Tuesday, November 02, 2010

Selling Canada?

Canadian flag outside the Maritime Museum of t...Image via Wikipedia
As Asian efforts to secure Canadian energy supplies intensify, can nationalist forces be silent much longer? This article appears in the November issue of Oilweek.
 By Peter McKenzie-Brown
In Canada, economic nationalism fell into a slumber twenty years ago. Is it likely to begin stirring again? According to Dr. Robert Mansell of the University of Calgary, “I could imagine a new period of nationalism. After all, public attitudes tend to go through regular cycles.”

An economist, Mansell is academic director of the university’s School of Public Policy and the founding director of the Institute for Sustainable Energy, Environment and Economy. Although he recognizes the possibility, Mansell puts a lot of caveats on the prospect of a nationalistic surge. “We’re still in a period with a high level of globalization, so I would be surprised if we said ‘No more foreign ownership.’ The markets are too big now (for Canada) to finance a lot of (the petroleum industry’s) activities, so you have to go into international markets for large amounts of money. We don’t have a lot of fiscal surpluses to finance many of these projects. This limits our options.”

However, he notes that political conflict with China, say, could lead to public concern about Chinese investments in Canada’s oil industry. In the United States, an outright political row wasn’t even required five years ago. That’s when a public outcry put an end to an $18.5 billion hostile bid by state-controlled China National Offshore Oil Corporation for UNOCAL, an American major. Chevron-Texaco acquired Unocal later that year.

Asian Investments
This has become an issue of interest because the sources of overseas funding for North America’s energy industry are undergoing a fundamental shift. “The axis of investment capital is rotating from a north-south flow over the 49th parallel to an east-west current across the longitude of the Pacific Ocean,” says author and analyst Peter Tertzakian of ARC Financial. “A recent swell of Asian money coming into the Canadian oil patch represents one of the biggest megatrends in the business.” Tertzakian does not mention a sub-feature of this shift of Asian funds: much of the money is coming from national oil companies
By no means is this trend limited to Canada. Increasingly, developing countries with financial reserves are investing those funds in countries with large oil and gas resources. “Relative growth in energy demand has shifted quite dramatically toward Asia,” says Robert Mansell. “As demand shifts, one would expect (Asian) interest to shift to Alberta, especially since the number of countries which are attractive for petroleum investment is shrinking. There has been an expansion of interest in national oil companies for a variety of reasons, one of which is to achieve security of supply. Energy security (in Asia) is an even bigger issue than it is North America.”

Peter Tertzakian puts the issue starkly. “Since world war two there has been a symbiotic, bi-directional flow of capital and energy resources between Canada and the US. Now a new dynamic is emerging…. Growth economies like China look very similar to the United States in the 1950s and 60s – capital rich and hungry for energy.” In a series of charts and tables, he sums up the shift in funding.

“Big foreign companies like India’s Reliance Industries, China National Petroleum Corporation and Mitsui have been teaming up with domestic independents that hold large land positions in shale gas plays, mostly in the US” he says. “Under twelve joint venture agreements these foreign entities have committed $17.2 billion of funding to obtain carried interest in new wells being drilled by independent natural gas producers like Chesapeake, EnCana, Pioneer, Atlas and Carrizo.” The charts illustrate the recent flow of money from overseas economic powers into North America’s shale gas business.

Within Canada, some funds have flowed to shale gas, but more has gone to the oil sands. The table of foreign investments in the last 12 months illustrates that Asian investment in Canada has focused more on the oil sands more than shale gas. The table does not include another notable 2009 investment: Sinopec’s acquisition of Addax Petroleum for $8.27 billion.

Of the new Asian partners, four are national oil companies headquartered in China or Korea. However, the acquisition of Harvest Energy by an agency of the Korean government deserves special note. Harvest was an intermediate-sized Canadian energy trust. From a standing start, in ten years president and CEO John Zahary created an entity he was able to sell for more than $4 billion. That’s a lot of money, but relatively small potatoes in the context of Canada’s hundreds of billions of dollars’ worth of total oil and gas assets. Outside the industry, people paid scant attention
Harvesting Energy Companies
Of course, Korea isn’t China, and Harvest Energy isn’t Unocal. Even so, the deal stoked concern that, after watching parts of the oil patch go to other state-owned companies, the Canadian government will eventually step in to block transactions.

According to John Zahary, though, the South Korean company’s commitment to boost spending is the only thing that’s relevant. “We see this as an opportunity for increased jobs in the country, increased capital investment in (Harvest’s) assets,” he said. “KNOC (the Korean National Oil Company) now owns 100% of the equity in the company – that’s true. But I believe that even under the new ownership Harvest is still a Canadian company. The management is here, the employees are here, the resources are here and the resource owner is here. We now have a board of directors of eight people: five are Canadians and three are Korean nationals.” To make the deal happen, Zahary negotiated a 47% premium to the company’s then-current price. He now expects to see Harvest continue to grow.

“Why did they want to invest here?” he asks rhetorically. “We have a resource that is relatively underdeveloped, a people base and a technology base. We have relatively stable fiscal and regulatory systems and a history of openness to foreign investment, and that differentiates us from other countries. Canada is an excellent place to invest. I look at foreign investment (in this country as part of the) maturing of the nation.” The University of Calgary’s Mansell agrees. “….In this global environment even companies that you think are purely Canadian are likely to have most shares held outside the country. The key issue is their local presence. The control is local. There are a lot of regulations in Alberta,” for example. “Whether foreign or local, companies have to follow the rules that we make. They can’t avoid them.”

Another rhetorical question: Why did Zahary want to sell Harvest Energy Trust? Partly because Ottawa’s Halloween Massacre in 2007 made energy trusts so much less attractive. Prior to the sale, Harvest’s unit price had cratered since its pre-massacre high – down about 80%. This, of course, illustrates government’s power.

The case for economic nationalism
Perhaps the most unlikely supporter of government regulation is Richard Haskayne. Known universally within business circles as Dick, he has served as the chair of six large Canadian companies: Interhome Energy Inc., TransCanada Corporation, Fording Inc., NOVA Corporation, TransAlta Corporation and MacMillan Bloedel.

“My philosophy is that Canada needs regulation to protect strategic sectors,” he says. “This is not a new hobby horse for me. A few years ago I wrote an article promoting the idea behind Canada’s Bank Act, and I got a lot of flak about it. But recent events have demonstrated that it worked really well for Canada. The reason (I support that kind of government control) is that banking is so strategic for Canada.”

He supports government regulation of energy and mining ownership because they, too, are strategic. “That’s our strength. Of the ten top stocks in Canada there are four banks, three energy companies and three mining companies. Seventy percent of the stocks on the TSX are in those industries.”

“I’m not opposed to foreign ownership as such,” he says “– only when someone takes over 100% of a classic Canadian company like Potash Corp. Look at Vancouver without McMillan Bloedel. Look at the Windsor waterfront now that Hiram Walker is no longer there. Head offices are critical to the operation of Canada and to our decision-making.”

Haskayne sees Canada’s Bank Act as a good model for bank regulation. The act prevents any individual from owning more than 10% of the shares of top tier banks, and says the aggregate holdings of non-residents and their associates may not exceed 25%. In addition, their head offices must stay in Canada and their boards must consist mostly of Canadians. Deeply concerned about what he calls the “hollowing out” of head offices from Canada, he’d like to see similar provisions applied to Canada’s biggest energy and mining companies. “It’s the concentration of shares that’s the critical part.”

An irony of Haskayne’s position is that as chairman he sold Nova’s controlling interest in Husky to Li Ka-shing. “I admit I sold that company to Hong Kong interests,” he says, “but in those days Husky was in terrible shape. It was almost broke. The banks were on their tail. We tried to sell it. I went to David O’Brien at PanCanadian and tried to get him to buy. I said, ‘It’s a hell of a deal for you. It’s got so much heavy oil and it’s got refining interests….’ David turned to me and said, ‘Haskayne, get out of my office. I don’t want that sick dog [Husky] in my kennel.’ You can’t get much more of a refusal than that. So we sold our share (to Hong Kong interests) for $375 million. Well, today that interest is probably worth $15 billion, so they made a hell of a deal. I apologise for that, in a way. However, there wasn’t much we could do. Li Ka-shing’s group was holding the golden shares, and that made it hard to sell” the company to anyone else. Husky is now one of Canada’s biggest energy companies.

Asia’s energy security
Canada’s last round of economic nationalism began in the 1970s, when nationalization of the petroleum sector within OPEC inspired Canadian governments to set up their own oil companies. The idea was to Canadianize a vital resource sector. The last vestiges of those experiments disappeared a year ago, when Suncor absorbed Petro-Canada.

Are Asia’s efforts to find energy security with the aid of national oil companies (NOCs) also doomed to fail? “For the foreseeable future,” says the University of Calgary’s Robert Mansell, “Asian countries are not likely to be getting any Canadian product directly. But they can still do swaps and so on, taking oil that would otherwise have gone to the United States, diverting production. Markets enable you to move that oil around. Different market arrangements will allow you to increase security.”

He cautions against thinking of all NOCs as being the same, however. “There are quite different NOCs. For example, Statoil is really not much different from what we think of as a privately owned company. Some of the other companies are a different animal, though – they are just an extension of the state. There are quite different variations when you start looking at national oil companies.”

Although he sees economic nationalism as a possibility, Mansell is sceptical about its staying power. “A serious political conflict between, say, China and Canada could create a public reaction, and it’s quite easy to imagine” a public outcry against Chinese ownership of Canadian resources. “However, in the long run it seems to me that most Canadians appreciate that we as a country benefit from global investment.”
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