The cancelling of the West Coast Mail Line rail franchise award was blamed on serious mistakes in the bidding process.
There will be a £40m cost to taxpayers of the scrapping of the process, which would have meant Sir Richard Branson's company Virgin Rail losing its West Coast contract to rival transport company FirstGroup.
Transport Secretary Patrick McLoughlin pulled the plug on the whole process this week, saying "unacceptable mistakes" were made by the Department for Transport (DfT) in the way it managed the franchise bids from FirstGroup, Virgin and two other companies.
FirstGroup won the 13-year deal to operate the London-to-Scotland line in August with a bid of about £6bn, but the decision was challenged by Virgin.
Describing the bidding process as "flawed" and "insane", Sir Branson had launched a legal challenge to the FirstGroup decision.
Having intended to contest the challenge, McLoughlin is now dropping his opposition, cancelling the West Coast franchise competition and ordering two independent inquiries into what went wrong with the West Coast process.
McLoughlin said he was "very angry" about what had happened, saying: "The original model didn't take into account inflation and also some elements of the passenger number increases over a number of years.
"I want to make it absolutely clear that neither FirstGroup nor Virgin did anything wrong.
"The fault of this lies wholly and squarely with the DfT. Both of those two companies acted properly on the advice that they were getting from the Department."
McLoughlin has put on "pause" the bidding process for three other rail franchises. He told the BBC Radio 4 Today programme: "I want to make sure what lessons need to be learnt from what went wrong with this have not been repeated in those particular franchises."
Asked how much it would cost to reimburse the costs of the four companies who entered into the bidding process, he replied: "We estimate that to be in the region of about £40m."
He went on: "I'm not going to apologise for the terrible mistake that has been made by the Department. We need to get to the bottom of what went wrong as far as that is concerned."
He revealed that he had spoken to the parties involved earlier this week, including Sir Richard Branson, saying that what had been found was "deeply regrettable".
The move means that the DfT will no longer be awarding a franchise contract to run the West Coast service when the current contract expires on 9 December, and the bidding process will need to be re-run.
FirstGroup said in a statement that it was "extremely disappointed" with the government move and that it had only been told of the issue earlier this week.
"Until this point we had absolutely no indication that there were any issues with the franchise letting process and had received assurances from the DfT that their processes were robust," it said.
It added that the government had made it clear that no fault lay with the company.
"We submitted a strong bid, in good faith and in strict accordance with the DfT's terms," FirstGroup said.
Earlier this week FirstGroup had said that it was getting ready to run the West Coast line and was planning for a successful start on 9 December.
Sir Branson welcomed the government announcement. "They have basically acknowledged that what we had been saying is correct," he said in a blog post.
"From the moment we found out that FirstGroup had been made the preferred bidder with a completely unrealistic bid, we questioned the way the offers had been assessed and asked government to review and explain how it came to its decision."
Evidence of "significant flaws" in the DfT's calculations emerged as officials were undertaking detailed evidence-gathering in preparation for the legal battle against Virgin Trains, the DfT said.
In light of the findings, the government said that it was no longer contesting the judicial review sought by Virgin Trains in the High Court.
It also said that it had postponed outstanding franchise competitions for the Great Western, Essex Thameside and Thameslink rail lines.
Two independent reviews into the way that the franchise process was conducted and the future of the bidding process for franchises are due to be delivered this month and in December, McLoughlin said.