On December 7, Canada's Industry Minister announced that the Government would apply special guidelines (the Guidelines) to the review of Canadian investments by state-owned enterprises (SOEs) under the Investment Canada Act (the ICA), Canada's foreign investment review legislation. In brief, the Guidelines:
- Focus on the governance and commercial orientation of SOEs;
- Outline factors that the Government will use to assess adherence to Canadian standards of corporate governance;
- Identify considerations for determining whether the SOE will operate the Canadian business according to commercial principles;
- Offer examples of the types of binding commitments that SOEs may be required to provide.
Canadian treatment of SOEs
In July 2007, following foreign takeovers of Canadian icons such as Alcan and Inco, as well as a few highly controversial acquisitions involving foreign state-owned enterprises (including a 2004 bid for Noranda by China Minmetals Corp., which was abandoned in the face of controversy in the media and Parliament), the Government appointed the Competition Policy Review Panel to review the Competition Act and the ICA, including the treatment of state-owned enterprises and the possibility of a "national security" review clause. However, on October 9, 2007, the Panel's mandate on the latter two issues was pre-empted by the announcement of imminent guidelines on the scrutiny of SOEs under the ICA (just released) and a proposed national security test (still to come).
The ICA requires that acquisitions of control of Canadian businesses exceeding certain monetary thresholds be reviewed and approved by the Minister of Industry (and/or the Minister of Canadian Heritage, for "cultural" businesses) prior to closing or, in some cases, post-closing. The test for review is whether the transaction will yield, on balance, a "net benefit to Canada." The ICA sets out the factors the Minister will consider in determining whether a reviewable investment will be approved. The new Guidelines focus on factors unique to investments by SOEs.
The Guidelines define an SOE as an "enterprise that is owned or controlled directly or indirectly by a foreign government." Relevant to the review of a proposed SOE investment is the SOE's "governance and commercial orientation."
The Guidelines state that adherence to Canadian standards of corporate governance will be examined, with particular regard to commitments to transparency and disclosure, independent directors, audit committees and equitable treatment of shareholders, as well as to compliance with Canadian laws and practices. In addition, the Government will consider how and the extent to which the investor is owned or controlled by the state in question.
The SOE's commercial orientation will also be evaluated in relation to the operation of the Canadian business, in particular respecting:
- where to export;
- where to process;
- the participation of Canadians in its operations in Canada and elsewhere;
- the support of ongoing innovation, research and development; and
- the appropriate level of capital expenditures to maintain the Canadian business in a globally competitive position.
Finally, the Guidelines outline the types of binding commitments or undertakings that may be required to ensure that SOE investments result in a net benefit to Canada. These include:
- commitments to appoint Canadians as independent directors;
- the employment of Canadians in senior management;
- the incorporation of the target business in Canada; and
- the listing of shares of the acquiring company or the target Canadian business on a Canadian stock exchange.
Assessment of the SOE Guidelines
While the Guidelines offer insight into the Government's concerns about SOEs, some questions do remain.
For instance, how does the Government define a "state"? Is de facto state control sufficient and if so, what criteria would be examined? What if a state holds a "golden share" in the SOE, permitting it to veto certain actions?
The Guidelines indirectly address possible non-commercial objectives of an SOE by considering such factors as the destination of exports and the location for processing. The first factor highlights a potential concern (voiced in the debate over Noranda) that the SOE may simply wish to funnel Canadian natural resources to its home state, rather than supplying market-based customers. With respect to processing, the Government is likely worried that processing will be moved offshore to increase employment and economic activity in the home state of the SOE.
Lack of transparency
Many commentators have expressed concerns that the lack of transparency and unclear governance of SOEs can lead to volatility in financial or other markets. For example, because of the lack of public disclosure surrounding certain SOEs' investment policies or risk-management strategies, minor comments or rumours could result in instability in the markets.
The Guidelines use Canadian standards for governance as the litmus test for appropriate governance of the SOE. For example, the requirement for independent directors may be an attempt to ensure that the Canadian business is governed by an entity with directors at arm's length from the SOE's home country. It is not clear whether this factor is to apply to the SOE itself or merely to the entity directly holding the target business. If the Government is concerned about the former, and the SOE is a vehicle with a large portfolio of investments, a requirement for an independent director would signal a significant departure from existing requirements and could result in a decision by some SOEs not to invest in Canada.
The "equitable treatment of shareholders" factor appears to indicate that the Government will want assurances that private investors in SOEs will be treated equally, relative to the state shareholder. The Guidelines do not provide guidance as to what exactly is being asked of SOEs, although equal disclosure of information about the SOE to all shareholders may be one concern.
While the Guidelines' sample undertakings are similar to those applicable to private investors, of particular interest in the SOE context is the undertaking that the target business be listed on a Canadian exchange. Does this indicate that the Government might require a minority Canadian shareholding in certain instances? Such a step would again be a material departure from past practice but would ensure that the SOE meets the disclosure requirements of Canadian securities laws, while at the same time giving Canadians the opportunity to remain or become part-owners of the target Canadian business.
In summary, while the Guidelines are a start, they leave a number of questions unanswered. Whether the Government will exercise its power to curtail foreign state investment in Canada or merely use it as a lever to extract concessions is a question which only time and experience with the SOE Guidelines can answer.