Schwartz prescription won't cure patient

It was great to see Onex CEO (OCX:TSX) Gerry Schwartz step into the fray yesterday with his Globe and Mail column regarding the torrential outward flow of Canadian corporate HQ’s. Many of the sentiments are similar to what we’ve talked about here in the past regarding foreign takeovers and the deductibility of interest arising from foreign acquisitions:

“What happens when companies headquartered in Canada increasingly are being sold to foreign head office buyers?

For one thing, the ambition of Canada’s young business people is stopped dead in its tracks. They have to move to other countries, usually the United States, to achieve their dreams.

Aspiring Canadians want to be part of a head office atmosphere. That’s where the decisions get made, that’s where the good jobs are and that’s where the intellectual stimulation is.”

We’re all agreed on that. But Dr. Schwartz’s two “quick” prescriptions are curious:

“Two quick examples. The federal government recently announced a plan to disallow interest deductibility on foreign acquisitions, the so-called double dip. And yet, the U.S. tax law allows U.S. companies to double dip on their foreign acquisitions. As do most European countries. The effect of this will be that it is far more tax efficient for a U.S. company to buy a Canadian corporation than it is for a Canadian to buy a U.S. headquartered company. Let’s stop trying to fight the battle for worldwide corporate leadership with one hand tied behind our back. Let’s stop the proposed tax legislation that makes it even tougher for a Canadian headquartered company to compete for foreign acquisitions. Instead, let’s make sure that our tax laws are at least on a level playing field with foreign jurisdictions.

A second example is bank mergers. We are seeing bank mergers throughout the United States and now throughout Europe. And yet, the government stands in the way of bank mergers – denying them the opportunity to achieve the scale required to compete internationally. What’s the big advantage for Canadians of having banks that are pipsqueaks on a world scale?”

Now, we made the point recently that former BMO Chairman Matt Barrett has been proven to be right on the bank merger front. But what does that have to do with the foreign acquisitions of Westcoast Energy, Inco, Dofasco and Falconbridge?

And the interest deductibility point is well understood, but Canada’s Finance Minister only raised the topic in the past few weeks, long after Sleeman, Labatt, Molson, Corel, ATI Technologies, ALI Technologies, Accelio, Hudson Bay Company, etc. were acquired by foreign-based firms. Fixing the Minister’s bad idea (as he has started to do) won’t have changed the course of history for these firms.

While I agree with Dr. Schwartz’s observation that governments have a role to play:

We should have incentives that help Canadian businesses grow, expand their worldwide leadership, keep the best and most creative young Canadians here and give Canadian companies a set of tax and other laws that don’t put them at a disadvantage to foreign competitors.

…it just isn’t clear to me what a free marketer can do about it all.

Increasing the ITC or SR&ED program isn’t going to move the needle. Building a MARS district in every large city in the country won’t replace the head office jobs lost from these recent deals. Returning the labour sponsored fund program would be useful, but as a government program it isn’t designed to create the next Dofasco or Inco.

Frankly, we have to recognize that Canada’s economy has been a roaring success for over a decade. The Canadian dollar is at 1.099 to the US$ this morning, which speaks to our nation’s economic health. We’ve had many years of government budget surpluses, unlike our neighbours to the south, partially due to a higher tax burden. Despite our great economy and decent utilization rate, our best firms are still targets for foreign acquisitions.

Perhaps they’re targets as a result of this economic success….

Before too long, the only large, locally-owned firms will be those that are protected by financial legislation (banks and certain life insurance co’s), heritage legislation (communications and telecom sector), specific one-off provincial legislation (Teranet, Torstar), economic scarcity premiums (TransCanada Pipeline and Enbridge) or dual class voting shares (Rogers, Torstar, Power, Onex; but they didn’t stop a Russian from buying a large stake in Magna).

And unless the government is prepared to enact new legislation to stop the trend – which has largely run its course in any event – nothing can change.

Allowing bank mergers and fixing the interest deductibility issue are worthy tools, but they won’t address the core issue, Dr. Schwartz.

MRM