Shuli Rodal, Peter Glossop, Michelle Lally, Riyaz Dattu, Gajan Sathananthan, Jaime Auron, Peter Franklyn
Oct 5, 2017
It has been an eventful year so far for foreign investment review in Canada. As expected (see our December 2016 Update), liberalization has been the dominant theme. The most noteworthy development has been the significant increase to the financial threshold used to determine whether private-sector investments in Canadian businesses will be subject to “net-benefit” review under the Investment Canada Act (ICA). The threshold began the year at $600 million, but was raised to $1 billion on June 22 (see our June 2017 Update), and to $1.5 billion on September 21 for investors from the European Union (EU), the United States (U.S.) and select other nations that have free trade agreements with Canada, as a result of the implementation of the Canada-European Union Comprehensive Economic and Trade Agreement (CETA).
While the government carefully assesses all investments in Canada from a national security perspective, including those that do not lead to a change of control, the national security review power continues to be used judiciously, as is evident from the release in 2017 of statistics on the national security review process. Canada’s openness to foreign investment in 2017 has notably included some investments from China, which outpaced investments from the U.S. in asset value according to the Investment Review Division’s (IRD) statistics for the 2017 fiscal year (April 1, 2016 to March 31, 2017 (FY 2017)). Finally, although the government has stated its intention to maintain existing protections for the Canadian cultural sector, it has adopted a flexible approach in addressing foreign investment in newer, digital media, most recently through the agreement reached with Netflix.
The most significant change to the ICA in 2017 has been the implementation of higher thresholds for review and approval of transactions under the “net-benefit” provisions of the ICA. On June 22, 2017, the “net-benefit” review threshold for private sector investors from World Trade Organization member states (WTO investors) was increased to $1 billion in enterprise value. The legislation also provides for annual adjustments to be made to the threshold to reflect a GDP-based index, starting on January 1, 2019.
A few months later, the implementation of CETA on September 21, 2017 increased the threshold to $1.5 billion in enterprise value for private sector investors from the EU. As the U.S., Mexico, Chile, Colombia, Honduras, Panama, Peru and South Korea all have free trade agreements with Canada that include a most-favoured nation provision, the threshold for a “net-benefit” review increased to $1.5 billion for private sector investors from those nations as well.
These threshold increases also apply to transactions where the purchaser is not a private sector WTO investor or from one of the countries listed in the above paragraph, but the vendor is an investor that satisfies one of those criteria. However, the threshold changes do not apply to investments by state-owned enterprises, which are still subject to a book value of assets threshold ($379 million in 2017).
These changes will likely result in a significant decrease in the number of investments subject to review under the “net-benefit” provisions of the ICA. As review under the ICA can be time consuming (75-plus days) and approval is typically granted subject to commitments from the non-Canadian investor regarding its operation of the business following closing, the higher threshold will provide investors in Canada with improved timing certainty regarding the completion of acquisitions in Canada as well as increased flexibility in their operation of acquired businesses.
Implementation of CETA
Under CETA, investors from the EU can take advantage of preferred access to the Canadian market, and vice-versa. In addition to the increased investment threshold described above, this preferred access includes the immediate elimination of the vast majority of tariffs applied to transactions in goods and services, as well as other benefits discussed in greater detail in our review of the agreement.
However, investment-specific aspects of CETA, including investor protection and the investor-state dispute settlement mechanism, must be approved by the parliaments of the 28 EU members prior to being implemented. Until this occurs, investors will not be able to invoke the mechanism through which investors can bring a claim against the state outside of national courts.
National security review
The 2016-2017 Investment Canada Act Annual Report (Annual Report) includes statistics on the national security review process, providing insight into a process that has historically been opaque. The Annual Report indicates that national security reviews are rarely conducted, as only five of the 737 investments subject to at least notification under the ICA were formally reviewed for national security reasons in FY 2017. While it continues to be clear that very few transactions are blocked, subject to commitments, or materially delayed due to national security concerns, it should be noted that these statistics do not reflect the full impact of the national security review process. For example, the statistics do not include potential transactions that were abandoned at an early stage due to concerns raised informally. Further, Osler’s experience suggests that the IRD is more actively co-operating with Canada’s national security agencies to informally screen investments prior to determining that no formal national security review will be conducted. The purpose of this increased engagement appears to be an effort to rule out national security concerns. In some cases, it involves asking investors to provide additional information about their businesses and activities on a voluntary basis. Accordingly, identifying potential issues in advance and, where appropriate, proactively addressing them, may help clarify any issues and avoid delays. According to the Annual Report, the three most important factors that led to national security reviews in FY 2017 were:
- the potential for transfer of sensitive dual-use technology or know-how outside of Canada;
- the potential for negative impacts on the supply of critical services to Canadians or the government; and
- the potential to enable foreign surveillance or espionage.
Liberalization with regards to Chinese investment
The current Liberal government’s efforts to encourage foreign investment represent a notable shift from the previous Conservative government. The government is now more open to investment from China. Canada and China are holding exploratory discussions regarding a possible free trade agreement. Chinese investment in Canada, both in terms of number of discrete investments and the aggregate enterprise value of those investments, was second only to investments from the U.S. in FY 2017. In terms of asset value of the investments, total investment from China actually exceeded that of the U.S.
Hytera’s takeover of Norsat International (Norsat) was a recent high-profile example of Canada’s approach to investment from China. Norsat, based in Vancouver, produces satellite equipment and transceivers, including those for military applications. Hytera, a private Chinese firm, proposed a friendly takeover and, despite considerable criticism — including from the U.S. — the transaction was approved by the Canadian government. The approval was granted without a full national security review, instead only requiring a 45-day extension on the standard 45-day initial review period required under the ICA. The lack of a full national security review, particularly in light of the government’s past hesitation in allowing Chinese investors to acquire assets in sensitive industries, was a surprising development and was the subject of considerable media comment in Canada and the U.S. (for example, see this article from The Globe and Mail). While the government’s approach to investment from China continues to evolve, and there continue to be certain types of investments that would be expected to attract a high level of scrutiny, the government’s response to the Norsat acquisition suggests a higher level of comfort with investments from China.
Several other high-profile transactions from Chinese investors were reviewed and approved by the government in 2017. These include Anbang Insurance’s (Anbang) takeover of Retirement Concepts, which operates retirement homes in British Columbia, Calgary and Montréal. Anbang, which is privately owned and one of China’s largest insurers, has faced questions in the U.S. relating to its ownership structure and possible ties to the government of China. The Canadian government approved the transaction as being of a net benefit to the Canadian economy.
In another notable development relating to the review of investment from China in sensitive Canadian industries on national security grounds, the government revisited and approved Hong Kong-based O-Net Communications’ (O-Net) takeover of Montreal-based ITF Technologies, despite the previous Conservative government’s rejection of the same transaction in 2015. As described in greater detail in our Osler Update on the decision, this approval was granted despite O-Net reportedly being 25% owned by the China Electronics Corporation, a Chinese state-owned enterprise. Though the unique facts of the O-Net transaction may limit its precedential value, it does stand as another example of the government’s willingness to work with investors and find solutions in certain circumstances where a viable path to approval previously may not have been possible.
Canada’s treatment of investment from China is diverging somewhat from that of the U.S., where the momentum appears to be towards increased scrutiny of investment from China. According to the recently released report by the Committee on Foreign Investment in the United States (CFIUS) based on the voluntary disclosure provided to it, Chinese investors accounted for more investments than any other nation in 2015, continuing the trend that started in 2012. However, investments from China have been increasingly subject to lengthy reviews, remedial commitments and in a few high-profile cases, disallowed. There has been speculation that Chinese investors may opt to divert investment to jurisdictions that appear to be more welcoming of investment from China, such as the EU or Canada.
On September 28, 2017, Minister of Canadian Heritage Mélanie Joly (Minister Joly) launched Creative Canada, a new policy framework for Canada’s cultural industries. With respect to international investment, the policy advocates an extension of the current protections for domestic industry. When discussing the ongoing NAFTA renegotiations, Minister Joly stated that the government is committed to “maintaining the flexibility for Canadian culture in NAFTA by exempting our cultural industries.” It therefore seems likely that the government will seek to maintain the low threshold of $5 million in book value of assets for a “net-benefit” review of a direct investment in cultural industries (as compared to non-cultural businesses) and that the government will attempt to preserve restrictive policies applicable to certain sectors (e.g., film distribution, newspapers, magazines) in a renegotiated NAFTA, despite likely opposition from the U.S.
That being said, the government has signalled some flexibility when dealing with foreign investors. The announcement at the Creative Canada launch that Netflix has agreed to invest $500 million in Canadian productions over five years — and will not be subject to the same cultural support framework as domestic players in the broadcasting industry — is an indication that the government may be prepared to exercise some flexibility in applying the traditional framework when handling foreign investment in cultural industries, especially those in newer, digital media.