Stikeman Elliott LLP Canada Overview for Chambers Global 2019
By Stewart Sutcliffe and Michael Kilby
2018 has proven to be a very eventful year in Canadian M&A and foreign investment. Most notably, and to the widespread relief of the broader Canadian business and deal community, a new, replacement NAFTA was formally signed at the end of November, following many months of intense negotiations and considerable uncertainty. The new pact, known as the United States-Mexico-Canada Agreement (USMCA), had been negotiated in the context of a difficult trade environment, with the United States executive branch having threatened to walk away from NAFTA altogether and having imposed substantial steel and aluminium tariffs earlier in the summer, which, at the time of writing, remain in place. While the signing of the new agreement represents a major milestone, ratification by the US Congress remains a key hurdle, although ultimately is expected to occur, thereby supporting the enormous amount of cross-border trade and M&A activity that takes place between the United States and Canada. USMCA comes during a period of significant activity on the Canadian trade and investment front, following as it does on the Canada-EU Comprehensive Economic Trade Agreement (CETA), which eliminates 98% of European Union (EU) tariffs and many non-tariff trade barriers, and paves the way for a new era of increased trade and investment between Canada and Europe.
From a more immediate M&A and deal perspective, perhaps the most significant two developments in 2018 have been the explosion of cannabis-related M&A and IPO activity, together with the government having blocked a significant Chinese state-owned acquisition of a large Canadian construction and engineering firm on national security grounds.
In October 2018, Canada became the second country globally, and the first G7 nation, to legalise recreational cannabis on a nationwide basis. Legalisation had been hotly anticipated; the build-up to legalisation launched an extraordinary, frenzied period of mergers, acquisitions, initial public offerings, financings and joint ventures during which valuations of publicly traded cannabis companies soared. There are now literally dozens of cannabis and cannabis-related publicly traded companies listed on Canadian stock exchanges, with the leading firms having valuations topping CAD10 billion or more. Consolidation is expected as the industry matures and the legal framework becomes even more certain. Re-structurings and/or insolvencies are also possible as smaller firms will now have to compete for oxygen in a crowded space. Perhaps two of the most interesting trends in recent months have been: the increasing propensity for US-based cannabis companies to raise capital by listing on Canadian stock exchanges, sometimes via reverse takeovers of Canadian companies; and the entry by major, foreign-based alcohol and beverage companies into the cannabis space via strategic investments or joint ventures. Constellation Brands (a leading wine, beer and spirits company) and Molson Coors Brewing (one of the world’s largest brewers) have both pursued this path, presumably in anticipation of new cannabis beverage markets in Canada and perhaps globally. It is also believed that additional foreign strategic investors and even private equity investors are watching developments with keen interest to see how the market evolves.
At the time of the transaction announcement in late 2017, there were several indications that Aecon Group Inc., a major Canadian publicly-traded engineering and construction company, was confident about the prospects for governmental approval of its CAD1.5 billion acquisition by China Communications Construction International (“CCCI”), a Chinese firm with significant state ownership. The transaction agreement it had negotiated did not contain a “hell or high water” clause or similar protective clause, nor did it contain a reverse termination fee provision. Aecon’s board of directors included a former cabinet minister who, while in government, had been responsible for clearing transactions under the Investment Canada Act. Market participants supported this confident view; Aecon’s share price immediately jumped to a level that was only very slightly below the proposed acquisition price and stayed there for several months during the initial stages of the Investment Canada Act review. Most expert commentators speculated that, while a national security review would occur, the likely outcome was a clearance, perhaps with relatively limited divestitures or conditions imposed on particularly sensitive portions of the Aecon business (e.g., relating to nuclear refurbishment contracts).
These views were likely substantially influenced by at least two significant decisions by the very same Liberal government that was reviewing the Aecon / CCCI transaction. These two decisions were to approve in 2017, apparently without conditions, the sale of Norsat International Inc., a satellite technology company, to Hytera Communications, a Chinese communications company, and also to set aside a national security divestiture order issued by the prior government to a different Chinese company, O-Net Communications, in respect of a closed photonics industry transaction, replacing it instead with a conditional approval. These decisions had been perceived by some — incorrectly in retrospect — to signal an almost complete openness on the part of the current government to Chinese investment, in marked contrast to the much tougher approach that has been taken by CFIUS in the United States in recent years. Few Canadian data points available to Aecon prior to announcement would have pointed towards an outright block. But after a six-month review, the Canadian government rejected CCCI’s proposed acquisition outright in May 2018, having concluded that any proposed mitigation measures would be insufficient. It is also notable that at approximately the same time that the Aecon / CCCI transaction was being blocked, another announced China-Canada transaction, 3S Bio Inc.’s acquisition of Therapure Biopharma Inc., collapsed, likely due to national security concerns.
Nevertheless, and while these developments have created a somewhat less certain environment for Chinese investment into Canada, it remains the case that the very substantial majority of Chinese investments into Canada proceed following foreign investment and/or national security clearance, with a series of major Chinese transactions having been cleared in recent years in a variety of contexts, including in the energy, hotels, real estate and other industries. Still, the Aecon lesson is clear; foreign investors and their counsel will be well advised to consider the deal-specific regulatory and political risks arising from any particular proposed transaction, particularly with a Canadian federal election upcoming in 2019.