On Friday 19 October, the Canadian government advised Malaysian state-owned PETRONAS that it had not demonstrated that its acquisition of Progress Energy would be of “net benefit” to Canada. “Net benefit” is the standard that must be met under the Investment Canada Act (ICA) in order to receive federal government approval. This announcement caught many observers by surprise. It appears to be inconsistent with a recent series of approvals of investments involving state-owned enterprises (SOEs), as well as statements and actions by the Canadian government encouraging foreign investment.
Although the PETRONAS/Progress deal is the third disapproval since 2008, it was the first disapproval involving an SOE and the energy sector. If the decision stands, and reflects government policy, it could have a chilling effect on investors (especially SOEs) in Canada. PETRONAS is continuing its bid for Progress and is appealing the government’s initial decision. For now, the rejection seems to reflect an unfortunate miscommunication, rather than a change in policy.
The Canadian government is working on a new ICA framework expected to include further details on how SOEs may satisfy the “net benefit” test. The government is also expected to announce final decisions in the PETRONAS and CNOOC/Nexen transactions at about the same time. This could occur by mid-December. Despite the existence of the ICA, Canada is very open to foreign investment, reflected in the recent signing of an investment treaty with China. Such initiatives will assist the resource sector in accessing the capital it requires, as well as expanding Canadian export markets.
Under the ICA, a foreign investor must obtain approval from the Minister of Industry before directly acquiring control of a Canadian business with more than C$330 million (US$330.2 million) book value of assets. To secure approval under the ICA, investments must be of net benefit to Canada, considering factors including employment, resource processing, exports, Canadian participation and productivity. SOEs must also satisfy the minister that their commercial orientation is compatible with special guidelines.
Observers criticise the net benefit test as being vague and subject to political interpretations that do not provide investors with sufficient guidance. The ICA review process is not transparent. There are no public hearings and no published reasons are required, except for a final negative determination. The initial review period is 45 days. This may be extended by the minister for 30 days. Any further extensions must be negotiated between the minister and the investor. Before the end of the review period, (or agreed extension) the minister makes a decision on whether the net benefit test has been met.
The ICA framework is expected to provide additional guidance on the review process and the manner in which the existing law and policies – particularly the guidelines for SOEs – are applied, but not introduce new rules. We also expect that the PETRONAS and CNOOC cases will be determined under existing law and policies.
Factors of note in decision
Due to the limited public information available, no conclusions can yet be drawn on whether the initial PETRONAS decision represents a shift in government policy. It is also not possible to say whether the decision makes it less likely that the government will approve the CNOOC/Nexen transaction. Nevertheless, the PETRONAS case is notable in a number of respects:
- PETRONAS’s initial commitments were insufficient to establish net benefit. The nature of these commitments is not known. On deal announcement, PETRONAS publicly stated it would retain Progress employees. No new commitments in relation to its existing joint ventures with Progress were announced and nothing was publicly said with respect to the SOE guidelines concerning transparency, governance and commercial orientation. Whether these factors were addressed in the review process is unknown. (In contrast, on announcement of the Nexen transaction, CNOOC publicly outlined a number of commitments, including: making Calgary an international headquarters to manage Nexen’s global operations and CNOOC’s operations for North and Central America; retention of Nexen’s management and employees; enhancing capital expenditures; and listing CNOOC shares on the Toronto Stock Exchange.)
- PETRONAS was unable to obtain approval within a review period of about 90 days. A period in excess of 90 days is not unusual, particularly for an SOE investment. However, PETRONAS apparently was unable or unwilling to extend the period further.
- The minister’s decision may reflect a higher approval hurdle for SOEs without a public listing. Meeting the governance and transparency criteria of the SOE guidelines is simpler where an SOE has securities that are publicly traded. While listing securities may not be possible for many SOEs, there are cost-effective methods of maintaining a public listing in Canada for Canadian companies that become wholly-owned by an SOE. Such a listing can assist in satisfying the transparency and governance standards.
Coupled with the government’s promised ICA framework, the outcome of the PETRONAS case and pending CNOOC/Nexen transaction should provide guidance to foreign investors on obtaining ICA approval. In the meantime, investors should expect to commit to substantial undertakings and allow adequate time for the review process. If investors are not prepared to do so – or do not wish to assume the risk of a negative decision – then they should consider a minority investment that is not subject to ICA review.
Frank Turner is an M&A partner in Osler’s Calgary office. He can be contacted on +1 403 260 7017 or by email at firstname.lastname@example.org
Peter Glossop is a partner at Osler’s Competition Group and advises on ICA matters. He can be contacted on +1 416 862 6554 or by email at email@example.com
Chris Murray leads Osler’s Asia-Pacific initiative and advises Asian enterprises on Canada investments. He can be contacted on +1 416 862 6701 or by email at firstname.lastname@example.org