The Calgary-based company (TSX:CP) said Monday its decision is "based on continued deterioration in the market for domestic thermal coal, including a sharp deterioration in 2012."
The company will take a $180-million non-cash charge on its books as a result of a decision to defer the plan indefinitely.
Marin Katusa, chief energy investment strategist at Casey Research, says the railway is doing the right thing by scrapping the Powder River Basin plans.
"We've been bearish on North American thermal coal for over two years," Katusa said. "It's better to take the accounting writedown today than a multi-quarter operating loss."
CP acquired the option to build a 420-kilometre extension to serve coal mines in the Powder River Basin, which underlies parts of Montana and Wyoming, when it bought the Dakota Minnesota & Eastern railway in 2007.
As natural gas prices have fallen amid ever-increasing volumes flowing out of shale rock formations throughout the United States and Canada, coal has lost some of its advantage as a relatively cheap fuel for power plants.
In addition to the cost factor, there are also environmental benefits to making the switch as natural gas emits just a fraction of the carbon dioxide when burned as coal does. Many governments are looking to supplant coal-fired power with cleaner sources, and natural gas is one of the more prominent options.
"It's now becoming a green energy," said Katusa, adding that players such as ExxonMobil Corp. are making big investments in natural gas as part of their long term strategy.
Canadian Pacific remains a major shipper of metallurgical coal, used in the production of steel, through a contract with Teck Resources Ltd. (TSX:TCK.B) to move coal from southeastern B.C. to Vancouver for export.
The railway is set to host an investor conference on Tuesday and Wednesday, where new CEO Hunter Harrison will unveil his long-awaited plan to boost the company's operations.
Harrison became CEO of Canadian Pacific this summer after an activist New York-based hedge fund run by Bill Ackman agitated to oust CP president and CEO Fred Green in a bitter proxy battle.
Canadian Pacific shares fell $1.40 to $91.30 in Monday afternoon trading on the Toronto Stock Exchange.