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Government won’t budge on trusts Canadian finance minister digs in on plans to tax income trust distributions, but promises early ruling on trust growth; Pengrowth raises hopes with ConocoPhillips deal's ‘comfort letter’ from Flaherty, acquisition largest in Canada trust history Gary Park For Petroleum News
Canadian Finance Minister Jim Flaherty is unwavering in his message to income trusts — they will lose their tax exempt status in 2011 and nothing will persuade the government to shift from that course.
In recent meetings with the trust industry and in public statements, Flaherty said all that is on the table right now is the details of how the move will be carried out.
“We are having discussions with respect to implementation issues which are important to achieve ... the goal of fairness in taxation so that whether one has a corporate entity or a trust entity they would be treated the same for tax purposes,” he told the House of Commons.
Flaherty said the guidelines should be made public before Christmas and would operate until 2011, when existing trusts will start paying a 31.5 percent tax (18.5 percent federal and 13 percent provincial) tax on their cash distributions to investors.
One of the most anxiously awaited measures will deal with any limits the government may impose on the trusts’ ability to grow through the four-year transition period.
Pengrowth deal got ‘comfort letter’ To that end there was a sense of relief Nov. 29 when Pengrowth Energy Trust emerged as the successful bidder for C$1.02 billion worth of ConocoPhillips upstream assets.
It was a deal that was accompanied by a “comfort letter” from Flaherty’s department, which indicated the ConocoPhillips acquisition — the largest in the history of a Canadian oil and gas trust — would not be considered “outside the scope of normal growth,” Pengrowth said.
To date, the government has said only that it will not allow “undue growth,” without precisely defining that term, although there have been rumors that it will cap expansion at 15 percent.
Whether true or not, Pengrowth avoided colliding with that limit by announcing it plans to sell 23 million new trust units, increasing its equity by 11 percent.
But the government letter requires Pengrowth to unload a portion of the acquired properties covering production of 7,700 barrels of oil equivalent per day in non-core areas.
Leslie Lundquist, Bissett Income Fund manager, told reporters the deal suggests the government will not interfere with the normal course of business by trusts.
She said the first test case since the Oct. 31 announcement on ending the tax moratorium “went swimmingly.”
Mission awaiting guidelines Not everyone is ready to accept that interpretation.
Mission Oil & Gas is considering a C$760 million takeover by Crescent Point Energy Trust, which was first announced almost two months ago.
Mission Chief Executive Officer Trent Yanko said uncertainty still persists and, although the Pengrowth ruling was encouraging, “we’re still in a wait-and-see mode” until Flaherty releases the official guidelines.
The ConocoPhillips deal was the latest in a rapid fire series of transactions by Pengrowth, which bought ExxonMobil’s properties in west-central Alberta for C$475 million in September and recently negotiated a C$1.1 billion stock-swap merger with Esprit Energy Trust, adding 44,000 barrels of oil equivalent per day in production and 153 million barrels of oil equivalent in proved and probable reserves.
The ConocoPhillips acquisition involves 21,000 boe per day and 51.4 million boe of proved conventional reserves, previously held by Burlington Resources before its takeover by ConocoPhillips.
Pengrowth estimated the acquisition cost averaged C$48,000 per flowing barrel, an abrupt cooling from earlier deals this year which pushed the average towards C$80,000 and above C$100,000 in a couple of cases.
Other indicators could come from the disposal of other assets already on the market, including 70,000-80,000 boe per day on offer by Husky Energy, Talisman Energy and Dominion Resources, while at least another 20,000 boe per day are being marketed outside the public spotlight.
Buyers’ market Volumes of that size, in an environment of low natural gas prices, escalating upstream costs and financing difficulties, have created the first buyers’ market in a long time in Canada.
The test will be whether trusts try to take advantage of these conditions or whether there is a comeback by more traditional E&P companies.
Meanwhile, after a month of venting by some trust leaders, a sense of quiet reality seems to be taking hold as trusts ponder whether their future lies in a merger, a sell out, a stronger focus on building reserves through the drill bit rather than acquisition, or a return to the conventional sector.
In the initial reverberations, trusts lost an average of about 23 percent of their market value and have now regained about one-third of that loss.
Calgary-based investment dealer Peters & Co. has suggested that if the government imposed restrictions on the ability of trusts — who have accounted for about C$33.7 billion or 41 percent of acquisitions so far this year — the door could be opened to revival of conventional junior E&P companies, assuming that asset values will decline as the impact of trusts diminishes.
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