Canadian utilities and pipeline companies spent the past two years on an $80-billion shopping spree in the United States, their hunt aided by low interest rates and their own high-priced stocks.
Now, for the likes of Hydro One Ltd., Enbridge Inc., AltaGas Ltd. and others, economic conditions are changing – and not for the better. The search throughout the Lower 48 states for assets has turned much more cautious.
Hydro One's $4.4-billion acquisition of Avista Corp., the Washington State power utility, is the most recent major transaction in the Canadian invasion. Chief executive officer Mayo Schmidt has said the acquisition is just the first in the region for the Toronto-based power distributor.
The company, which is 45-per-cent owned by the Ontario government, faces several new wrinkles in its takeover calculus that were not factors when it announced the Avista purchase in July, 2017.
For one, share prices among Canadian operators of regulated assets have retreated from their highs and interest rates have crept up, making financing pricier. This comes with competition heating up among numerous private and public companies for infrastructure assets of every description, which has pushed up asset values. Meanwhile, those that have already done deals are still working to digest the vast array of U.S. assets they purchased in 2016 and 2017. Some companies, including Enbridge, have not only stopped hunting for deals, but are selling assets to shore up their books.
Other new risks include potential impacts of U.S. tax changes and the renegotiation of the North American free-trade agreement under U.S. President Donald Trump. Either could make U.S.-based buyers more competitive.
"We're cautious," said Alec Clark, head of energy investment banking for Canada at TD Securities. "We have seen pressure in valuations among the companies. One of the ingredients that was successful was the very strong valuations that the Canadian companies had to use as currency and to support financings for large acquisitions."
Of the seven cross-border deals worth more than $1.5-billion since late 2015, shares of five of the buyers are below the levels they were when the deals were announced. TransCanada Corp., which spent $13-billion to buy Columbia Pipeline Group Inc., and Algonquin Power & Utilities Corp., which bought Missouri-based Empire District Electric Co. for $1.5-billion, are the only buyers whose share prices are higher than when they announced their transactions.
TD was an adviser to AltaGas in its US$4.5-billion ($5.8-billion) takeover of WGL Holdings Inc., announced in April, 2017. The deal gave the Calgary-based company ownership of the gas-distribution franchise based in Washington, as well as a natural gas gathering-and-processing business in the Marcellus shale region of the U.S. Northeast. The transaction has yet to close: A final regulatory ruling is expected in early April, according to AltaGas.
Mr. Clark is not calling an end to the cycle, even if conditions have shifted. Indeed, additional deals could be prompted by other factors, particularly the need for companies to expand their cash flow and earnings to support rising dividends, and a limited field of acquisition targets at home.
Canadian infrastructure developers – notably pipeline companies – have famously run into regulatory and political delays at home as they try to expand their own operations.
"So they have to look elsewhere, and the easiest place to look is south of the border, where the regulatory structure is similar and obviously the jurisprudence is well understood," said David Williams, managing director of power and utilities for the investment banking division at Canadian Imperial Bank of Commerce. "The other attraction of the U.S. market is that in general the returns are higher for every dollar invested in the utility. That's just the nature of the way the regulatory environment works."
The largest deals included Enbridge Inc.'s $37-billion takeover of Spectra Energy Corp. and TransCanada's purchase of Columbia, both announced in 2016. They came as those companies struggled to get major new pipelines built in Canada.
Enbridge has announced a new strategy to deal with paying down the debt it took on as part of the Spectra acquisition, including slowing dividend increases and targeting $3-billion worth of asset sales. The company's shares are down 24 per cent since it first announced the deal in September, 2016.
Also that year, Emera Inc. bought Florida's TECO Energy for $8-billion and Fortis Inc. purchased ITC Holdings Corp. of Michigan for $8.5-billion.
The cross-border deal rush did not always translate into fat fees for Canadian investment banks. Indeed, none was hired on either side of the Hydro One-Avista deal, which generated an estimated $42-million in fees for advisers. U.S. boutique firm Moelis & Co. advised Hydro One and Bank of America Merrill Lynch advised Avista.
Other buyers retained one Canadian bank in partnership with U.S. advisers. Besides AltaGas, Fortis picked Bank of Nova Scotia along with Goldman Sachs & Co. when it negotiated the ITC Holdings transaction. Numerous domestic players took part in major equity and debt financings that accompanied the acquisitions, however.
On the macroeconomic front, the recent era of low interest rates were conducive to the deal flow, said Aaron Engen, managing director and co-head of power & energy infrastructure for Bank of Montreal.
"You can see a reasonably high correlation between the very low interest rates and the ability for corporates to be able to go out and fund acquisitions across borders," Mr. Engen said.
"They're still at historically low levels and the capital markets are flush with so much capital, whether it's on the equity side or the debt side, there'll remain lots of activity. Maybe the valuations aren't going to be strong as they have been in the past but there are still very strong valuations. I don't expect to see much of a change."
Another potential driver of activity is the number of assets that are currently held within infrastructure funds that are nearing the ends of their lives before the funds' investors are paid out. Those operations will become available for purchase then, triggering new M&A activity, he said.
Companies that have made recent buys may also spot strategic opportunities, say, in close proximity to the new properties.
"It's not a perfect market because it has come off a bit and it looks like rates are going to rise more and there could be some softening," CIBC's Mr. Williams said. "But that's on a relative basis and, if someone wants to sell, there will still be interest there because the target's share price may be down a little bit, so therefore the value put on the table is still at a very attractive level."