BUSINESS

MERGER WAVE ROLLS ON

HUNDREDS OF CANADIANS FACE THE PROSPECT OF LAYOFFS AS THE TAKEOVER FEVER CONTINUES

D’ARCY JENISH February 6 1989
BUSINESS

MERGER WAVE ROLLS ON

HUNDREDS OF CANADIANS FACE THE PROSPECT OF LAYOFFS AS THE TAKEOVER FEVER CONTINUES

D’ARCY JENISH February 6 1989

It was Week 2 in one of the biggest upheavals to hit corporate Canada in years. Between Jan. 18 and 20, assets valued at $6.7 billion changed hands in mergers that reshaped the country’s brewing, airline and oil industries and involved 12,800 employees. And, last week, two fresh aftershocks came from Canada’s boardrooms. First, Montreal-based Power Corp. of Canada, a conglomerate controlled by Paul Desmarais, announced on Jan. 26 that the giant forest products company Consolidated-Bathurst Inc. (CB)—Canada’s third-largest newsprint producer—will be sold to Chicago-based Stone Container Corp. for $2.6 billion. Later that day, the Toronto Stock Exchange halted trading in Toronto-based Southam Inc., a publisher of major Canadian daily newspapers. Rumors circulated that Desmarais, who has launched several unsuccessful attempts to purchase a major media outlet, was about to take over the Toronto firm. But instead, the cease-trading order was followed by a Southam news release disclosing that 400 employees will be laid off in what some analysts said amounted to a takeover defence.

The CB buy and Southam’s sudden move epitomized the sense of nervous tension and dramatic changes that are raging through Canada’s business community in the emerging era of global markets, international competition and free trade. In the first big merger, Montreal-based The Molson Cos. Ltd. and Toronto-based Carling O’Keefe Breweries of Canada Ltd. pooled their resources to create a $1.6-billion brewing giant. Next, Calgary-based Canadian Airlines International Ltd. announced that it was paying $248 million for Edmonton-based Wardair Inc. Then, Toronto-based Imperial Oil Ltd. announced that it was paying $4.9 billion for Texaco Canada Inc. Consumer advocates, opposition politicians and labor groups immediately denounced the deals because of the increases in corporate concentration, potential job losses and reduced competition.

Under the Free Trade Act, because Stone Corp. is American and the deal was worth more than $25 million, the acquisition is subject to review by Investment Canada, the Ottawa foreign-ownership review agency. But in some circles, the purchase of CB raised new concerns about rising foreign ownership of the economy and the possibility that outside buyers might snap up other Canadian forest products companies. Indeed, several industry analysts argued that market conditions are ripe for more takeovers in that sector.

With the entire pulp and paper sector in the midst of a boom, many companies have earned record profits over the past two years and can barely meet the demand for their products. But because of the cyclical nature of the industry, share prices of forest products companies have been depressed. In fact, CB stock was trading at just $16 to $17 a share last week, and, as a result, Stone Corp. chairman and chief executive officer Roger Stone said that he saw an opportunity and offered $25 each for all outstanding CB shares.

Despite the concerns the flurry of takeovers generated, Power Corp. chairman Desmarais—who once planned to become a major international participant in the pulp and paper industry—insisted that the sale of CB would be good for both employees and shareholders. He noted that Power Corp. will receive about $1.25 billion for its 40-per-cent controlling block of CB. At a news conference held to announce the sale, Desmarais declared: “We are assured that Mr. Stone is not planning to fire anybody. He is going to take the management that is there and the workers and will continue to develop CB.” And of course, said Desmarais, Stone “paid a lot of money” for CB.

But workers at some of the other companies involved in the mergers were less fortunate. Last week, newly created Molson Breweries announced that it will reduce its workforce of 7,500 employees by 1,400 over the next three years. An estimated 500 of those workers will be laid off, while the others will be offered early retirement packages. At the same time, the partners plan to close seven breweries, in St. John’s, Nfld., Montreal, Toronto, Winnipeg, Saskatoon, Lethbridge, Alta., and Vancouver. Spokesmen for both Molson and Carling have argued that the Canadian brewing industry is inefficient by world standards and must be restructured.

During the news conference held last week to announce the CB deal, Stone said that a similar restructuring is occurring in the paper industry on a worldwide basis. He pointed out that close to 40 per cent of the U.S. industry’s assets have changed hands over the past 3-1/2 years. And his company has been one of the biggest buyers. The value of Stone Corp.’s assets surged to $2.8 billion at the end of September, 1988, the latest period for which figures are available, from $457 million in December, 1982, as a result of three major takeovers and several smaller ones. With the acquisition of CB, whose assets are $2.7 billion, Stone Corp. will become the second-largest pulp and paper producer in the world. Said Stone: “It’s an industry, in the worldwide sense, where the big are getting bigger and the small are getting fewer.”

And as the big get even bigger, Canadian shares, as was clearly the case in the CB takeover, appear to be bargain-priced—making Canadian companies easier to take over. Analysts believe some Canadian shares are cheaper because investors believe a downturn in the economy will hit soon. In fact, some analysts say that Southam’s move to cut deeply into its labor force—it had already laid off 500 people in 1988 and now plans to lay off 400 more—is takeover related. The move will make the firm more efficient and boost its share price, making the company more expensive to take over. Indeed, Southam management made it clear last year that it intended to boost the value of its shares.

And forest products analysts contend that there are other factors behind the takeover. Ross Hay-Roe, a Vancouver-based analyst with the brokerage firm McCarthy Securities Ltd., said that the paper and forest products companies incurred heavy losses during the recession of the early 1980s. The industry recovered from the downturn along with the rest of the economy, he added, but it has contributed little new capacity. According to the Montreal-based Canadian Pulp and Paper Association, total shipments of pulp and paper hit nearly 25 million tons last year, a 29-per-cent increase from the 19.4 million tons shipped in 1982.

With demand high and capacity limited, both prices and profits have risen dramatically. Similar conditions have prevailed worldwide, said Hay-Roe, who writes an industry newsletter called The Paper Tree Letter, which he circulates to 1,400 clients in 40 countries. He added that some cash-rich forest products companies are now searching everywhere for competitors that they can buy. In Canada, he said, buyers are finding companies whose shares have been undervalued on the country’s major stock markets because nervous Canadian investors always anticipate that there will be another downturn and, as a result, regularly sell off their holdings. Said Hay-Roe: “Stocks are cheap right now. On the other hand, the industry worldwide is making so much money that the acquisitions are coming from within. They’re buying up the competition.”

While Stone Corp. has taken advantage of those trends to acquire CB, it is the first U.S. integrated forest products and packaging company to make a major purchase in Canada in recent years because of what Stone says are high labor costs and low productivity. James Rowland, publisher of a Montreal-based industry newsletter called The Canadian Paper Analyst, said, “Americans have been bailing out of the Canadian industry over the past 10 years.”

The exodus of U.S. firms is reflected in the fact that American ownership of Canadian pulp and paper industry capacity dropped to 18 per cent last year from 33 per cent in 1978. At the same time, domestic ownership jumped to 66 per cent from 58 per cent. Third-country ownership jumped to 16 per cent from nine per cent, largely because of the 1983 arrival of Fletcher Challenge, New Zealand’s largest industrial corporation.

Fletcher first acquired control of Vancouver-based Crown Forest Industries Ltd. and, after share prices collapsed in late 1987, Fletcher bought up 48 per cent of British Columbia Forest Products. Since then, the New Zealand company has raised its stake in that firm to 69 per cent. The two companies have been formally consolidated under a joint-management organization to become Fletcher Challenge Canada Ltd., which ranks behind only MacMillan Bloedel Ltd. and Abitibi-Price Inc. in size among Canadian forestry firms.

Japanese paper and forest products companies have also begun to make major acquisitions and investments in the Canadian industry. Last year, the Canadian subsidiary of Daishowa Paper Manufacturing Co. Ltd., one of Japan’s largest papermakers, paid $621 million for the Canadian assets of British-based Reed International PLC. Those included paperboard and packaging facilities and a Quebec City newsprint mill.

Daishowa has embarked on its own expansion plans, which include a joint venture to build a pulp mill in British Columbia and a wholly owned $500-million pulp mill in northern Alberta—the province’s first. Located near the town of Peace River, about 400 km northwest of Edmonton, the mill is scheduled to be completed by late 1990.

Late last year, the Alberta government announced that two other pulp and paper mills will be built in the northern parts of the province. One project is a $ 1.3-billion kraft pulp mill that will be the largest of its kind in the world. It will be built by Cranbrook-based Crestbrook Forest Industries Ltd., which is 64-per-cent owned by Japan’s Honshu Paper Co. and Mitsubishi Corp.

But even though some forest industry analysts predict a downturn in demand and some excess capacity in the next two or three years, Stone said last week that bigness is the key to surviving any future recession. “You have to have earning power and the ability to borrow,” he said. “You need a large capital base. You must have scale, distribution, people.” And, in all likelihood, that means that Canadians will witness many more mergers and takeovers that will further change the face of the country’s corporate community.