It first needs to be acknowledged that unlike Alcan, Inco or even MacDonald Dettwiler (MDA), BCE is a federally regulated company, and is regulated by no less that four Acts of Parliament. In fact BCE came into existence as a holding company, by way of an Act of Parliament, the Bell Canada Act.
Even a strict interpretation of the policy objectives of the various acts that govern BCE would conclude that a leveraged buyout of BCE,, as presently contemplated, contravenes these stated policy objectives. The point simply being, that the political side of Ottawa has moral jurisdiction over this pending transaction and yet is doing nothing whatsoever to mitigate its negative impact on Canadians. If that “jurisdiction” weren’t enough, Ontario Teachers’ is also subject to federally sanctioned regulations concerning a pension plan’s voting ownership of a corporation that Teachers’ has gone to great lengths, albeit inordinately crude lengths, to circumvent.
So what are the alleged “hardships” that Canadians will suffer as a result of the LBO of BCE?
(1) Job Layoffs: It is clear from statements made by BCE’s new incoming CEO, George Cope, that an integral part of the Purchasers 100 day plan is to follow the standard operating practice of private equity which is to layoff employees. BCE is reported to be laying off some 2,000 middle management within BCE. These are what politicians like to call “knowledge workers”. The same “knowledge workers” that the Government of Canada referred to that it hoped would be hired by Bombardier for their C-series jet. That program hopes to hire as many as 3,000 “knowledge workers”. That was the justification for a $350 million federal loan package for Bombardier and another $200 million in government grants.
If it took $350 million of federal loans to generate the prospect of 3,000 new “knowledge worker” jobs, then what is the cost of losing 2,000 knowledge workers at BCE? You won’t like the answer, as these are jobs that Canadian tax payers are paying to lose.
Why is Ottawa prepared to lend $35o million in the hopes of securing 3,000 jobs, while at the same time it oblivious to losing $800 million per year in federal taxes (see (2) below) with the result of losing 2,000 jobs. It makes no sense whatsoever.
(2) Loss of federal tax revenue: Not only are some 2,000 jobs being lost at BCE because of the LBO and the imperative for above average investment retiurns by its new owners, there is also the significant loss of federal tax revenue, arising from the massive interest payments ( that are tax deductible) required to service the $44 billion mountain of BCE’s leveraged buyout debt. I estimate the ANNUAL loss of taxes to be $793 million. Other reports that have appeared in the Financial Post and elsewhere have pegged this annual tax loss at $1 billion. The loss of taxes by Ottawa is exacerbated by the provision in Flaherty’s Budget 2007 that ELIMINATED the withholding tax paid to Ottawa by foreign providers of debt. BCE’s leveraged buyout providers are all foreigners: Citibank. Royal Bank of Scotland and Deutsche Bank
(3) Increased cost of phone service/reduced competition: Canada is allowing its main telecom operator to go down a path that no other global telecom company of a peer nature has gone down, namely degrade itself into a junk bond issuer. This degradation is being done for strictly financial engineering purposes. It did not arise because of the funding of major new capital investment. It is simply a technique that produces leveraged returns to the new owners of the now narrow sliver of BCE’s equity.
Meanwhile telecom is a highly capital intensive business and a business with rapidly changing technology. How does turning BCE into an LBO company address that reality. By definition an LBO company has the highest conceivable cost of capital of any form of capita; structure. BCE’s cost of debt will increase by over 240 basis points vis-a-vis the Catalyst Recap. On $34 billion of new debt, this 240 basis points translates into an additional burden on the company of $816 million a year. The 2,000 job layoffs may offset $200 million of this new burden, leaving a $616 million hole to fill. Who will fill that hole? It can only come from one source: the consumer. Ottawa and Industry Canada can share the moral hazard associated with raising the cost of telecom service to Canadians by an annual amount of at least $616 million for the privilege of what? Laying off 2,000 “knowledge workers”? The privilege of losing $800 - $1 billion of tax revenue.
(4) General Motors revisited: The auto industry is in an all out recession. Oshawa has paid a price. I found it intriguing that GM Corp announced yesterday that they will be implementing a program of dividend suspension, job layoffs and possible sale of divisions to contend with their hardships. Strangely these are exactly the measures that BCE is going to or has undertaken as a result of its pending leveraged buyout: dividend suspension, job layoffs and possible sale of divisions. What is wrong with this picture? It is as if Ottawa, through its benign neglect has wished a GM upon Canada’s telecom sector? Recessionary affects by choice? Almost like masochistic economic policies.
(5) So who benefits? Many would argue that Ottawa should not impede a transaction that allows investors to attain full value for their shares. That didn’t stop MDA from being blocked by Stephen Harper last month. And MDA is not even federally regulated like BCE. meanwhile MDA did not have the luxury of performing a Catalyst recap like BCE as an alternative means to achieve full valuations. The Catalyst recap would increase BCE’s payout to shareholders by 74% and increase the stock’s value to north of $42.50 in a tax friendly manner (70% rollover versus 100% taxable)
The BCE LBO is a transaction that is a case of the wrong transaction at the wrong time. It’s time for Ottawa to assert itself and place the interests of the Canadians they are elected to represent ahead of the pension obligations of Ontario Teachers’ who are breaking the clear intent of their pension regulations in the structuring of this so called “deal”.
Wednesday, July 16, 2008
Question for Ottawa: Should Canadians at large be asked to suffer hardships in order to fund the pension obligations of Ontario Teachers’?
Posted by Fillibluster at 11:59 AM