Regulators Take Centre Stage

Pondering M&A? There’s an increasingly powerful player at the table: Canadian regulators

Rules. Regulations
. If nothing else 2008 showed the world’s business and finance communities that without them – like an absence of reasonable speed limits – serious crashes happen. Even a global economy can suddenly spin out of control and hit a wall faster than you can say “overvaluation of bundled sub-prime mortgages.”

Since the global economic crash, Canada, not to mention other Western jurisdictions, has worked to strengthen a number of regulatory Acts and departments, such as the Competition Bureau, banking regulations and the Investment Canada Act. For business leaders these days it means that conducting mergers and acquisitions in the current climate is salted with new risks a deal can be substantially altered or stopped altogether by regulators.

“The regulator has assumed a seat at the table,” says Manny Pressman, a Toronto partner with Osler, Hoskin & Harcourt LLP who co-chairs the firm’s Mergers & Acquisitions Specialty Group. “What that means is there is more regulatory uncertainty. And the more regulatory uncertainty there is, the less deal certainty there is.

“Sellers,” Pressman continues, “want to know a deal is going to close. When regulatory uncertainty is injected into the deal calculus, it presents a mitigating factor on deal volume.”

While other factors are at play in the decline of Canadian M&A activity in 2013, there’s evidence the current Canadian regulatory environment is having a dampening effect, especially when it comes to hostile take-overs. It all has business leaders rubbing their temples as they try to grapple with sometimes onerous, and sometimes vague, regulatory rules or mandates.

Transactions in the mining and energy sectors – the two biggest drivers of M&A in this country – have declined in Canada over the past four years. Canadian deal volume overall in all sectors was the slowest since 2009, according to PwC. The Q4 2013 aggregate value of deals was 26 per cent lower than Q4 2012.

The stopped or, at least so far stumped, deals attributed to regulatory hurdles in Canada last year alone includes, among others, Telus’s $380 million bid for Mobilicity last May, shot down by the federal government over concerns about reduced competition; the CRTC’s belated approval of the Bell Canada Enterprises' $3.2-billion acquisition of Astral Media, but only after forcing BCE to invest in new Canadian programming and sell off more than a dozen services; and the feds’ rejection of Egypt’s Accelero Capital Holdings’s $520-million bid to buy MTS Allstream, a division of Manitoba Telecom Services, over unspecified national security concerns. In the context of Canadian M&A history, “that’s quite a list,” says Pressman.

The two most critical regulatory elements giving headaches to dealmakers are changes announced in December 2012 to State-Owned Enterprise (SOE) guidelines under the Investment Canada Act (ICA) and, before that, changes to Competition Bureau reviews under the Competition Act.

 “I would say that a key milestone event, which altered the balance of power between transacting parties and the Competition Bureau, occurred in 2009,” says Paul Collins, who heads Stikeman Elliott LLP’s Competition and Foreign Investment Group in Toronto.

That year the Bureau introduced a toothier formal two-stage process for reviewing mergers and acquisitions that might erode competition in the country. Prior to the changes the Bureau had to obtain an injunction from the Competition Tribunal – a special tribunal that deals with matters under the Competition Act to forestall a possible anti-competitive deal. “That could be an arduous task for the Bureau,” explains Collins, “especially if they were met with quite aggressive parties.”

Now, since 2009, if the Bureau has concerns a proposed deal may jeopardize competition, it can issue a Supplementary Information Request (SIR) requesting more information about the transaction. That triggers a second 30-day waiting period, which only commences once notified parties have sent the Bureau a complete and certified response to the SIR. Until that period ends, the deal cannot close.

That “buys [the Bureau] a fairly substantial amount of time,” says Collins. “They still have the injunctive power, but don’t have to exercise it nearly as quickly.” Collins says the change, which has taken several years to work its way through the system, has tipped the M&A power balance in favour of regulators.

And when it comes to M&A, deal certainty is the goal. “Business people don’t like surprises,” says Collins. It’s become critical, then, for business executives contemplating M&A to find the expertise needed to help them prognosticate the Competition Bureau’s attitude towards a deal. In most, but not all cases, experienced advisors can help them avoid being served with the costly exercise of a SIR by keying them into the fact ahead of time that they may have to divest certain holdings or make other alterations to a deal in order for it to pass the Competition Act litmus test. “You have to do a self-assessment of the transaction before it gets to the authorities.”

In order for Sobeys Inc. to get approval of its $5.8-billion purchase of Canada Safeway, the Competition Bureau forced it to sell 23 of Safeway’s 223 stores. “What business people want is a fair and frank assessment of what they need to do,” says Collins. “And then they can manage that. People don’t get upset if you say to them, look, you might have to sell some stores, or some gas stations or a plant. They get that. They don’t necessarily like it. But they can understand it.”

Adding another layer of uncertainty along with the Competition Bureau are the far more nebulous Industry Canada rules such as the “net benefit” test governing foreign SOEs gaining control of Canadian companies, especially those in the oil sands. Under the Investment Canada Act, foreign take-over must be shown to have a net benefit for Canada in terms of exports, jobs, investment and production.

After approving the acquisition by China’s state-owned CNOOC Ltd. of Calgary’s Nexen Inc. and Malaysian SOE Petronas’s take-over of Progress Energy in the summer of 2012, Stephen Harper stomped the brakes on further majority stakes in Canadian oil sands companies by foreign SOEs, except on an “exceptional basis.”

New ICA rules also permit the Industry Minister wide latitude in determining what constitutes an SOE. Even companies run by individuals thought to be influenced by a foreign state can wind up on the SOE list.

Politics can, like never before, skewer a deal, and not just at the federal level, says Gordon Chambers, a Vancouver partner with Cassels Brock & Blackwell LLP. When the federal government blocked BHP Billiton’s whopping $39-billion bid for Potash Corp. in 2010, it served as an example to business leaders of what can happen when you ignore provincial politics.

Chambers says when BHP, an Anglo-Australian mining company, tried to buy Potash Corp., “they made a fundamental miscalculation about the provincial government” in Saskatchewan. Premier Brad Wall, worried that Saskatchewan would lose taxes and royalties, not to mention a major head office, was strongly against the deal. He managed to persuade Stephen Harper’s then minority government that Conservative federal seats in the province might be at risk in the next election if the take-over was approved.

 BHP was guilty of “a fundamental failure in public relations and government relations,” suggests Chambers. Since then, he says, government relations have clearly become “a concern on the part of anyone who is thinking about an acquisition.” Especially if you are a business leader contemplating a hostile take-over.

“One of the defences that any target is going to pull out now is run to the politicians and see if they will save them,” says Chambers. “And that’s a real concern if your buying client is a state-owned enterprise and it’s foreign. But it’s also a real concern if your client is buying something in Quebec and you are not from Quebec.”

That premise was painfully illustrated to Bay Street when US hardware giant Lowe’s tried to buy Quebec-based Rona Inc. for $1.8 billion in 2012. “The target there wrapped itself in the Quebec flag and conducted a pretty good publicity campaign, saying we can’t have Americans coming in and buying our heritage.

“Shouldn’t the highest price win?” Chambers asks rhetorically. “But the reality is, that’s not always the case. If you can turn a deal into an emotional issue, or a political one, you can perhaps make some headway.”

As corporate buyers construct deal teams, that has put added emphasis on bringing in top-notch government relations specialists. “You also need to pay a fair bit of attention to the PR guys,” adds Chambers. “A lot of this is court of public opinion. And if you can diffuse that so it doesn’t become a political hot potato, [this] is important as well.”

But Cameron Belsher, a Vancouver partner at McCarthy Tétrault LLP, says it would be overstating things to say that business executives are “spooked” by the evolving and more stringent regulatory regimes in Canada and the West when it comes to M&A.

Belsher and his firm were just involved in one of the largest e-commerce deals in Canadian history — the purchase of Vancouver-based Coastal Contacts (parent company of Clearly Contacts) by French optical company Essilor International SA for $435 million. The deal, announced in February, still has to go through regulatory approval. But Belsher takes it as some evidence that the chilling effect on M&A of this regulatory epoch in Canadian and international business may be more media puff than reality. Executives have become more adept at doing deals in multiple jurisdictions than ever before in a global economy. Essilor, for instance, has operations in 17 countries.

“Corporations and leaders of corporations are used to having to deal with regulatory issues. The press that was generated over the federal government’s views on the Investment Canada and Competition Act is something I think business leaders take in stride.”

 Anthony Davis is a freelance business writer and investigative journalist in Calgary.