DEIRDRE McMURDY February 22 1993



DEIRDRE McMURDY February 22 1993




On Feb. 11, after the North American stock markets had closed, they began to work the phones. When members of the group of Toronto investment dealers finished three hours later, they had sold off most of the controlling shares in one of Canada’s best-known corporations, brewing and entertainment conglomerate John Labatt Ltd. In a series of speedy and astute transactions, the dealer syndicate had paid Toronto-based resource, real estate and financial services conglomerate Brascan Ltd. $933 million for its 37.3-per-cent stake in Labatt and resold it—even before the public learned about the change the next morning. The strong investor interest in the company was especially remarkable because the Labatt shares went onto the market only two days after an even larger offering. On Feb. 9, the same group of brokers had sold 49 per cent of the shares in forest products giant MacMillan Bloedel Ltd. of Vancouver to the same client list in even less time. That $971-million deal, which removed control of MacMillan Bloedel from the hands of

Noranda Forest Ltd., was the largest of its kind in the history of Canadian capital markets. The historical significance of the two deals, however, extends far beyond their combined $ 1.96billion value.

Indeed, the sale of MacMillan Bloedel and Labatt by the Toronto-based Hees-Edper corporate empire clearly marks the end of an era. After more than a decade as the most domi-

nant and acquisitive force in the Canadian economy, the Edper group is now—literally— losing control. The Bronfman family and it's senior managers have come under mounting pressure and scrutiny from bankers, regulators and disgruntled minority shareholders to address the financial leverage of their complex structure. By selling assets, the group has made a clear attempt to raise capital, reducing both debt and uncertainty. According to group spokesman Senator Trevor Eyton, Edper has now demonstrated the real value in its “treasure chest.”

Despite the determination of Eyton and other Edper managers to present their group as “bulletproof’ following last week’s asset sales, analysts noted that several mitigating factors distinguish those deals. For one thing, the best assets have been sold off first. Said one veteran corporate finance executive, on condition of anonymity: “These are the glamor sales, the easy ones. What follows will be much uglier and much harder.” Edper group managers firmly deny that they are planning any additional asset sales—although they insist that the Labatt and MacMillan Bloedel sales were only in response to exceptionally attractive offers from Bay Street. Edper is, however, still openly seeking a suitor for its financially troubled trust company, Royal Trasteo Inc.

Another influence on the swift

sale of MacMillan Bloedel and Labatt is the current strong demand for stock among large institutional investors. According to federal guidelines, 82 per cent of the shares owned by pension and mutual funds must be Canadian, a requirement that automatically forces money managers to focus on domestic markets. In addition, as interest rates have declined and the economy has shown some signs of recovery, many investors are once again looking to the stock market for higher returns on their capital. Another consideration is that stocks in independent, established Canadian operating companies trade easily and usually command a premium price in the market. As a result, when they were free of their

ill-defined status at the bottom of the Edper corporate pyramid, both MacMillan Bloedel and Labatt proved highly attractive to investors. “I have just placed the biggest order of my career,” said one Toronto investment counsellor. “I not only like Labatt, but losing Edper control

is easily going to be worth 10 per cent in the price up ahead.”

Certainly not all the companies in the group are as stable. Indeed, signs of stress in the Edper pyramid have become increasingly difficult to disguise because the group is heavily exposed to such recessionbattered sectors as real estate and natural resources.

Late last year, Edper-controlled real estate developer Bramalea Ltd. sought court protection from creditors to restructure its $545-million debt-load.

Last month, Royal Trust announced that it was looking for an outside investor to provide it with a capital infusion. Other Edper affiliates, including Calgary-based real estate company Trizec Ltd., are also suffering from the dramatic decline in North American real estate values.

The financial setbacks suffered by several Edper companies have, according to corporate banking sources, resulted in growing pressure on the group. Canadian bankers have been increasingly nervous about their corporate loan portfolios after a number of high-profile business failures, including the Reichmann

family’s real estate development firm Olympia & York Developments Ltd., in the past year. At the same time as bankers have tightened the supply of corporate credit, several key Edper companies have also suffered a sequence of credit-rating downgrades. That has made it more difficult for the group to issue commercial paper and other short-term money-market instruments as an alternative to bank debt.

In step with that capital squeeze, investor confidence in the group and its managers has diminished. As a result, there would be limited interest in any new issues of equity or debt if the Edper managers attempted to raise any additional funds from the public. Indeed, a recent $250-million issue of Brascan convertible debentures fell far below its original price of $50 within weeks of being sold by investment brokers, largely to individual retail shareholders. Said one veteran Toronto-based trader, who spoke on condition of anonymity: “The whole Bronfman group has been turned into a playground for speculators. The only people left are those who are sniffing for clues and betting on when the empire will say uncle.”

Mounting concern about the wider implications of Edper’s volatility has led to open scrutiny by federal regulators, as well as the federal finance department. On the same day that Edper announced the sale of MacMillan Bloedel last week, Michael Mackenzie, federal superintendent of financial institutions, issued a request that all banks and trust companies under his jurisdiction submit detailed reports of their outstanding Hees-Edper loans, as well as any investments in the companies’ numerous public equity and debt issues. According to

preliminary estimates prepared by investment analysts, the Edper group of companies has issued as much as $25 billion in equity and debt, and outside lenders and investors may hold as much as $20 billion.

It also emerged last week that growing uneasiness about the potential collapse of Hees-Edper led the finance department to launch its own review of the group’s financial resources. Following the spectacular failure of O&Y a year ago, Ottawa may be concerned about maintaining the international value of the dollar as well as Canada’s image

with foreign investors. Recent concern about government debt levels and political stability has contributed to a more cautious tone in the Canadian strategies of major Japanese investors.

Despite persistent speculation that the sale of MacMillan Bloedel and Labatt is a response to outside pressures, company managers throughout the empire rigorously deny it. Instead, they are carefully emphasizing what appears to be the new Hees-Edper mantra: small and strong is best. Although there were widespread concerns about the $2-billion debt of Noranda Forest, which sold the stake in MacMillan Bloedel, company president Linn Macdonald said that there was no pressure to sell. He added that the “triggering incident” was an unsolicited purchase offer from the brokerage syndicate for the MacMillan Bloedel shares. “There was no pressure from senior Edper executives to sell,” he said.

Industry analysts, however, say that they remain skeptical of that explanation. Clearly, the company could have commanded a better price for MacMillan Bloedel if it had waited for the battered forest-products sector to recover. Macdonald told Maclean’s Tt was a bird-in-the-hand decision. If we waited until commodity prices improved and the shares got higher, there would have been less potential capital appreciation for investors.”

Although the sudden sale of MacMillan Bloedel apparently took some analysts by surprise, Labatt, by contrast, has traditionally been considered a candidate for sale. Speculation about a sale of control to a U.S. brewer increased last year following the company’s wholesale corporate restructuring, which featured the unloading of several unrelated food assets, including dairy and bakery divisions. At the time, one analyst said that Edper was “cleaning up” Labatt to make it more attractive to a purchaser like U.S. brewer Anheuser-Busch Inc.

When Labatt’s board of directors declared an $860-million special dividend to distribute the proceeds of asset sales directly to shareholders in September, however, outsiders began to focus even more on the Edper group’s apparent need for cash. As the owner of the 37.3-per-cent controlling interest in Labatt,

Brascan was the biggest single beneficiary of the payout, receiving almost $90 million in cash.

Although the Labatt special dividend is not especially controversial in itself, indications are that the company may have acted under direct or indirect pressure from its controlling shareholder. And that is one of the most enduring reservations that analysts have about the interlocked Hees-Edper structure. Critics of the group have frequently claimed that as long as Edper held majority stakes in so many companies, it could appoint directors and influence key strategic decisions, including dividend policy, accounting practices and financial planning. Said Donald Thain, a corporate director and business professor at the University of Western Ontario in London: “If you own the bat and the ball, you can impose all sorts of agendas on the directors because you appointed them.” He added: “That leads to less

rational, professional management overall.” As large blocks of stock are sold into the hands of institutional investors, some observers suggest that the role of professional money managers in Canada may be altered over time. Thain, for one, noted that there is “a huge shift of power to the institutions” and several are starting to follow the U.S. example by taking a keener interest in the management issues affecting the companies in which they have significant investments. But Peter De Auer, a pension fund manager with Ontario Hydro in Toronto said that, except in cases where extreme mismanagement directly affects the value of an investment, he does not expect to become more involved in corporate governance matters. “Portfolio managers are trained to manage money and analyse stocks,” he said. “Very few have an appropriate operat-

ing or management background that would justify tampering in a business.”

Thain said that he applauded the overall return of companies to the hands of a broader base of shareholders—a trend that gathered momentum with the sales of MacMillan Bloedel and Labatt. In the past 18 months, a growing list of Canadian corporations, forced to raise cash, repay debts and refocus their operations during the recession, have turned over their controlling share blocks to capital markets. Last year alone, Noranda reduced its investment in Hemlo Gold Mines Inc., while BCE Inc. sold off its majority investments in TransCanada PipeLines Ltd. and SHL Systemhouse Inc. In the same period, Southam Inc. sold its 30-per-cent stake in Torstar Corp. to a brokerage syndicate led by RBC Securities Inc. Torstar in turn sold its 22.6-per-cent stake in

Southam to Toronto publishing magnate Conrad Black’s Hollinger Inc. for $259 million. As well, Woodbridge Co. Ltd. sold 40 per cent of its holding in the Hudson’s Bay Co. on the market, thus reducing its stake in Hudson’s Bay to 25 per cent from 65 per cent. Said Thain: “For those with financial leverage, the game is now to bail yourself out before the banks get you.”

Whatever role the banks may have played in last week’s developments, a new base of public ownership will clearly bring about several changes at both MacMillan Bloedel and Labatt. Edper-appointed directors are expected to resign from both corporate boards, leaving several key vacancies. Despite a public protest, which institutional shareholders lodged in 1991 over the small number of independent directors, Edper-related appointments have

continued to dominate Labatt’s board. At MacMillan Bloedel, five of 16 directors have Edper affiliations and the company is currently considering candidates to replace them, according to Arthur Gründer, senior vice-president of finance and administration.

Despite any adjustments ahead, senior executives at both companies appeared to be enthusiastic about their release from the HeesEdper complex. George Taylor, president and chief executive officer of Labatt, described the sale of his company’s controlling interest as “positive.” He added that now that “the uncertainty about Brascan is removed, it’s a relief.” And for the other companies that remain under the Edper umbrella, relief may also arrive— literally overnight.