Features : Buyout Or Sellout?

FOCUS / CANADA FOR SALE


The buyout boom of Canadian companies is stirring intense controversy and throwing a harsh spotlight on the role of corporate executives.

 

As the selloff of Canada’s biggest and best-known companies reaches record levels, politicians, labor leaders and even some business executives are accusing the country’s corporate elite of sacrificing Canada’s future for the sake of short-term gains. As well as stirring some deep concerns throughout the country, the unprecedented transfer of assets out of Canada threatens to become an explosive issue for Prime Minister Stephen Harper’s pro-business, pro-American minority government in the next federal election—which some pundits predict could be called before the end of the year as the Conservatives sink in popularity polls.

The high-water mark in Canada’s M&A frenzy came this summer when British mining conglomerate Rio Tinto acquired aluminum giant Alcan of Montreal for $38.1 billion. The Alcan deal is the biggest foreign takeover in Canadian history, but it is only a small portion of the $165.3 billion worth of M&A activity initiated by foreigners this year to September 25. The latest figure compares with $78.8 billion for the same period a year ago and a record $105.5 billion worth of foreign M&A activity for all of 2006.

The long list of companies sold includes nickel giants Inco and Falconbridge, acquired by Brazil’s CVRD and Switzerland’s Xstrata for $17.6 billion and $17.3 billion, respectively; and steelmakers such as Dofasco, Algoma, AltaSteel and Stelco, swallowed up by Luxembourg’s Arcelor, India’s Essar Global, Sweden’s SCAW and US Steel. “We have resources, and the world is beating a path to our doorstep,” says senior economist Peter Buchanan with investment bank CIBC World Markets in Toronto, referring to the keen global appetite for base metals and commodities, particularly by the red-hot economies of China, India, Indonesia and Russia.

However, since the beginning of 2006 foreign buyouts in Canada, led by the United States, which accounts for 46% of the total, has touched virtually every sector. Consider that BCE, parent of the country’s biggest telephone company Bell Canada, signed a $32.6 billion takeover deal in June 2007 with a Canadian pension fund backed by US private equity firms Providence Equity Partners and Madison Dearborn Partners, who will control 41% of the privatized telecom giant. And Toronto’s Four Seasons Hotels and Fairmont Hotels & Resorts now belong to Saudi Arabian billionaire Prince Alwaleed and his partners Bill Gates and Los Angeles hotelier Tom Barrack.

Vancouver’s Intrawest Corp., a real estate and leisure company whose interests include Whistler Blackcomb, host of the 2010 Winter Olympics, was sold to New York-based Fortress Investment Group. Vincor International, Canada’s biggest winemaker, was bought by Constellation Brands of Fairport, New York. And Hudson’s Bay Co., the country’s largest and oldest retailer, incorporated in 1670, was picked up by South Carolina billionaire Jerry Zucker. “Getting approval for foreign takeovers in this country is like slicing through butter with a warm knife,” says Jack Layton, leader of the National Democratic Party (NDP), who earlier this year called for emergency hearings on the foreign takeover issue.

Thomas Caldwell, chairman of Toronto’s Caldwell Securities, took out full-page advertisements in Canada’s three biggest daily newspapers this summer criticizing his country’s business elite of being more concerned about selling out to the highest bidder than growing the companies they were hired to run. “Years of mediocre corporate management can result in great paydays for managers,” his open letter said, “as other companies, often foreign, benefit from the bargains handed to them.” Says Lawrence Booth, an M&A specialist at the Rotman School of Management at the University of Toronto, “It’s a pity that Canadian firms are being bought instead of doing the buying.”

The situation in Canada is being driven by the biggest global M&A boom in history: A total of $12.7 trillion of transactions were reported from January 1, 2004, to September 25, 2007, according to London-based analytics firm Dealogic. Some are calling it the richest era on Wall Street since the go-go junk bond and commercial real estate bubble of the 1980s. Fueled by cheap and abundant credit, at least until August’s meltdown in subprime loans, and strong cash flows, this year global M&A activity is up 43% to $3.4 trillion for the period ended September 25, according to CIBC World Markets. In the United States it is up 40%. However, in Canada, foreign M&A activity for the same period is up a staggering 110%—which explains why some Canadians are so concerned about the breakneck speed at which the crown jewels of their economy are falling into the hands of outsiders.

Credit Suisse has been especially active in the Canadian market, helping to underwrite Rio Tinto’s acquisition of Alcan and advising Brazil’s CVRD in its takeover of Inco. “There’s no question that foreign M&A activity has political ramifications, particularly in industries with a lot of jobs,” says Steven Koch, co-chairman of global M&A in the Chicago office of Credit Suisse. “However, the more difficult question is whether foreign ownership is good, bad or indifferent. More often than not the impact is inconsequential.” Whatever the outcome, foreign takeovers stir nationalist feelings. “The US screams if anyone takes over a major corporation,” says Booth.

This summer’s stock market correction and resulting credit crunch have already slowed the global M&A blitz, but will they also put the brakes on Canada? The short answer is no, because private equity transactions, which rely on cheap debt for leverage, accounted for only 17% of the country’s M&A deals in the past two years, compared with 27% in the United States. “Canada does not have many targets for private equity buyers,” says Buchanan with CIBC World Markets, noting the exceptions have been telecom and media companies. “Synergies in resources and energy can only be realized by companies already in the business, and these companies are making cash deals.”

Two other factors are expected to keep Canada’s M&A boom burning bright for the foreseeable future. First, Canada has been attracting a large number of emerging-market buyers looking to expand their global footprint—four times as many as the US on a proportionate basis—because its resource- and commodity-based economy has much in common with developing countries. Second, Canada has more than 50% of the world’s investable oil reserves. Market watchers say Houston-based Marathon Oil’s $6.2 billion acquisition of Alberta’s Western Oil Sands in July is a sign of things to come in the next 12 months.

Buyouts Prompt Unrest

The transition to new ownership, whatever the origin of the buyer, is rarely smooth. For example, when Brazil’s CVRD acquired nickel producer Inco in 2006, negotiations to sign the first two collective agreements with management resulted in strikes. “They came in hard-nosed,” says Ken Neumann, national director for Canada of the United Steelworkers, which represents 75,000 mill and mine employees. He worries that when cyclical industries like the ones he represents enter a period of recession, foreign owners will have no qualms about shutting down capacity and slashing jobs in Canada if it suits their global objectives. “We’ll be raising hell to no end about that,” he says, hinting at future confrontations.

Meanwhile, Neumann is getting used to the fact that his country no longer has a domestically owned steel producer. Stelco, the last holdout, was bought by US Steel for $1.1 billion in August 2007. “I’m very concerned that Canada has lost its main manufacturing industry,” says Neumann. “If you get rid of your manufacturing base, you end up with a service economy.”

Stelco’s CEO, Rodney Mott, an American turnaround specialist hired last year to lead Stelco out of bankruptcy protection, is expected to walk away from the sale of his company with at least $67 million from tendering his shares and options. (He pocketed close to $100 million from ISG stock options when that company was taken over by Europe’s Mittal Steel in 2005.)

It is the kind of thing that gives ammunition to critics who accuse Canada’s business elite of preferring to cash out instead of doing the job for which they were hired. “We can’t afford to have custodial management in this country,” says Caldwell of Caldwell Securities. “We’re well regarded around the world. Why don’t we take advantage of that by putting better and more aggressive management in place?” Caldwell predicts future generations of Canadians who want to climb the corporate ladder will increasingly have to look elsewhere.

“Ultimately it comes down to leadership at the top,” says Booth. “In this country we don’t seem to have the guts and vision to build international-scale companies.” He adds that the loss of head offices also means the loss of senior- and middle-management jobs, along with R&D and marketing.

With so much talk of hollowing out, Canada’s ruling Conservatives have announced a review of the Investment Canada Act, which governs foreign takeovers. However, the report won’t be ready before June 2008. “It’s high time we looked at what other countries are doing and brought our investment rules into the 21st century,” says former cabinet minister and Liberal finance critic John McCallum, who called for an immediate halt to foreign takeovers pending a three-month, fast-track debate earlier this year. Says Layton of the NDP, Canada’s fourth-largest federal party, “Since the Investment Canada Act was introduced 22 years ago, not a single foreign takeover has been disallowed.” His solution is stricter conditions on foreign buyouts, including promises of investment in plant and equipment.

Until the most recent M&A boom, a balance existed between capital flowing in and out of Canada, but so far this year the value of inbound deals is more than twice the value of outbound. The country’s federal opposition parties and the United Steelworkers have vowed to make what they call the sellout of corporate Canada a key election issue. In the meantime, however, Canada will continue reaping the whirlwind of foreign buyouts.

 

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Erik Heinrich

 

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