCSR’s 121/2% Senior Notes due 2016 (the “2009 KCSM Indenture”), filed as Exhibit 4.1 to the Company’sForm 10-Q for the quarter ended March 31, 2009 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 4.15.
 4.15.1 Supplemental Indenture to the 2009 KCSM Indenture, dated November 12, 2009, between KCSM, as issuer, and U.S. Bank National Association, as trustee and paying agent (the “2009 KCSM Supplemental Indenture”), is attached to thisForm 10-K as Exhibit 4.15.1.
 4.15.2 The KCSM 2009 Registration Rights Agreement. (See Exhibit 2.8)
 4.16 Indenture, dated January 22, 2010, between KCSM and U.S. Bank National Association, as trustee and paying agent, covering up to $300,000,000 of KCSM’s 8% Senior Notes due 2018 (the “2010 KCSM Indenture”), filed as Exhibit 4.1 to the Company’s Current Report onForm 8-K, filed on January 28, 2010 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 4.16.
 4.16.1 2010 KCSM Registration Rights Agreement. (See Exhibit 2.9)
 4.17 The Stockholders’ Agreement. (See Exhibit 2.1)
 4.18 The Acquisition Registration Rights Agreement. (See Exhibit 2.2)
 4.19 The 2005 Rights Agreement. (See Exhibit 2.3)
 (10)  Material Contracts.
 10.1 Form of Officer Indemnification Agreement attached as Exhibit 10.1 to the Company’sForm 10-K for the year ended December 31, 2001 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.1.
 10.2 Form of Director Indemnification Agreement attached as Exhibit 10.2 to the Company’sForm 10-K for the year ended December 31, 2001 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.2.
 10.3 Description of the Company’s 1991 incentive compensation plan, filed as Exhibit 10.4 to the Company’sForm 10-K for the year ended December 31, 1990 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.3.
 10.4 Directors Deferred Fee Plan, adopted August 20, 1982, as amended and restated effective January 1, 2005, filed as Exhibit 10.7 to the Company’sForm 10-K for the year ended December 31, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.4.
 10.5 Kansas City Southern 1991 Amended and Restated Stock Option and Performance Award Plan, as amended and restated effective as of August 7, 2007 (the “Amended 1991 Plan”), filed as Exhibit 10.2 to the Company’sForm 10-Q for the quarter ended September 30, 2007 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.5.
 10.5.1 Form of Non-Qualified Stock Option Award Agreement for employees under the Amended 1991 Plan, filed as Exhibit 10.8.2 to the Company’sForm 10-K for the year ended December 31, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.5.1.
 10.5.2 Form of Non-Qualified Stock Option Award Agreement for Directors under the Amended 1991 Plan, filed as Exhibit 10.8.3 to the Company’sForm 10-K for the year ended December 31, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.5.2.
 10.5.3 Form of Non-Qualified Stock Option Award agreement for employees under the Amended 1991 Plan (referencing threshold dates), filed as Exhibit 10.8.4 to the Company’sForm 10-K for the year ended December 31, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.5.3.
 10.5.4 Form of Restricted Shares Award and Performance Shares Award Agreement under the Amended 1991 Plan, filed as Exhibit 10.5.4 to the Company’sForm 10-K for the year ended December 31, 2006 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.5.4.

117106


     
Exhibit
 
Description
 
 10.11 Employment Agreement, dated May 15, 2006, between KCSR, KCS and Daniel W. Avramovich, attached as Exhibit 10.2 to the Company’s Current Report onForm 8-K, filed on June 12, 2006 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.11.
 10.12 Employment Agreement, dated June 7, 2006, between KCSR and Michael K. Borrows, attached as Exhibit 10.1 to the Company’s Current Report onForm 8-K, filed September 15, 2006 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.12.
 10.13 Kansas City Southern Executive Plan, as amended and restated January 1, 2005, filed as Exhibit 10.17 to the Company’sForm 10-K for the fiscal year ended December 31, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.13.
 10.14 The Kansas City Southern Annual Incentive Plan, as approved by the Company’s Compensation Committee on January 17, 2007, is attached to thisForm 10-K as Exhibit 10.14.
 10.15 Security Agreement dated March 30, 2004 from KCS, KCSR and certain other subsidiaries of KCS to The Bank of Nova Scotia as Collateral Agent, filed as Exhibit 10.19.1 to the Company’sForm 10-K for the fiscal year ended December 31, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.15.
 10.15.1 Amendment No. 1 to the Security Agreement among KCSR, KCS, the subsidiary guarantors, the lenders party thereto and The Bank of Nova Scotia, dated as of December 22, 2004, filed as Exhibit 10.1 to the Company’s Current Report onForm 8-K filed on December 29, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.15.1.
 10.15.2 Amended and Restated Credit Agreement, dated April 28, 2006 among KCSR, KCS, the subsidiary guarantors, the lenders party thereto, The Bank of Nova Scotia, Morgan Stanley Senior Funding, Inc., Harris Bank, N.A., LaSalle Bank National Association and Bank of Tokyo-Mitsubishi UFJ Trust Company, and Scotia Capital, filed as Exhibit 10.1 to the Company’sForm 10-Q for the period ended March 31, 2006 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.15.2.
 10.16 The 1992 Indenture. (See Exhibit 4.3).
 10.16.1 The Supplemental Indenture, dated as of December 17, 1999, to the 1992 Indenture. (See Exhibit 4.3.1).
 10.17 The 2000 Indenture. (See Exhibit 4.4).
 10.17.1 The Supplemental Indenture, dated as of January 29, 2001, to the 2000 Indenture. (See Exhibit 4.4.1).
 10.17.2 The Second Supplemental Indenture, dated as of June 10, 2005, to the 2000 Indenture. (See Exhibit 4.4.2).
 10.17.3 The Third Supplemental Indenture, dated as of February 5, 2007, to the 2000 Indenture. (See Exhibit 4.4.3).
 10.18 Intercompany Agreement, dated as of August 16, 1999, between the Company and Stilwell Financial Inc., filed as Exhibit 10.23 to the Company’s 2001S-4 Registration Statement (RegistrationNo. 333-54262), is incorporated herein by reference as Exhibit 10.18.
 10.19 Tax Disaffiliation Agreement, dated as of August 16, 1999, between the Company and Stilwell Financial Inc., filed Exhibit 10.24 to the Company’s 2001S-4 Registration Statement (RegistrationNo. 333-54262), is incorporated herein by reference as Exhibit 10.19.
 10.20 Lease Agreement, as amended, between The Kansas City Southern Railway Company and Broadway Square Partners LLP dated June 26, 2001, filed as Exhibit 10.34 to the Company’sForm 10-K for the fiscal year ended December 31, 2001 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.20.
 10.21 The June 12, 2002 Indenture. (See Exhibit 4.6).
 10.21.2 The Supplemental Indenture, dated as of June 10, 2005, to the June 12, 2002 Indenture. (See Exhibit 4.6.2).
 10.21.3 The Second Supplemental Indenture, dated as of February 5, 2007, to the June 12, 2002 Indenture (See Exhibit 4.6.3).
     
Exhibit
 
Description
 
 10.5.5 Form of Restricted Shares Award Agreement (non-management directors) under the Amended 1991 Plan, filed as Exhibit 10.2 to the Company’s Current Report onForm 8-K, filed on May 11, 2005 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.5.5.
 10.5.6 Form of Restricted Shares Award Agreement (cliff vesting) under the Amended 1991 Plan, filed as Exhibit 10.5.6 to the Company’sForm 10-K for the year ended December 31, 2007 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.5.6.
 10.5.7 Form of Restricted Shares Award Agreement under the Amended 1991 Plan (applicable to restricted shares to be purchased), filed as Exhibit 10.8.7 to the Company’sForm 10-K for the year ended December 31, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.5.7.
 10.5.8 Form of Restricted Shares Award and Performance Shares Award Agreement for Interim Awards under the Amended 1991 Plan, filed as Exhibit 10.5.8 to the Company’sForm 10-K for the year ended December 31, 2007 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.5.8.
 10.5.9 Form of Restricted Shares Award Agreement (consultants) under the Amended 1991 Plan, filed as Exhibit 10.5.9 to the Company’sForm 10-K for the year ended December 31, 2007 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.5.9.
 10.5.10 Form of Restricted Shares Award Agreement (executive plan) under the Amended 1991 Plan, filed as Exhibit 10.5.10 to the Company’sForm 10-K for the year ended December 31, 2007 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.5.10.
 10.5.11 First Amendment to the Kansas City Southern 1991 Amended and Restated Stock Option and Performance Award Plan, effective July 2, 2008, filed as Exhibit 10.1 to the Company’s Current Report onForm 8-K, filed on July 8, 2008 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.5.11.
 10.6 Kansas City Southern 401(k) and Profit Sharing Plan (as amended and restated, effective April 1, 2002) (the “Amended 401(k) and Profit Sharing Plan”), filed as Exhibit 10.10.1 to the Company’sForm 10-K for the year ended December 31, 2002 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.6.
 10.6.1 First Amendment to the Amended 401(k) and Profit Sharing Plan, effective January 1, 2003, filed as Exhibit 10.10.2 to the Company’sForm 10-K for the year ended December 31, 2002 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.6.1.
 10.6.2 Amendment to the Amended 401(k) and Profit Sharing Plan, dated June 30, 2003 and effective as of January 1, 2001, filed as Exhibit 10.10.3 to the Company’sForm 10-K for the year ended December 31, 2003 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.6.2.
 10.6.3 Amendment to the Amended 401(k) and Profit Sharing Plan, dated December 3, 2003 and effective as of January 1, 2003, filed as Exhibit 10.10.4 to the Company’sForm 10-K for the year ended December 31, 2003 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.6.3.
 10.6.4 Amendment to the Amended 401(k) and Profit Sharing Plan, dated and effective August 7, 2007, filed as Exhibit 10.6.4 to the Company’sForm 10-K for the year ended December 31, 2007 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.6.4.
 10.7 Employment Agreement, as amended and restated January 1, 2001, among the Company, KCSR and Michael R. Haverty, filed as Exhibit 10.12 to the Company’sForm 10-K for the year ended December 31, 2001 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.7.
 10.7.1 Addendum to Employment Agreement dated August 18, 2004 between KCSR, the Company and Michael R. Haverty, filed as Exhibit 10.8.1 to the Company’sForm 10-K for the year ended December 31, 2007 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.7.1.
 10.7.2 Amendment to Amended and Restated Employment Agreement effective January 1, 2005 among KCSR, the Company and Michael R. Haverty, filed as Exhibit 10.8.2 to the Company’sForm 10-K for the year ended December 31, 2007 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.7.2.
 10.7.3 Addendum to Employment Agreement effective January 1, 2009, between the Company, KCSR and Michael R. Haverty, filed as Exhibit 10.7.3 to the Company’sForm 10-K for the year ended December 31, 2008 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.7.3.

118107


     
Exhibit
 
Description
 
 10.22 Agreement to Forego Compensation between A. Edward Allinson and the Company, fully executed on March 30, 2001; Loan Agreement between A. Edward Allinson and the Company fully executed on September 18, 2001; and the Promissory Note executed by the Trustees of The A. Edward Allinson Irrevocable Trust Agreement dated, June 4, 2001, Courtney Ann Arnot, A. Edward Allinson III and Bradford J. Allinson, Trustees, as Maker, and the Company, as Holder, filed as Exhibit 10.36 to the Company’sForm 10-K for the fiscal year ended December 31, 2002 (FileNo. 1-4717), are incorporated herein by reference as Exhibit 10.22.
 10.23 Agreement to Forego Compensation between Michael G. Fitt and the Company, fully executed on March 30, 2001; Loan Agreement between Michael G. Fitt and the Company, fully executed on September 7, 2001; and the Promissory Note executed by the Trustees of The Michael G. and Doreen E. Fitt Irrevocable Insurance Trust, Anne E. Skyes, Colin M-D. Fitt and Ian D.G. Fitt, Trustees, as Maker, and the Company, as Holder, filed as Exhibit 10.37 to the Company’sForm 10-K for the fiscal year ended December 31, 2002 (FileNo. 1-4717), are incorporated herein by reference as Exhibit 10.23.
 10.24 Kansas City Southern Employee Stock Ownership Plan (as amended and restated, effective April 1, 2002) (the “Amended Employee Stock Ownership Plan”), filed as Exhibit 10.38 to the Company’sForm 10-K for the fiscal year ended December 31, 2002 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.24.
 10.24.1 Amendment to the Amended Employee Stock Ownership Plan, dated June 30, 2003 and effective as of January 1, 2001, filed as Exhibit 10.38.2 to the Company’sForm 10-K for the fiscal year ended December 31, 2003 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.24.1.
 10.24.2 Amendment to the Amended Employee Stock Ownership Plan, dated December 3, 2003 and effective as of January 1, 2003, filed as Exhibit 10.38.3 to the Company’sForm 10-K for the fiscal year ended December 31, 2003 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.24.2.
 10.25 Placement Agreement, dated April 29, 2003, by and among the Company, Morgan Stanley & Co. Incorporated and Deutsche Bank Securities Inc., filed as Exhibit 10 to the Company’sForm 10-Q for the period ended June 30, 2003 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.25.
 10.26 The Amended Acquisition Agreement. (See Exhibit 2.1).
 10.27 The Stockholders’ Agreement. (See Exhibit 2.2).
 10.28 The Acquisition Registration Rights Agreement. (See Exhibit 2.3).
 10.29 The Consulting Agreement. (See Exhibit 2.4).
 10.30 The Marketing and Services Agreement. (See Exhibit 2.5).
 10.31 The 2005 Rights Agreement. (See Exhibit 2.6).
 10.32 Form of Indemnity Escrow Note (as defined in the Amended Acquisition Agreement), filed as Exhibit 10.2 to the Company’s Current Report onForm 8-K filed December 21, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.32.
 10.33 Form of VAT Escrow Note (as defined in the Amended Acquisition Agreement), filed as Exhibit 10.7 to the Company’s Current Report onForm 8-K filed December 21, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.33.
 10.34 Closing Escrow Agreement by and among KCS, KARA Sub, Inc., KCS Investment I, Ltd., KCS Acquisition Subsidiary, Inc., Caymex Transportation, Inc., Grupo TMM, S.A., TMM Holdings, S.A. de C.V., TMM Multimodal, S.A. de C.V. and The Bank of Nova Scotia Trust Company of New York, filed as Exhibit 10.8 to the Company’s Current Report onForm 8-K filed December 21, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.34.
 10.35 Indemnity Escrow Agreement by and among KCS, KARA Sub, Inc., KCS Investment I, Ltd., Caymex Transportation, Inc., Grupo TMM, S.A., TMM Multimodal, S.A. de C.V. and The Bank of Nova Scotia Trust Company of New York, filed as Exhibit 10.9 to the Company’s Current Report onForm 8-K filed December 21, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.35.
     
Exhibit
 
Description
 
 10.8 Employment Agreement, dated May 15, 2006, between KCSR and Patrick J. Ottensmeyer (the “Ottensmeyer Employment Agreement”), attached as Exhibit 10.1 to the Company’s Current Report onForm 8-K, filed on June 12, 2006 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.8.
 10.8.1 Amendment No. 1 to the Ottensmeyer Employment Agreement, dated May 7, 2007, filed as Exhibit 10.4 to the Company’sForm 10-Q for the quarter ended June 30, 2007 (FileNo. 1-4717), is incorporated by reference as Exhibit 10.8.1.
 10.8.2 Addendum to Employment Agreement effective January 1, 2009, between the Company, KCSR and Patrick J. Ottensmeyer, filed as Exhibit 10.8.2 to the Company’sForm 10-K for the year ended December 31, 2008 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.8.2.
 10.9 Kansas City Southern Executive Plan, as amended and restated November 11, 2008, filed as Exhibit 10.10 to the Company’sForm 10-K for the year ended December 31, 2008 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.9.
 10.10 The Amended and Restated Kansas City Southern Annual Incentive Plan, as approved by the Company’s Compensation and Organization Committee on November 11, 2008, filed as Exhibit 10.11 to the Company’sForm 10-K for the year ended December 31, 2008 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.10.
 10.11 Security Agreement, dated March 30, 2004, from KCS, KCSR and certain other subsidiaries of KCS to The Bank of Nova Scotia as Collateral Agent, filed as Exhibit 10.19.1 to the Company’sForm 10-K for the year ended December 31, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.11.
 10.11.1 Amendment No. 1 to the Security Agreement, dated December 22, 2004, among KCSR, KCS, the subsidiary guarantors, the lenders party thereto and The Bank of Nova Scotia, filed as Exhibit 10.1 to the Company’s Current Report onForm 8-K, filed on December 29, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.11.1.
 10.11.2 Amendment No. 1 to the Security Agreement, dated as of November 29, 2006, among KCSR, KCS, the subsidiary guarantors, The Bank of Nova Scotia, as collateral agent and administrative agent, and the lenders party thereto, filed as Exhibit 10.15.2 to the Company’sForm 10-K for the year ended December 31, 2007 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.11.2.
 10.11.3 Amended and Restated Credit Agreement, dated April 28, 2006, among KCSR, KCS, the subsidiary guarantors, the lenders party thereto, The Bank of Nova Scotia, Morgan Stanley Senior Funding, Inc., Harris Bank, N.A., LaSalle Bank National Association and Bank of Tokyo-Mitsubishi UFJ Trust Company, and Scotia Capital, filed as Exhibit 10.1 to the Company’sForm 10-Q for the quarter ended March 31, 2006 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.11.3.
 10.11.4 Amendment No. 1 to the Amended and Restated Credit Agreement, dated May 31, 2007, among KCSR, KCS, the subsidiary guarantors, the lenders party thereto and The Bank of Nova Scotia, filed as Exhibit 10.1 to the Company’sForm 10-Q for the quarter ended June 30, 2007 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.11.4.
 10.12 The 1992 Indenture. (See Exhibit 4.3)
 10.12.1 The Supplemental Indenture, dated December 17, 1999, to the 1992 Indenture. (See Exhibit 4.3.1)
 10.13 The 2000 Indenture. (See Exhibit 4.4)
 10.13.1 The Supplemental Indenture, dated January 29, 2001, to the 2000 Indenture. (See Exhibit 4.4.1)
 10.13.2 The Second Supplemental Indenture, dated June 10, 2005, to the 2000 Indenture. (See Exhibit 4.4.2)
 10.13.3 The Third Supplemental Indenture, dated February 5, 2007, to the 2000 Indenture. (See Exhibit 4.4.3)
 10.13.4 The Fourth Supplemental Indenture, dated December 18, 2008, to the 2000 Indenture. (See Exhibit 4.4.4)
 10.14 Intercompany Agreement, dated August 16, 1999, between the Company and Stilwell Financial Inc., filed as Exhibit 10.23 to the Company’s 2001S-4 Registration Statement (RegistrationNo. 333-54262), is incorporated herein by reference as Exhibit 10.14.

119108


     
Exhibit
 
Description
 
 10.36 VAT Escrow Agreement by and among KCS, KARA Sub, Inc., KCS Investment I, Ltd., KCS Acquisition Subsidiary, Inc., Caymex Transportation, Inc., Grupo TMM, S.A., TMM Holdings, S.A. de C.V., TMM Multimodal, S.A. de C.V. and The Bank of Nova Scotia Trust Company of New York, filed as Exhibit 10.10 to the Company’s Current Report onForm 8-K filed December 21, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.36.
 10.37 Consulting Compensation Escrow Agreement by and among KCS, Jose F. Serrano International Business, S.A. de C.V. and The Bank of Nova Scotia Trust Company of New York, filed as Exhibit 10.11 to the Company’s Current Report onForm 8-K filed December 21, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.37.
 10.38 Agreement of Assignment and Assumption of Rights, and Agency Agreement with Undisclosed Principal, Duties and Obligations, filed as Exhibit 10.12 to the Company’s Current Report onForm 8-K filed December 21, 2004 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.38.
 10.39 Underwriting Agreement, dated December 5, 2005, between the Company and Morgan Stanley & Co. Incorporated, filed as Exhibit 99.2 to the Company’s Current Report onForm 8-K, filed December 6, 2005 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.39.
 10.40 Underwriting Agreement, dated December 5, 2005, among the Company, Grupo TMM, S.A. and Morgan Stanley & Co. Incorporated, filed as Exhibit 99.3 to the Company’s Current Report onForm 8-K, filed December 6, 2005 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.40.
 10.41 Transaction Agreement, dated December 1, 2005, among the Company, KCSR, Norfolk Southern Corporation and The Alabama Great Southern Railroad Company (the “Transaction Agreement”), filed as Exhibit 10.46 to the Company’sForm 10-K for the fiscal year ended December 31, 2005 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.41.
 10.41.1 Amendment No. 1 to the Transaction Agreement dated as of January 17, 2006, filed as Exhibit 10.47 to the Company’sForm 10-K for the fiscal year ended December 31, 2005 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.41.1.
 10.41.2 Amendment No. 2 to the Transaction Agreement dated as of May 1, 2006, filed as Exhibit 10.2 to the Company’s Quarterly Report onForm 10-Q for the period ended March 31, 2006 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.41.2.
 10.42 Participation Agreement, dated as of December 20, 2005, among KCSR, KCSRTrust 2005-1 (acting through Wilmington Trust Company, as owner trustee) (“2005 Trust”), GS Leasing (KCSR2005-1) LLC, Wells Fargo Bank Northwest, National Association, Export Development Canada, and KfW, filed as Exhibit 10.48 to the Company’sForm 10-K for the fiscal year ended December 31, 2005 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.42.
 10.43 Equipment and Lease Agreement, dated as of December 20, 2005, by and between KCSR and the 2005 Trust, filed as Exhibit 10.49 to the Company’sForm 10-K for the fiscal year ended December 31, 2005 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.43.
 10.44 Participation Agreement, dated as of August 2, 2006, among KCSR, KCSRTrust 2006-1 (acting through Wilmington Trust Company, as owner trustee) (“2006 Trust”), HSH Nordbank AG, New York Branch, Wells Fargo Bank Northwest, National Association, and DVB Bank AG, filed as Exhibit 10.4 to the Company’sForm 10-Q for the period ended September 30, 2006 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.44.
 10.45 Equipment and Lease Agreement, dated as of August 2, 2006, by and between KCSR and the 2006 Trust, filed as Exhibit 10.4 to the Company’sForm 10-Q for the period ended September 30, 2006 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.45.
 10.46 Limited Liability Company Agreement of Meridian Speedway, LLC by and between the Alabama Great Southern Railroad Company and Kansas City Southern dated May 1, 2006, filed as Exhibit 10.3 to the Company’sForm 10-Q for the period ended March 31, 2006, (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.46.
     
Exhibit
 
Description
 
 10.15 Tax Disaffiliation Agreement, dated August 16, 1999, between the Company and Stilwell Financial Inc., filed as Exhibit 10.24 to the Company’s 2001S-4 Registration Statement (RegistrationNo. 333-54262), is incorporated herein by reference as Exhibit 10.15.
 10.16 Lease Agreement, originally dated June 26, 2001 and amended March 26, 2002, between KCSR and Broadway Square Partners LLP, filed as Exhibit 10.34 to the Company’sForm 10-K for the year ended December 31, 2001 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.16.
 10.17 The June 12, 2002 Indenture. (See Exhibit 4.6)
 10.17.1 The Supplemental Indenture, dated June 10, 2005, to the June 12, 2002 Indenture. (See Exhibit 4.6.2)
 10.17.2 The Second Supplemental Indenture, dated February 5, 2007, to the June 12, 2002 Indenture. (See Exhibit 4.6.3)
 10.17.3 The Third Supplemental Indenture, dated January 27, 2009, to the June 12, 2002 Indenture. (See Exhibit 4.6.4)
 10.18 Agreement to Forego Compensation between A. Edward Allinson and the Company, fully executed on March 30, 2001; Loan Agreement between A. Edward Allinson and the Company fully executed on September 18, 2001; and the Promissory Note executed by the Trustees of The A. Edward Allinson Irrevocable Trust Agreement dated, June 4, 2001, Courtney Ann Arnot, A. Edward Allinson III and Bradford J. Allinson, Trustees, as Maker, and the Company, as Holder, filed as Exhibit 10.36 to the Company’sForm 10-K for the year ended December 31, 2002 (FileNo. 1-4717), are incorporated herein by reference as Exhibit 10.18.
 10.19 Agreement to Forego Compensation between Michael G. Fitt and the Company, fully executed on March 30, 2001; Loan Agreement between Michael G. Fitt and the Company, fully executed on September 7, 2001; and the Promissory Note executed by the Trustees of The Michael G. and Doreen E. Fitt Irrevocable Insurance Trust, Anne E. Skyes, Colin M-D. Fitt and Ian D.G. Fitt, Trustees, as Maker, and the Company, as Holder, filed as Exhibit 10.37 to the Company’sForm 10-K for the year ended December 31, 2002 (FileNo. 1-4717), are incorporated herein by reference as Exhibit 10.19.
 10.20 Kansas City Southern Employee Stock Ownership Plan, as amended and restated, effective April 1, 2002, (the “Amended Employee Stock Ownership Plan”), filed as Exhibit 10.38 to the Company’sForm 10-K for the year ended December 31, 2002 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.20.
 10.20.1 Amendment to the Amended Employee Stock Ownership Plan, dated June 30, 2003 and effective as of January 1, 2001, filed as Exhibit 10.38.2 to the Company’sForm 10-K for the year ended December 31, 2003 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.20.1.
 10.20.2 Amendment to the Amended Employee Stock Ownership Plan, dated December 3, 2003 and effective as of January 1, 2003, filed as Exhibit 10.38.3 to the Company’sForm 10-K for the year ended December 31, 2003 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.20.2.
 10.20.3 Amendment to the Amended Employee Stock Ownership Plan, dated and effective October 29, 2007, filed as Exhibit 10.24.3 to the Company’sForm 10-K for the year ended December 31, 2007 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.20.3.
 10.21 Transaction Agreement, dated December 1, 2005, among the Company, KCSR, Norfolk Southern Corporation and The Alabama Great Southern Railroad Company (the “Transaction Agreement”), filed as Exhibit 10.46 to the Company’sForm 10-K for the year ended December 31, 2005 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.21.
 10.21.1 Amendment No. 1 to the Transaction Agreement, dated January 17, 2006, filed as Exhibit 10.47 to the Company’sForm 10-K for the year ended December 31, 2005 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.21.1.
 10.21.2 Amendment No. 2 to the Transaction Agreement, dated May 1, 2006, filed as Exhibit 10.2 to the Company’sForm 10-Q for the quarter ended March 31, 2006 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.21.2.

120109


     
Exhibit
 
Description
 
 10.47 Underwriting Agreement, dated December 4, 2006, among the Company, Morgan Stanley & Co. Incorporated, and Grupo TMM, S.A., filed as Exhibit 1.1 to the Company’s Current Report onForm 8-K, filed December 5, 2006 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.47.
 10.48 The 1997 Indenture. (See Exhibit 4.10).
 10.48.1 The First Supplemental Indenture, dated as of May 21, 2002, to the 1997 Indenture. (See Exhibit 4.10.1).
 10.48.2 The Second Supplemental Indenture, dated November 21, 2006, to the 1997 Indenture. (See Exhibit 4.10.2).
 10.49 The June 13, 2002 Indenture. (See Exhibit 4.11).
 10.51 The 2006 Indenture. (See Exhibit 4.13).
 10.52 The 2006 Registration Rights Agreement. (See Exhibit 2.7).
 10.53 Credit Agreement, dated October 24, 2005, among the Company, as borrower, Arrendadora TFM, S.A. de C.V., as guarantor, Bank of America, N.A. as administrative agent, BBVA Bancomer, as collateral agent, and BBVA Securities, Inc. and Banc of America Securities, LLC as arrangers (the “2005 Credit Agreement”), filed as Exhibit 10.9 to KCSM’s Registration Statement onForm S-4 originally filed on November 8, 2005 (RegistrationNo. 333-129566), is attached to thisForm 10-K as Exhibit 10.53.
 10.53.1 Amendment No. 1 and Waiver No. 1, dated April 7, 2006, to the 2005 Credit Agreement, filed as Exhibit 10.10 to KCSM’sForm 10-K for the fiscal year ended December 31, 2005, is attached to thisForm 10-K as Exhibit 10.53.1.
 10.54 Lease Agreement between KCSR and Louisiana Southern Railroad, Inc., dated September 25, 2005, filed as Exhibit 10.5 to the Company’sForm 10-Q for the period ended June 30, 2005, is incorporated herein by reference as Exhibit 10.54.
 10.55 Lease Agreement between KCSR and Alabama Southern Railroad, Inc., dated September 25, 2005, filed as Exhibit 10.6 to the Company’sForm 10-Q for the period ended June 30, 2005, is incorporated herein by reference as Exhibit 10.55.
 10.56 Lease Agreement between KCSR and Arkansas Southern Railroad, Inc., dated September 25, 2005, filed as Exhibit 10.7 to the Company’sForm 10-Q for the period ended June 30, 2005, is incorporated herein by reference as Exhibit 10.56.
 10.57 Lease Agreement between KCSR and Arkansas Southern Railroad, Inc., dated September 25, 2005, filed as Exhibit 10.8 to the Company’sForm 10-Q for the period ended June 30, 2005, is incorporated herein by reference as Exhibit 10.57.
 10.58 Lease Agreement between KCSR and Louisiana Southern Railroad, Inc., dated September 25, 2005, filed as Exhibit 10.9 to the Company’sForm 10-Q for the period ended June 30, 2005, is incorporated herein by reference as Exhibit 10.58.
  (12)  Statements Re Computation of Ratios
 12.1 The Computation of Ratio of Earnings to Fixed Charges prepared pursuant to Item 601(b)(12) ofRegulation S-K is attached to thisForm 10-K as Exhibit 12.1.
  (21)  Subsidiaries of the Company
 21.1 The list of the Subsidiaries of the Company prepared pursuant to Item 601(b)(21) ofRegulation S-K is attached to thisForm 10-K as Exhibit 21.1.
  (23)  Consents of Experts and Counsel
 23.1 Consent of KPMG LLP is attached to thisForm 10-K as Exhibit 23.1.
 23.2 Consent of PricewaterhouseCoopers is attached to thisForm 10-K as Exhibit 23.2.
 23.3 Consent of KPMG Cárdenas Dosal, S.C. is attached to thisForm 10-K as Exhibit 23.3.
  (24)  Power of Attorney (included on the signature page)
 31.1 Certification of Michael R. Haverty, Chief Executive Officer of the Company, is attached to thisForm 10-K as Exhibit 31.1.
     
Exhibit
 
Description
 
 10.22 Participation Agreement, dated December 20, 2005, among KCSR, KCSRTrust 2005-1 (acting through Wilmington Trust Company, as owner trustee) (“2005 Trust”), GS Leasing (KCSR2005-1) LLC, Wells Fargo Bank Northwest, National Association, Export Development Canada, and KfW, filed as Exhibit 10.48 to the Company’sForm 10-K for the year ended December 31, 2005 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.22.
 10.23 Equipment Lease Agreement, dated December 20, 2005, between KCSR and the KCSRTrust 2005-1, filed as Exhibit 10.49 to the Company’sForm 10-K for the year ended December 31, 2005 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.23.
 10.24 Participation Agreement, dated August 2, 2006, among KCSR, KCSRTrust 2006-1 (acting through Wilmington Trust Company, as owner trustee) (“2006 Trust”), HSH Nordbank AG, New York Branch, Wells Fargo Bank Northwest, National Association, and DVB Bank AG, filed as Exhibit 10.4 to the Company’sForm 10-Q for the quarter ended September 30, 2006 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.24.
 10.25 Equipment Lease Agreement, dated August 2, 2006, between KCSR and the KCSRTrust 2006-1, filed as Exhibit 10.41 to the Company’sForm 10-Q for the quarter ended September 30, 2006 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.25.
 10.26 Limited Liability Company Agreement of Meridian Speedway, LLC, dated May 1, 2006, between the Alabama Great Southern Railroad Company and the Company, filed as Exhibit 10.3 to the Company’sForm 10-Q for the quarter ended March 31, 2006, (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.26.
 10.27 Underwriting Agreement, dated December 4, 2006, among the Company, Morgan Stanley & Co. Incorporated, and Grupo TMM, S.A., filed as Exhibit 1.1 to the Company’s Current Report onForm 8-K, filed on December 5, 2006 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.27.
 10.28 The 2005 Indenture. (See Exhibit 4.10)
 10.29 The 2006 Indenture. (See Exhibit 4.11)
 10.30 Lease Agreement, dated September 25, 2005, between KCSR and Louisiana Southern Railroad, Inc., filed as Exhibit 10.5 to the Company’sForm 10-Q for the quarter ended June 30, 2005 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.30.
 10.31 Lease Agreement, dated September 25, 2005, between KCSR and Alabama Southern Railroad, Inc., filed as Exhibit 10.6 to the Company’sForm 10-Q for the quarter ended June 30, 2005 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.31.
 10.32 Lease Agreement, dated September 25, 2005, between KCSR and Arkansas Southern Railroad, Inc., filed as Exhibit 10.7 to the Company’sForm 10-Q for the quarter ended June 30, 2005 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.32.
 10.33 Lease Agreement, dated September 25, 2005, between KCSR and Arkansas Southern Railroad, Inc., filed as Exhibit 10.8 to the Company’sForm 10-Q for the quarter ended June 30, 2005 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.33.
 10.34 Lease Agreement, dated September 25, 2005, between KCSR and Louisiana Southern Railroad, Inc., filed as Exhibit 10.9 to the Company’sForm 10-Q for the quarter ended June 30, 2005 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.34.
 10.35 Equipment Lease Agreement, dated April 4, 2007, between KCSR and High Ridge Leasing, LLC, filed as Exhibit 10.2 to the Company’sForm 10-Q for the quarter ended March 31, 2007 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.35.
 10.36 2007 KCSM Indenture. (See Exhibit 4.12)
 10.37 Credit Agreement, dated June 14, 2007, among KCSM as borrower, Arrendadora KCSM as guarantor, Bank of America, N.A. as administrative agent, and the other lenders named therein (the “2007 KCSM Credit Agreement”), filed as Exhibit 10.2 to the Company’sForm 10-Q for the quarter ended June 30, 2007 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.37.
 10.37.1 Amendment No. 1 and Waiver No. 1, dated December 19, 2007, to the 2007 KCSM Credit Agreement, filed as Exhibit 10.49.1 to the Company’sForm 10-K for the year ended December 31, 2007 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.37.1.

121110


     
Exhibit
 
Description
 
 31.2 Certification of Patrick J. Ottensmeyer, Chief Financial Officer of the Company, is attached to thisForm 10-K as Exhibit 31.2.
  (32)  Section 1350 Certifications
 32.1 Certification pursuant to 18 U.S.C. Section 1350 of Michael R. Haverty, Chief Executive Officer of the Company, is attached to thisForm 10-K as Exhibit 32.1.
 32.2 Certification pursuant to 18 U.S.C. Section 1350 of Patrick J. Ottensmeyer, Chief Financial Officer of the Company, is attached to thisForm 10-K as Exhibit 32.2.
  (99)  Additional Exhibits 
 99.1 The consolidated balance sheet of Grupo TFM, S.A. de C.V. and subsidiaries as of December 31, 2004 and 2005 and the related consolidated statements of income, cash flows and changes in stockholders’ equity for the two years in the period ended December 31, 2004, and the consolidated statements of income, cash flows and changes in stockholders’ equity for the three months ended March 31, 2005 (“Predecessor”) and the nine months ended December 31, 2005 (“Successor”) including the notes thereto and the reports of the independent registered public accounting firms thereon, attached to the 2006S-1 Registration Statement (RegistrationNo. 333-138831) as Exhibit 99.1, is incorporated herein by reference as Exhibit 99.1.
     
Exhibit
 
Description
 
 10.37.2 Amendment No. 2, dated as of December 19, 2008, to the 2007 KCSM Credit Agreement, filed as Exhibit 10.43.2 to the Company’sForm 10-K for the year ended December 31, 2008 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.37.2.
 10.37.3 Amendment No. 3 and Waiver No. 2 dated as of February 11, 2009, to the 2007 KCSM Credit Agreement, filed as Exhibit 10.43.3 to the Company’sForm 10-K for the year ended December 31, 2008 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.37.3.
 10.38 Settlement Agreement, dated September 21, 2007, among KCS and Grupo TMM, S.A.B., TMM Logistics, S.A. de C.V., and VEX Asesores Corporativos, S.A. de C.V. (formerly José F. Serrano International Business, S.A. de C.V.), filed as Exhibit 10.1 to the Company’sForm 10-Q for the quarter ended September 30, 2007 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.38.
 10.39 Participation Agreement, dated September 27, 2007, among KCSR, KCSR2007-1 Statutory Trust (acting through U.S. Bank Trust National Association, as owner trustee) (“2007 Trust”), U.S. Bank Trust National Association, GS Leasing (KCSR2007-1) LLC, Wilimington Trust Company, and KfW, filed as Exhibit 10.51 to the Company’sForm 10-K for the year ended December 31, 2007 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.39.
 10.40 Equipment Lease Agreement, dated September 27, 2007, between KCSR and the KCSR2007-1 Statutory Trust, filed as Exhibit 10.52 to the Company’sForm 10-K for the year ended December 31, 2007 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.40.
 10.41 Kansas City Southern 2008 Stock Option and Performance Award Plan (the “2008 Plan”), filed as Exhibit 10.1 to the Company’s Current Report onForm 8-K, filed on October 7, 2008 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.41.
 10.41.1 Form of Non-Qualified Stock Option Award Agreement under the 2008 Plan, filed as Exhibit 10.47.1 to the Company’sForm 10-K for the year ended December 31, 2008 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.41.1.
 10.41.2 Form of Restricted Shares Award Agreement (cliff vesting) under the 2008 Plan, filed as Exhibit 10.47.2 to the Company’sForm 10-K for the year ended December 31, 2008 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.41.2.
 10.41.3 Form of Restricted Shares Award Agreement (graded vesting) under the 2008 Plan, filed as Exhibit 10.47.3 to the Company’sForm 10-K for the year ended December 31, 2008 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.41.3.
 10.41.4 Form of Restricted Shares Award Agreement under the 2008 Plan (applicable to restricted shares to be purchased), filed as Exhibit 10.47.4 to the Company’sForm 10-K for the year ended December 31, 2008 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.41.4.
 10.41.5 Form of Restricted Shares Award and Performance Shares Award Agreement under the 2008 Plan, filed as Exhibit 10.47.5 to the Company’sForm 10-K for the year ended December 31, 2008 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.41.5.
 10.42 The May 2008 Indenture. (See Exhibit 4.13)
 10.43 The December 2008 Indenture. (See Exhibit 4.14)
 10.44 Employment Agreement dated May 1, 2000, between Kansas City Southern Industries, Inc. and Scott E. Arvidson, filed as Exhibit 10.50 to the Company’sForm 10-K for the year ended December 31, 2008 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.44.
 10.44.1 Amendment to Employment Agreement dated January 1, 2001, between Kansas City Southern Industries, Inc. and Scott E. Arvidson, filed as Exhibit 10.50.1 to the Company’sForm 10-K for the year ended December 31, 2008 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.44.1.
 10.44.2 Addendum to Employment Agreement dated August 18, 2004, between the Company and Scott E. Arvidson, filed as Exhibit 10.50.2 to the Company’sForm 10-K for the year ended December 31, 2008 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.44.2.
 10.44.3 Addendum to Employment Agreement effective January 1, 2009, between the Company, KCSR and Scott E. Arvidson, filed as Exhibit 10.50.3 to the Company’sForm 10-K for the year ended December 31, 2008 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.44.3.

122111


     
Exhibit
 
Description
 
 10.45 Participation Agreement (KCSR2008-1) dated as of April 1, 2008, among KCSR, KCSR2008-1 Statutory Trust (acting through U.S. Bank Trust National Association, not in its individual capacity, but solely as Owner Trustee) (“KCSR2008-1 Statutory Trust”), U.S. Bank Trust National Association (only in its individual capacity as expressly provided therein), MetLife Capital, Limited Partnership (as Owners Participant), Wilmington Trust Company (as Indenture Trustee) and Export Development Canada (as Loan Participant), filed as Exhibit 10.2 to the Company’sForm 10-Q for the quarter ended March 31, 2008 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.45.
 10.46 Equipment Lease Agreement (KCSR2008-1) dated as of April 1, 2008, between KCSR2008-1 Statutory Trust (as Lessor) and KCSR (as Lessee), filed as Exhibit 10.3 to the Company’sForm 10-Q for the quarter ended March 31, 2008 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.46.
 10.47 Confidential Severance Agreement and Full and General Release dated June 26, 2008, between KCSR and Arthur L. Shoener, filed as Exhibit 10.1 to the Company’s Current Report onForm 8-K filed on July 2, 2008 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.47.
 10.48 Employment Agreement, dated September 10, 2008, between KCSR and David Starling filed as Exhibit 10.1 to the Company’s Current Report onForm 8-K, filed on September 15, 2008 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.48.
 10.49 Loan and Security Agreement, dated February 26, 2008, between KCSM and Export Development Canada, filed as Exhibit 10.1 to the Company’sForm 10-Q for the quarter ended March 31, 2008 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.49.
 10.50 Loan Agreement, dated as of September 24, 2008, between KCSM and DVB Bank AG, filed as Exhibit 10.1 to the Company’sForm 10-Q for the quarter ended September 30, 2008 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.50.
 10.51 Underwriting Agreement, dated as of May 27, 2008, among KCSR, Morgan Stanley & Co. Incorporated, and Banc of America Securities LLC, as representatives of the underwriters listed therein, filed as Exhibit 4.1 to the Company’s Current Report onForm 8-K, filed on June 2, 2008 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.51.
 10.52 Underwriting Agreement, dated as of December 15, 2008, among KCSR, Morgan Stanley & Co. Incorporated, and Banc of America Securities LLC, as representatives of the underwriters listed therein, filed as Exhibit 1.1 to the Company’s Current Report onForm 8-K, filed on December 19, 2008 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.52.
 10.53 2009 KCSM Indenture. (See Exhibit 4.15)
 10.54 Amended and Restated Kansas City Southern Annual Incentive Plan, as approved by the Company’s Compensation and Organization Committee on March 10, 2009, filed as Exhibit 10.3 to the Company’sForm 10-Q for the quarter ended March 31, 2009 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.54.
 10.55 English translation of the Employment Agreement, dated April 20, 2006, between Kansas City Southern de México, S.A. de C.V. and José Guillermo Zozaya Delano, filed as Exhibit 10.4 to the Company’sForm 10-Q for the quarter ended March 31, 2009 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 10.55.
 10.56 ATM Equity Offeringsm Sales Agreement dated as of April 27, 2009, between the Company and Merrill Lynch, Pierce, Fenner & Smith, Incorporated, filed as Exhibit 10.1 to the Company’s Current Report onForm 8-K on May 1, 2009 (FileNo. 1-4717) is incorporated hereby by reference as Exhibit 10.56.
 10.57 Common Stock Purchase Agreement, dated July 31, 2009, between Kansas City Southern and the Investors, filed as Exhibit 10.1 to the Company’s Current Report onForm 8-K, filed on August 4, 2009 (FileNo. 1-4717) is incorporated herein by reference as Exhibit 10.57.
 10.58 Confidential Separation Agreement and Full and General Release dated September 3, 2009, between KCSR and Scott E. Arvidson, filed as Exhibit 10.1 to the Company’s Current Report onForm 8-K, filed on September 10, 2009 (FileNo. 1-4717) is incorporated herein by reference as Exhibit 10.58.

112


     
Exhibit
 
Description
 
 10.59 Employment Agreement, dated September 28, 2009, between KCSR and Mary K. Stadler, filed as Exhibit 10.1 to the Company’s Current Report onForm 8-K, filed on October 2, 2009 (FileNo. 1-4717) is incorporated herein by reference as Exhibit 10.59.
 10.60 The 2009 KCSM Supplemental Indenture. (See Exhibit 4.15.1)
 10.61 2010 KCSM Indenture. (See Exhibit 4.16)
 10.62 Placement Agreement, dated January 7, 2010, between KCSM and Banc of America Securities LLC, as representative of the placement agents listed therein, filed as Exhibit 10.1 to KCSM’s Current Report onForm 8-K, filed on January 13, 2010 (FileNo. 333-08322), is incorporated herein by reference as Exhibit 10.62.
 10.63 Employment Agreement, dated August 15, 2008, between KCSR and Michael W. Upchurch, filed as Exhibit 10.1 to the Company’s Current Report onForm 8-K, filed on October 22, 2008 (FileNo. 1-4717) is incorporated herein by reference as Exhibit 10.63.
 (12)  Statements Re Computation of Ratios
 12.1 The Computation of Ratio of Earnings to Fixed Charges prepared pursuant to Item 601(b)(12) ofRegulation S-K is attached to thisForm 10-K as Exhibit 12.1.
 (18)  Letter Re Change in Accounting Principles
 18.1 Letter regarding change in accounting principles, filed as Exhibit 18.1 to the Company’sForm 10-Q for the quarter ended September 30, 2009 (FileNo. 1-4717), is incorporated herein by reference as Exhibit 18.1.
 (21)  Subsidiaries of the Company
 21.1 The list of the Subsidiaries of the Company prepared pursuant to Item 601(b)(21) ofRegulation S-K is attached to thisForm 10-K as Exhibit 21.1.
 (23)  Consents of Experts and Counsel
 23.1 Consent of KPMG LLP is attached to thisForm 10-K as Exhibit 23.1.
 (24)  Power of Attorney (included on the signature page).
 (31)  Section 302 Certifications
 31.1 Certification of Michael R. Haverty, Chief Executive Officer of the Company, is attached to thisForm 10-K as Exhibit 31.1.
 31.2 Certification of Michael W. Upchurch, Chief Financial Officer of the Company, is attached to thisForm 10-K as Exhibit 31.2.
 (32)  Section 1350 Certifications
 32.1 Certification of Michael R. Haverty, Chief Executive Officer of the Company, furnished pursuant to 18 U.S.C. Section 1350, is attached to thisForm 10-K as Exhibit 32.1.
 32.2 Certification of Michael W. Upchurch, Chief Financial Officer of the Company, furnished pursuant to 18 U.S.C. Section 1350, is attached to thisForm 10-K as Exhibit 32.2.
 (101)  Interactive Data File
 101  The following financial information from Kansas City Southern’s Annual Report onForm 10-K for the year ended December 31, 2009, formatted in XBRL (Extensible Business Reporting Language) includes:(i) Consolidated Statements of Income for the years ended December 31, 2009, 2008 and 2007, (ii) Consolidated Balance Sheets as of December 31, 2009 and December 31, 2008, (iii) Consolidated Statements of Cash Flows for the years ended December 31, 2009, 2008, and 2007, (iv) Consolidated Statements of Changes in Equity and Comprehensive Income for the Three Years ended December 2009, 2008, and 2007 and(v) the Notes to Consolidated Financial Statements, tagged as blocks of text

113


SIGNATURES
 
Pursuant to the requirements of Section 13 or 15 (d) of the Securities Exchange Act of 1934, the Company has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
 
Kansas City Southern
 
 By: /s/  Michael R. Haverty
Michael R. Haverty
Chairman of the Board and
Chief Executive Officer and Director
February 26, 200710, 2010
 
POWER OF ATTORNEY
 
Know all people by these presents, that each person whose signature appears below constitutes and appoints Michael R. Haverty and Patrick J. Ottensmeyer,Michael W. Upchurch, and each of them, his or her true and lawfulattorneys-in-fact and agents, with full power of substitution and resubstitution, for him or her and in his or her name, place and stead, in any and all capacities, to sign any amendments to this annual report onForm 10-K, and to file the same, with all exhibits thereto, with the Securities and Exchange Commission, granting unto saidattorneys-in-fact and agents, and each of them, full power and authority to do and perform each and every act and thing requisite and necessary to be done in and about the premises, as fully and to all intents and purposes as he or she might or could do in person, hereby confirming all that saidattorneys-in-fact and agents or either of them, or his or their substitute or substitutes, may lawfully do or cause to be done by virtue hereof.
 
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Company and in the capacities indicated on February 26, 2007.10, 2010.
 
     
Signature
 
Capacity
 
/s/  Michael R. Haverty

Michael R. Haverty
 Chairman of the Board and
Chief Executive Officer and DirectorDirector.
   
/s/  ArthurDavid L. ShoenerStarling

ArthurDavid L. ShoenerStarling
 KCS President and
Chief Operating Officer and Director
/s/  Patrick J. Ottensmeyer

Patrick J. Ottensmeyer
Executive Vice President and Chief Financial Officer
(Principal Financial Officer)Operating Officer.
   
/s/  Michael K. BorrowsW. Upchurch

Michael K. BorrowsW. Upchurch
 Executive Vice President and Chief Financial Reporting and Tax
(Principal AccountingOfficer (Principal Financial Officer).
   
/s/  A. Edward AllinsonMary K. Stadler

A. Edward AllinsonMary K. Stadler
 DirectorSenior Vice President and Chief Accounting Officer (Principal Accounting Officer).
/s/  Henry R. Davis

Henry R. Davis
Director.
   
/s/  Robert J. Druten

Robert J. Druten
 DirectorDirector.
   
/s/  James R. JonesTerrence P. Dunn

James R. JonesTerrence P. Dunn
 DirectorDirector.


123114


     
Signature
 
Capacity

James R. Jones
Director.
 
/s/  Thomas A. McDonnell

Thomas A. McDonnell
 DirectorDirector.
   
/s/  Karen L. Pletz

Karen L. Pletz
 DirectorDirector.
   
/s/  Rodney E. Slater

Rodney E. Slater
 DirectorDirector.


124115


Kansas City Southern
 
20062009Form 10-K Annual Report
 
Index to Exhibits
 
       
    Regulation S-K
    Item 601(b)
Exhibit
 
Document
 
Exhibit
 
4.15.1 Supplemental Indenture, dated November 12, 2009, to the 2009 KCSM Indenture.  4 and 10 
12.1 Computation of Ratio of Earnings to Fixed Charges  12 
21.1 Subsidiaries of the Company  21 
23.1 Consent of KPMG LLP  23 
31.1 Certification of Michael R. Haverty pursuant to Section 302 of the Sarbanes-Oxley Act of 2002  31 
31.2 Certification of Michael W. Upchurch pursuant to Section 302 of the Sarbanes-Oxley Act of 2002  31 
32.1 Certification of Michael R. Haverty furnished pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes Oxley Act of 2002  32 
32.2 Certification of Michael W. Upchurch furnished pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002  32 
101 The following financial information from Kansas City Southern’s Annual Report onForm 10-K for the year ended December 31, 2009, formatted in XBRL (Extensible Business Reporting Language) includes:(i) Consolidated Statements of Income for the years ended December 31, 2009, 2008 and 2007, (ii) Consolidated Balance Sheets as of December 31, 2009 and December 31, 2008, (iii) Consolidated Statements of Cash Flows for the years ended December 31, 2009, 2008, and 2007, (iv) Consolidated Statements of Changes in Equity and Comprehensive Income for the Three Years ended December 2009, 2008, and 2007, and(v) the Notes to Consolidated Financial Statements, tagged as blocks of text  100 
         
    Regulation S-K
    Item 601(b)
Exhibit
 
Document
 
Exhibit
 
 2.7 Registration Rights Agreement  2 
 3.2 Amended and Restated By-Laws of Kansas City Southern  3 
 4.4.3 Third Supplemental Indenture to the 2000 Indenture  4 
 4.6.3 Second Supplemental Indenture to the June 12, 2002 Indenture  4 
 10.5.4 Form of Restricted Shares Award and Performance Shares Award Agreement under the Amended 1991 Plan  10 
 10.14 Kansas City Southern Annual Incentive Plan  10 
 10.53 The 2005 Credit Agreement  10 
 10.53.1 Amendment No. 1 and Waiver No. 1, dated April 7, 2006, to the 2005 Credit Agreement  10 
 12.1 Computation of Ratio of Earnings to Fixed Charges  12 
 21.1 Subsidiaries of the Company  21 
 23.1 Consent of KPMG LLP  23 
 23.2 Consent of PricewaterhouseCoopers  23 
 23.3 Consent of KPMG Cárdenas Dosal, S.C.  23 
 31.1 Certification of Michael R. Haverty pursuant to Section 302 of the Sarbanes-Oxley Act
of 2002
  31 
 31.2��Certification of Patrick J. Ottensmeyer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002  31 
 32.1 Certification of Michael R. Haverty pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes Oxley Act of 2002.  32 
 32.2 Certification of Patrick J. Ottensmeyer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002  32 
The above exhibits are not included in thisForm 10-K, but are
on file with the Securities and Exchange Commission


125116