For China, an oil sands investment that can’t be blocked

Share

To anyone else, it might look like just another piece of moose pasture in the Canadian backwoods. But to a Chinese investor, that untouched forest might look like a way to skirt strict regulations on foreign investment in the Canadian energy sector, particularly by state-owned firms.

The rules, established in December, 2012, alongside the $15.1-billion (U.S.) CNOOC Ltd. purchase of Nexen Inc., were followed by a distinct slowing in the flow of foreign money into the Canadian resource sector. In legal circles, they were also followed by a quest to figure out how outside dollars might best flow into Canada.

Now, lawyers who have worked with Chinese state-owned firms say one promising avenue to restart the spending involves buying undeveloped land instead of companies.

"We have looked at acquisitions of pure exploration properties in the resource sector," Peter Glossop, a lawyer with Osler Hoskin and Harcourt LLP, said in Beijing at a seminar on investing in Canadian energy and resources. "Those are not considered businesses usually."

That's a critical distinction because, as Mr. Glossop's colleague Frank Turner said: "This is not a type of transaction that is subject to Investment Canada review."

If it's not technically a business, the takeover restrictions do not apply, meaning full ownership by state firms is still possible.

Foreign companies can buy undeveloped land by bidding at Crown land auctions, or through the purchase of untouched properties from other companies. Each method has downsides: Governments have already auctioned off much of the most promising land in the oil sands and in northeastern British Columbia. And finding a company that owns truly untouched land can be difficult, since even a single exploration well might be enough to convince Canadian authorities that an area qualifies as a business.

But the undeveloped land option is emerging as the legal community pins its hopes on a revival of oil patch deal activity. Encana Corp., Talisman Energy Inc. and a raft of smaller players all have land for sale. And there is new optimism that deals can get done after the $3.1-billion (Canadian) transaction last month that saw Canadian Natural Resources Ltd. buy natural gas assets from Devon Energy Corp.

At the same time, foreign buyers have had more than a year to contemplate the new landscape in Canada, with its effective ban on state-owned enterprises taking over oil sands companies, and increased scrutiny on other deals.

Specifically, the federal government said oil sands takeovers by SOEs must be found to be of net benefit to Canada on "an exceptional basis only," and deals exceeding $330-million will come under automatic review.

"There was an initial visceral reaction to a lot of these policies which is still settling down," said Mr. Glossop. "When people realize there are ways of doing things, it's maybe something they should pursue."

Yet, Canada faces an increasingly difficult job in wooing Asian dollars. Calgary may have been the darling in the runup to the CNOOC deal. But major Chinese investors have turned their interests elsewhere in the past year, most notably to Central Asia, a region that President Xi Jinping visited last year on one of his first foreign trips. China has nurtured the creation of a "Silk Road economic belt," with $46-billion (U.S.) in trade between China and Central Asia in 2012 alone. Direct pipelines from Kazakhstan and Turkmenistan deliver a rising tide of oil and gas into China.

"Chinese investors are shifting to more friendly, although probably sometimes more risky, places – like Africa, Central Asia and South-East Asia," said Xiong Jin, a Beijing lawyer with King & Wood Mallesons who has worked with numerous Chinese firms on foreign natural resources deals. Broader investment cycles are also driving Chinese money into other sectors, such as branded companies and distribution channels for the import of foreign goods, Mr. Xiong said.

At the same time, it's clear that Canada has suffered a long-lasting hit to its reputation as a reasonably simple destination for foreign investment, particularly from China. Diplomats in Beijing have sought to persuade Chinese companies that the door has not been shut. But worries remain. At the Osler event in Beijing, an official with Sinochem, an energy and agriculture giant, said the Canadian definitions of state-owned enterprises seemed "tailor-made" for Chinese firms, smacking of a "double standard."

Mr. Glossop agreed.

He added that Investment Canada officials have been unusually vigilant of late, making frequent requests for information on the backing of even private foreign buyers that are clearly not state-owned. There has also been a rise in the use of "reverse break fees" that could see potential Canadian sellers compensated if foreign buyers can't push a transaction through.

"It is true that it is becoming more difficult to make a significant investment in Canada," Mr. Glossop said.

The Chinese eagerness to spend on the Canadian resource sector hasn't improved with the B.C. government's lengthy vacillation on the terms of a tax regime for exports of liquefied natural gas. An official with China National Petroleum Corp., one of the investors in the Royal Dutch Shell PLC-led LNG Canada project, said the proposed tax stands to "affect all the projects' IRR [internal rate of return] pretty significantly."

Again, the legal minds offered little disagreement. "The B.C. government has to be very sensitive to the fact that this could be a very significant deterrent," said Jack Thrasher, an Osler lawyer with a lengthy background in energy deals.