Ingram: Hydro One income trust makes sense
BY MATHEW INGRAM
15:58 EDT Wednesday, May 01, 2002
To no one's surprise, the Ontario government's last-minute public hearings into the privatization of Hydro One — set up after a court ruling derailed the utility's IPO — got off to a rocky start on Tuesday. Energy Minister Chris Stockwell got hot under the collar after observers started heckling him, and departed in a huff. And a suggestion that Ontario might consider making Hydro One an income trust instead of doing a regular IPO drew howls of derision from Bay Street, and cries of "amateur hour."
There's no question that Mr. Stockwell packing up his briefcase and stomping off, like a high-school principal getting booed during an assembly, is pretty childish behaviour. No doubt the minister and his cohorts are feeling stressed because the Hydro One IPO — widely considered a slam dunk until recently — has been about as well organized as a neighbourhood garage sale. But why such scorn for the possibility of an income trust?
The minister was a little vague on what he was talking about exactly. He said the assets could be sold as a kind of long-term lease, in which the province would still own the assets, but sell the right to the income from the power lines — the 'grid' — that Hydro One operates. This idea was apparently based on a letter from the chairman of the Canadian Medical Discoveries Fund, who said that turning Hydro One into an income trust "meets the objectives of many Ontarians and most thoughtful critics."
The two options — lease and income trust — are slightly different, although both achieve the same objective. A long-term lease was the strategy used for Highway 407, in which the toll highway was effectively sold to a Spanish-led consortium, including Quebec's SNC-Lavalin, for $3.1-billion. The sale was a 99-year lease, giving the consortium the right to the flow of income from the highway in return for operating the road, with the proviso that ownership would eventually revert back to the province.
An income trust is similar to a mutual fund, and has been used by companies to spin off or sell a wide variety of assets — including coal mines (Luscar Coal Income Fund), iron ore mines (Labrador Iron Ore Fund), refrigerated warehouse operations (Versacold), propane distribution (Superior Propane), oil sands (Canadian Oil Sands) and even fast-food (A&W Restaurants was spun off into an income trust recently). A company sells trust units to investors, who then receive the income from the operation.
Some of the brokerage firms who were working on the Hydro One IPO immediately scoffed at the income trust idea. They said a trust or long-term lease wouldn't work because the utility wouldn't be able to raise financing in the future to maintain or expand the transmission network — including building "inter-ties" between Ontario's grid and the grids in nearby states and provinces, which is seen as crucial for a healthy power market. They said it would also make it difficult to buy other power assets.
"The concept wouldn't quiet critics of the government plans and doesn't address most of the important issues, so it's just political window dressing," one investment banker said. Another called it a "truly stupid idea," and said it would tie the utility's hands by depriving it of cash and handing the money over to shareholders. Bay Street sources also griped that even talking about anything other than an IPO was undoing all the work that underwriting firms had done preparing for the issue already.
"The last thing you ever, ever, ever do... is speculate about a different structure than the one under consideration," one source told the Financial Post. "This is an inane, unsophisticated and damaging thing to do." Whenever someone from Bay Street calls something "unsophisticated," you know they're mad — but in this case, unsophisticated seems to be shorthand for unco-operative, because the province might decide to do something other than what the Premier's friends at the brokerage firms want.
Would an income trust be such a bad idea? Not really — in fact, it might make a nice middle-ground alternative. It would bring in billions in revenue for the province to use in paying down Ontario Hydro's debt, but it might also be more acceptable to critics of an IPO. For one thing, the cash flow would go directly to unitholders, many of whom would be Ontario residents (who would benefit from the tax advantages of income trusts) rather than financing all sorts of grand private-sector expansion plans.
In many ways, a power distribution company is an ideal candidate for an income trust. Since it has a virtual monopoly on the transmission of electricity in Ontario, Hydro One has a relatively stable and dependable stream of income, although obviously there would be demand-related peaks and valleys. And contrary to what some of the idea's critics suggest, income trusts can raise funds to invest in the maintenance and expansion of their assets, just as regular publicly traded companies do.
Bay Street may have its heart set on an IPO, but that doesn't mean Ontario shouldn't consider other alternatives.
E-mail Mathew Ingram at mingram@globeandmail.ca
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