Maple Leaf Memo
Many Ways To Skin A Tax
The Tax Fairness Plan, Finance Minister Jim Flaherty’s levy on income trust distributions at the entity level, now has the force of law. The new tax–devised without consultation, announced without warning–threw Canada’s financial markets into upheaval and harmed plenty of US-based investors as well.
Canada’s parliament has adjourned for the summer, and we therefore get to enjoy a stay from further damage, at least until October.
Some income and royalty trusts that have strong earnings growth potential have stated that they see no need to alter their organizational structure to account for the pending tax. Enerplus Resources and Advantage Energy Income Fund, among others, have significant tax pools that will defray any potential tax on distributions well beyond 2011.
Following the enactment of Bill C-52, the budget implementation legislation, Enerplus released a statement renewing its commitment to its yield-based model. We’d reported on a conversation we had with senior members of Enerplus’ management and investor relations teams where the trust’s intent was made clear, but here it is in Enerplus’ own words:
It’s easy to forget about or play down the relative advantage accruing to well-run trusts based on the tax window. In an investing world where yield is king, the shares in businesses that emphasize paying their shareholders have tremendous upside potential.
Many trusts have gone private, with the assistance of private-equity financing, or have been acquired by strategic industry players.
CCS Income Trust is the latest to announce a deal. The Calgary, Alberta-based oilfield waste management services outfit agreed to be bought by a management-led group for about CD3.5 billion. Unitholders will receive CD46 per trust unit; founder and CEO David Werklund will get CD45.50 for each unit he sells.
The price represents a 21 percent premium on the closing value of CCS units the day before the announcement. The Werklund-led investor group includes CAI Capital Partners, Goldman Sachs Capital Partners, Kelso & Co, Vestar Capital Partners, British Columbia Investment Management Corp and OSS Capital Management LP. The deal is expected to close during the fourth quarter.
Werklund downplayed the role of the pending tax as a motivating factor; this is as much a strategic move to enable the privateers to leverage CCS’ dominant Canadian position into a bigger US presence.
As part of its strategy to build the world’s leading logistics service for frozen food, Iceland-based Eimskip Holdings has ventured into Canada to snap up Versacold Income Fund and Atlas Cold Storage Income Trust. The two deals have made it the largest frozen-foods handler in the world. Eimskip is now looking to expand into the US.
Others have merged within the same industry in order to bulk up and realize synergies. PrimeWest Energy Trust agreed to acquire Shiningbank Energy Income Fund in a share exchange.
The two trusts will operate as a single trust under the PrimeWest name. Both sets of managers and directors will still be involved. PrimeWest and Shiningbank say combining will cut the cost of raising capital, boost liquidity for unitholders and lower oil and gas development costs.
The new PrimeWest will have proven and probable reserves of about 280 million barrels of oil equivalent and would have produced about 66,000 barrels of oil equivalent a day during the first quarter. Based on those numbers, it would be the fifth-largest income trust.
The deal is as much about natural gas prices as it is about the new tax. Output for the combined trust will be weighted approximately 70 percent to natural gas and 30 percent to crude oil.
The merged company would extend PrimeWest’s current reserve life to 11.5 years from 9.8 years. About 4,000 barrels of oil equivalent per day produced from noncore properties will probably be sold after the deal closes. PrimeWest intends to boost its distribution 3.3 percent.
One avenue pursued by just a few so far is to convert to a conventional corporate structure during or just after the four-year transition period. True Energy Trust tried to convert into a traditional corporation, but unitholders rejected the proposal.
And here’s an intriguing possibility: Many oil and gas trusts have operations in the US, assets that would look pretty good wrapped in a publicly traded partnership package. Provident Energy Trust is the only Canadian oil and gas company to have issued master limited partnership (MLP) units south of the border. Provident converted its US assets into MLP units in September 2006 as BreitBurn Energy Partners, prior to Ottawa’s announcement of the income trust changes.
Harvest Energy Trust is more vocal about the prospect. Most Canadian energy trusts get their entire cash flow from oil and gas production, but 40 percent of Harvest’s cash flow comes from its US refinery.
Yet another possibility is to convert an existing trust to a new structure whereby investors would directly hold both an equity and a debt security in the underlying business rather than holding trust units. TimberWest Forest Corp and Atlantic Power Corp trade publicly as so-called stapled shares.
This structure could largely replicate the economic benefits of an income trust. However, it’s unclear whether the government would seek to apply the anti-avoidance rules announced as part of the proposals to eliminate the effectiveness of these structures.
The Roundup
Oil & Gas
Enterra Energy Trust (ENT.UN, NYSE: ENT) has elected to change its classification for US federal income tax purposes from a partnership to a corporation. Generally, a US unitholder won’t recognize a gain or loss for US federal income tax purposes because of this change in classification.
The change in classification simplifies the tax analysis and reporting by the trust for US purposes. Distributions made prior to July 1, 2007, have been regarded as dividends for US federal income tax purposes and will continue to qualify.
Enterra will continue to issue form 1099-DIVs to all registered US unitholders for year-end reporting purposes. For 2007, Enterra 1099s will show that 100 percent of the distributions are taxable as qualifying dividends eligible for the 15 percent withholding tax rate. Enterra Energy Trust is a sell.
Freehold Royalty Trust (FRU.UN, FRHLF) is buying royalty interests on 345,000 acres of land in Alberta and Saskatchewan for approximately CD60.7 million. The properties are expected to add approximately 550 barrels of oil equivalent per day to its production base as of September 1.
Production is weighted 51 percent to natural gas and 49 percent to light oil and natural gas liquids. There are no operating and capital costs or third-party royalties associated with the production acquired. The annualized cash flow was approximately CD9.5 million during 2006.
Freehold will pay for the acquisition with existing credit facilities; its debt-to-cash flow ratio will be approximately 1.3 times after the deal. Sell Freehold Royalty Trust.
Gas/Propane
Energy Savings Income Trust’s (SIF.UN, ESIUF) board of directors has approved a 4.5 percent distribution increase to 9.7 cents Canadian per unit per month, or CD1.165 annualized, effective for the distribution payable on July 31, 2007, to unitholders of record at the close of business on July 15, 2007.
The Toronto-based marketer of deregulated natural gas and electricity also announced the rollout of its Green Energy Option. The package will allow residential homeowners and small business owners the opportunity to designate that all or a portion of their electricity purchases are generated from green sources.
The product will initially be available in Ontario and Alberta, with introduction into New York and Texas expected during the current fiscal year. Buy Energy Savings Income Trust up to USD16.
Natural Resources Trust
PRT Forest Regeneration Fund’s (PRT.UN, PFSRF) incumbent board of trustees, consisting of Colin Dobell, George Stevens and Allan Laird, were re-elected by 59 percent of the ballots cast, versus 41 percent for a proposed alternate slate of trustees.
The trustees also received direction from the unitholders to re-elect the board of directors of PRT, the fund’s operating subsidiary, comprising three trustees plus John Kitchen, president and CEO of PRT, and Chris Worthy, a director of PRT Management. Hold PRT Forest Regeneration Fund.
The Tax Fairness Plan, Finance Minister Jim Flaherty’s levy on income trust distributions at the entity level, now has the force of law. The new tax–devised without consultation, announced without warning–threw Canada’s financial markets into upheaval and harmed plenty of US-based investors as well.
Canada’s parliament has adjourned for the summer, and we therefore get to enjoy a stay from further damage, at least until October.
Some income and royalty trusts that have strong earnings growth potential have stated that they see no need to alter their organizational structure to account for the pending tax. Enerplus Resources and Advantage Energy Income Fund, among others, have significant tax pools that will defray any potential tax on distributions well beyond 2011.
Following the enactment of Bill C-52, the budget implementation legislation, Enerplus released a statement renewing its commitment to its yield-based model. We’d reported on a conversation we had with senior members of Enerplus’ management and investor relations teams where the trust’s intent was made clear, but here it is in Enerplus’ own words:
We intend to continue our yield-oriented distribution model given our belief that investor demographics, the demand for yield product and our asset base will continue to support such a model with a premium valuation;
We intend to continue our existing focus on lower risk energy production, long life and low decline assets, and large scalable resource plays as we believe this approach is consistent with a successful oil and gas business and a yield-oriented model;
We intend to continue our disciplined acquisition strategy as the normal growth parameters outlined in the legislation and the strength of our balance sheet support active involvement in the M&A market in the U.S., Canada, and potentially internationally;
We see significant value in the four-year tax exemption period and would be hesitant to make major changes to our structure during this period without compelling reasons to do otherwise that we don’t currently foresee; and
We estimate that as of December 2006, we had tax pools of approximately $1.9 billion.
We expect to maximize the preservation of and possibly build those pools in the next four years in order to maximize the tax shelter available post-2010.
We intend to continue our existing focus on lower risk energy production, long life and low decline assets, and large scalable resource plays as we believe this approach is consistent with a successful oil and gas business and a yield-oriented model;
We intend to continue our disciplined acquisition strategy as the normal growth parameters outlined in the legislation and the strength of our balance sheet support active involvement in the M&A market in the U.S., Canada, and potentially internationally;
We see significant value in the four-year tax exemption period and would be hesitant to make major changes to our structure during this period without compelling reasons to do otherwise that we don’t currently foresee; and
We estimate that as of December 2006, we had tax pools of approximately $1.9 billion.
We expect to maximize the preservation of and possibly build those pools in the next four years in order to maximize the tax shelter available post-2010.
It’s easy to forget about or play down the relative advantage accruing to well-run trusts based on the tax window. In an investing world where yield is king, the shares in businesses that emphasize paying their shareholders have tremendous upside potential.
Many trusts have gone private, with the assistance of private-equity financing, or have been acquired by strategic industry players.
CCS Income Trust is the latest to announce a deal. The Calgary, Alberta-based oilfield waste management services outfit agreed to be bought by a management-led group for about CD3.5 billion. Unitholders will receive CD46 per trust unit; founder and CEO David Werklund will get CD45.50 for each unit he sells.
The price represents a 21 percent premium on the closing value of CCS units the day before the announcement. The Werklund-led investor group includes CAI Capital Partners, Goldman Sachs Capital Partners, Kelso & Co, Vestar Capital Partners, British Columbia Investment Management Corp and OSS Capital Management LP. The deal is expected to close during the fourth quarter.
Werklund downplayed the role of the pending tax as a motivating factor; this is as much a strategic move to enable the privateers to leverage CCS’ dominant Canadian position into a bigger US presence.
As part of its strategy to build the world’s leading logistics service for frozen food, Iceland-based Eimskip Holdings has ventured into Canada to snap up Versacold Income Fund and Atlas Cold Storage Income Trust. The two deals have made it the largest frozen-foods handler in the world. Eimskip is now looking to expand into the US.
Others have merged within the same industry in order to bulk up and realize synergies. PrimeWest Energy Trust agreed to acquire Shiningbank Energy Income Fund in a share exchange.
The two trusts will operate as a single trust under the PrimeWest name. Both sets of managers and directors will still be involved. PrimeWest and Shiningbank say combining will cut the cost of raising capital, boost liquidity for unitholders and lower oil and gas development costs.
The new PrimeWest will have proven and probable reserves of about 280 million barrels of oil equivalent and would have produced about 66,000 barrels of oil equivalent a day during the first quarter. Based on those numbers, it would be the fifth-largest income trust.
The deal is as much about natural gas prices as it is about the new tax. Output for the combined trust will be weighted approximately 70 percent to natural gas and 30 percent to crude oil.
The merged company would extend PrimeWest’s current reserve life to 11.5 years from 9.8 years. About 4,000 barrels of oil equivalent per day produced from noncore properties will probably be sold after the deal closes. PrimeWest intends to boost its distribution 3.3 percent.
One avenue pursued by just a few so far is to convert to a conventional corporate structure during or just after the four-year transition period. True Energy Trust tried to convert into a traditional corporation, but unitholders rejected the proposal.
And here’s an intriguing possibility: Many oil and gas trusts have operations in the US, assets that would look pretty good wrapped in a publicly traded partnership package. Provident Energy Trust is the only Canadian oil and gas company to have issued master limited partnership (MLP) units south of the border. Provident converted its US assets into MLP units in September 2006 as BreitBurn Energy Partners, prior to Ottawa’s announcement of the income trust changes.
Harvest Energy Trust is more vocal about the prospect. Most Canadian energy trusts get their entire cash flow from oil and gas production, but 40 percent of Harvest’s cash flow comes from its US refinery.
Yet another possibility is to convert an existing trust to a new structure whereby investors would directly hold both an equity and a debt security in the underlying business rather than holding trust units. TimberWest Forest Corp and Atlantic Power Corp trade publicly as so-called stapled shares.
This structure could largely replicate the economic benefits of an income trust. However, it’s unclear whether the government would seek to apply the anti-avoidance rules announced as part of the proposals to eliminate the effectiveness of these structures.
The Roundup
Oil & Gas
Enterra Energy Trust (ENT.UN, NYSE: ENT) has elected to change its classification for US federal income tax purposes from a partnership to a corporation. Generally, a US unitholder won’t recognize a gain or loss for US federal income tax purposes because of this change in classification.
The change in classification simplifies the tax analysis and reporting by the trust for US purposes. Distributions made prior to July 1, 2007, have been regarded as dividends for US federal income tax purposes and will continue to qualify.
Enterra will continue to issue form 1099-DIVs to all registered US unitholders for year-end reporting purposes. For 2007, Enterra 1099s will show that 100 percent of the distributions are taxable as qualifying dividends eligible for the 15 percent withholding tax rate. Enterra Energy Trust is a sell.
Freehold Royalty Trust (FRU.UN, FRHLF) is buying royalty interests on 345,000 acres of land in Alberta and Saskatchewan for approximately CD60.7 million. The properties are expected to add approximately 550 barrels of oil equivalent per day to its production base as of September 1.
Production is weighted 51 percent to natural gas and 49 percent to light oil and natural gas liquids. There are no operating and capital costs or third-party royalties associated with the production acquired. The annualized cash flow was approximately CD9.5 million during 2006.
Freehold will pay for the acquisition with existing credit facilities; its debt-to-cash flow ratio will be approximately 1.3 times after the deal. Sell Freehold Royalty Trust.
Gas/Propane
Energy Savings Income Trust’s (SIF.UN, ESIUF) board of directors has approved a 4.5 percent distribution increase to 9.7 cents Canadian per unit per month, or CD1.165 annualized, effective for the distribution payable on July 31, 2007, to unitholders of record at the close of business on July 15, 2007.
The Toronto-based marketer of deregulated natural gas and electricity also announced the rollout of its Green Energy Option. The package will allow residential homeowners and small business owners the opportunity to designate that all or a portion of their electricity purchases are generated from green sources.
The product will initially be available in Ontario and Alberta, with introduction into New York and Texas expected during the current fiscal year. Buy Energy Savings Income Trust up to USD16.
Natural Resources Trust
PRT Forest Regeneration Fund’s (PRT.UN, PFSRF) incumbent board of trustees, consisting of Colin Dobell, George Stevens and Allan Laird, were re-elected by 59 percent of the ballots cast, versus 41 percent for a proposed alternate slate of trustees.
The trustees also received direction from the unitholders to re-elect the board of directors of PRT, the fund’s operating subsidiary, comprising three trustees plus John Kitchen, president and CEO of PRT, and Chris Worthy, a director of PRT Management. Hold PRT Forest Regeneration Fund.
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