Canadian LPs Take Outsized Role In PE

The media spotlight on Canada of late has not been due to the likes of Celine Dion (for which we can all breathe a collective sigh of relief), but as a result of the prowess of Canada’s public pension plans in recent high profile mergers and acquisitions transactions.

Gone are the days where the mention of pension plans would draw yawns from the investment community. Precipitated in part by the need to diversify plan asset classes, the innovative re-structuring of Canadian public pension plan governance models, and, in the Canadian buyout context, strategic considerations of foreign buyers to address regulatory hurdles, Canadian public pension plans have evolved as new stars on the private equity scene and have developed into some of the world’s most dynamic private equity investors and investment partners.

The past two years have witnessed an unprecedented level of M&A activity worldwide and Canada is no exception. In the first three months of 2007, there were 483 deals announced in Canada with an aggregate value of 66 billion Canadian dollars ($63 billion), continuing a six-quarter trend of approximately 500 announced transactions per quarter. Of the first quarter transactions, 14 of the deals had values over 1 billion Canadian dollars. Four of the most prevalent participants in this boom have been Teachers Private Capital, the private equity investing entity of C$106 billion Ontario Teachers Pension Plan; CPP Investment Board, the private equity investment entity of the C$116 billion Canada Pension Plan; OMERS Capital Partners and Borealis Infrastructure, the private equity investment arms of the C$48 billion Ontario Municipal Employees Retirement System; and Caisse de dépôt et placement du Québec, the C$143 billion investing entity for a number of Quebec depositors, including the Quebec Government and Employee Retirement Plan. Other active plans have included the C$28 billion Public Sector Pension Investment Board, the investing entity for funds of the federal public service, Canadian Forces and the Royal Canadian Mounted Police, and the C$83.4 billion British Columbia Investment Management Corp., the investing entity for a number of British Columbia public sector pension plans and government bodies.

The sophistication of Canada’s public pension plans was most recently exemplified in the 51.7 billion Canadian dollars agreement to acquire telephone icon BCE Inc. earlier this year. The deal tops the charts as the largest leveraged buyout attempted to date. The heated bidding war included a number of consortia and, other than the price tag, the most notable feature of the battle was the active involvement of Canadian public pension plans in each competing group. The winning bid was stickhandled by Teachers Private Capital, BCE Inc.’s largest shareholder, which partnered with Providence Equity Partners and Madison Dearborn Partners. Two competing bids were led by CPP investment Board, Kohlberg Kravis Roberts & Co. and Onex Corporation (and included Caisse de dépôt and Public Sector PIB at one stage); and by Cerberus Capital Management LP and Hospitals of Ontario Pension Plan. Following on the heels of the biding war for BCE Inc., it was reported in July that an offer for one of Canada’s pre-eminent railway companies, Canadian Pacific Railway, was also being contemplated by a consortium including Caisse de dépôt, Brookfield Asset Management Inc. and Goldman Sachs Group.

While investments by Canada’s pension plan have covered a wide spectrum of industries, one area in which they have been increasingly involved is infrastructure investments, including utilities, roads, bridges and ports. Infrastructure assets can be attractive to pension plans due to their long-term investment horizon and the possibility of stable returns. Examples of this infrastructure investment activity include the recently completed $5.3 billion acquisition of Associated British Ports Ltd., the U.K.-based ports company, by Borealis, which partnered with a global consortium that included Goldman Sachs, the government of Singapore’s pension plan and Infracapital Partners. In addition, Teachers Private Capital recently agreed to acquire up to 100 percent of Esval S.A., Chile’s third-largest public water and wastewater company. The deal represents Teachers Private Capital’s second investment in the Chilean water sector. Infrastructure appears to be a growing asset class for many of Canada’s pension plans, with CPP Investment Board, for example, reporting that it is seeking to complete four to six large scale infrastructure transactions a year by 2010.

Behind The Scenes

Widespread participation by Canada’s pension plans in such complex transactions, in terms of both large investment dollars and strategic deal direction, would not have been possible a decade ago.

A number of factors have led to this investment clout. The attractive potential returns of private equity investments have drawn Canada’s pension plans away from more conservative bond and equity asset classes. For example, OMERS and Caisse de dépôt reported that in 2006 they had rates of return from their private equity investments of 17.7 percent and 22 percent, respectively. In addition, the collapse of the equity markets in 2000 led to a desire to diversify investments. As a result, Canadian pension plans, among the largest holders of pension assets in the world, are now allocating a greater proportion of their assets to private equity investments and are an extremely valuable partner and source of capital for private equity transactions. CPP Investment Board, for instance, reports that since 2001 it has committed a whopping 20 billion Canadian dollars to private equity investments and has a portfolio of over 96 private equity funds.

The private equity investments of Canada’s pension plans range from passive limited partner investments in private equity funds to co-investments with private equity funds and active direct and co-sponsored buyouts. Initial LP fund investments have created excellent partnering opportunities for the plans, acting as a springboard for long-term co-investment deal relationships that can be attractive due to reduced management and transaction fees and, depending on the deal structure, more control over investments. This approach differs significantly from that of many U.S. pension funds, which typically do not play an active role in investments and have tended to rely more on traditional investment strategies such as bonds and equities. An even more uniquely Canadian strategy is the reported initiation by certain pension plans of their own funds, including OMERS’s consideration of a private equity fund that would permit smaller Canadian pension plans to invest in infrastructure assets.

A number of Canadian pension plans have also developed innovative governance structures resulting from amendments to their governing laws. These have allowed for the creation of independent investment entities or crown corporations. Teachers Private Capital was at the forefront of this reform following amendments to the Teachers’ Pension Act in 1991. Those amendments created the Ontario Teachers Pension Plan Board, a separate and independent corporation to manage the plan’s investments. Prior to these amendments, the plan’s assets were restricted to investing in Government of Ontario bonds. Canada Pension Plan also restructured its operations in 1997 to create the CPP Investment Board, a crown corporation, to oversee and effect its investments pursuant to the Canada Pension Plan Investment Board Act. In June of 2006, the new OMERS Act continued the Ontario Municipal Employees Retirement Board as the OMERS Administration Corporation, an independent corporation responsible for the plan’s governance. In connection with this structural reform and the increased focus on private equity, a number of Canada’s pension plans have now developed significant expertise in the field, building talented groups of in-house investment professionals to source and execute transactions, as well as attracting high-profile and experienced individuals to sit on their governing boards.

In addition, Canada’s pension plans have recently been able to expand the geographical scope of their investments. Amendments to the Pensions Act (Canada) in 2005 that eliminated the 30 percent cap on the amount of foreign investments held by Canadian pension plans have also facilitated pension plan investments in large international transactions, exemplified in CPP Investment Board’s C$1.05 billion contribution to a C$4.6 billion friendly takeover of Britain’s water utility company AWG PLC. It has also been reported that certain Canadian pension funds have requested the provincial government to revisit the Pension Benefits Standards Act, which prohibits pension plans such as Teachers Private Capital and OMERS from owning shares in a corporation to which are attached more than 30 percent of the votes that may be cast to elect directors. This restriction can create costly complications in the structuring of transactions.

Due to foreign ownership restrictions in a number of protected industries in Canada, Canada’s pension plans can be valuable strategic partners for foreign acquirors seeking to navigate regulatory hurdles. Apart from telecommunications (as exemplified in the BCE bid), examples of these industries include financial institutions, mining, broadcasting and newspapers. The value of strategic partnerships is further underscored given that the growing internationalization of M&A in Canada has resulted in calls for government intervention to protect Canadian companies. This May, the Canadian government announced a review of its policies regarding foreign acquisitions of Canadian companies, with a focus on acquisitions by foreign state-owned firms. This comes amid increased public concern over the loss of Canadian head offices and corporate tax revenue. New measures may include amendments to the Investment Canada Act, which already provides for the review of transactions by foreign acquirors over certain dollar-specified thresholds, to introduce a review on grounds of national security or the addition of a national interest standard.

Canada’s public pension plans have proven to be world-class private equity investors and private equity fund partners. With the increased independence and investment flexibility of pension plans, as well as greater allocations of plan assets to private equity, it appears that this trend will continue in the future and perpetuate the investment dynamism exhibited by Canada’s pension plans to date.

Jamie Koumanakos is a senior associate in the New York office of Blake, Cassels & Graydon LLP. Koumanakos practises corporate and commercial law with a focus on private equity transactions, including Canadian and cross-border M&A and private equity fund investments and co-investments. He can be reached at 212-893-8323 or