Trusts worried over new crackdown
SINCLAIR STEWART, BOYD ERMAN AND STEVEN CHASE
Thursday, November 16, 2006
TORONTO AND OTTAWA — The battered income trust sector is bracing for a potential crackdown on its ability to finance acquisitions by selling units, a move that could strangle growth and force many trusts to convert to a corporate structure long before a four-year moratorium is set to expire.
Finance Department officials, under siege by lawyers and trust executives demanding clarity on the issue, are working on new rules that could be published within the next two weeks, sources said.
While the guidelines aren't complete, bureaucrats have sparked concern by suggesting that, in some cases, trusts may not be able to increase their equity base by more than 15 per cent, according to lawyers working on behalf of trusts.
In other words, if a $100-million trust wanted to raise cash for a deal, it would be limited to selling or issuing just $15-million worth of new units — a far more stringent threshold than the industry had been expecting after Ottawa's recent blockbuster move to tax trusts.
Finance has sent a so-called “comfort letter” to at least one trust that was seeking guidance on a pending financing, in which it suggested the 10- to 15-per-cent range would likely be acceptable, sources said.
This range could create uncertainty for a company like Pengrowth Energy Trust, which was contemplating a purchase of assets from ConocoPhillips that would have required it to issue units equal to about 18 per cent of the trust's market value. Pengrowth chief executive officer Jim Kinnear declined to comment on any transaction or a comfort letter, other than to say his company has had correspondence with Ottawa.
Another transaction that may be on the bubble is Shiningbank Energy Income Fund's plan to buy most of the assets of Rider Resources Ltd. in a share swap that would increase Shiningbank's outstanding units by about 27 per cent, investment bankers said.
Trusts have been seeking clarity on how much growth they can pursue ever since Finance Minister Jim Flaherty stunned investors on Halloween with a proposal to clamp down on the trust sector by hitting it with a new tax.
While he said trusts would be permitted “normal growth,” he did warn that any “undue expansion” could cause Ottawa to revisit its policy. The question for many trusts, not to mention their lawyers, is what constitutes “normal?”
In a conference call organized by Canaccord Capital Inc., lawyers from Bennett Jones LLP in Calgary told clients that they have had feedback from Ottawa about the purported 15-per-cent limit. One of the lawyers mentioned the comfort letters, and said the dialogue has not been encouraging for the sector, according to people on the call.
The federal government has not set down precise rules for trust takeovers, leaving CEOs, lawyers and investment bankers to take their best guess at how to structure deals.
Bankers say they have numerous trusts that have been left in the lurch and unable to forge ahead with acquisitions or financings.
Sources in Ottawa say the government intends to put “reasonable” rules in place that allow trusts some flexibility over the next four years.
“The department has received several enquiries relating to this section of the backgrounder, and has received submissions or has met or will be meeting with several firms, or their representatives, on this issue,” Finance spokeswoman Suzanne Prebinski said.
Mr. Flaherty's spokesman said the government plans to announce the rules in the near future, but has made no decisions and is not giving trusts advance notice of what the new rules will be.
Finance is “doing some consulting and talking to some people in the industry, but they are not sharing information and no announcement has been made,” Dan Miles said.
“I am sure there's going to be some speculation out there about how the details will unfold but no decision has been made and we are in the process of finalizing those details.”
The fear of a restriction on financing is particularly acute in the oil patch, where some trusts depend on acquisitions to replenish a declining asset base and maintain their level of cash distributions.
“To most of these royalty trusts, that is a silver-lined wooden stake in their heart — just to make sure they have you, whether you are a vampire or a werewolf,” said Trinidad Energy Services Income Trust CEO Mike Heier.
For Trinidad Energy, which is a well-driller that has grown by acquisitions, such a tight limit would mean “we can't do anything. The smallest thing we're looking at is a third our size,” Mr. Heier said.
He said that means the only option for trusts is “to unwind. There's no staying status quo. They are intent on destroying the trusts.”
But because trust CEOs like Mr. Heier are still not sure of the tax implications of changing back to a corporation — it's unclear whether unitholders have to pay capital gains tax triggered by any change, for example — they feel boxed in.
“We don't have a way out until they give us some more clarity,” he said. “It's disgusting.”
AI
