Foreign Investment | The Canadian Encyclopedia


Foreign Investment

Foreign Investment in Canada is both direct (made to manage and control actual enterprises) and portfolio (made only for the interest or dividends paid, or the possible capital gain to be achieved). The amount of both types is very large, with the consequence that a considerable amount of the Canadian economy is controlled by foreigners.
Foreign Investment

Foreign Investment in Canada is both direct (made to manage and control actual enterprises) and portfolio (made only for the interest or dividends paid, or the possible capital gain to be achieved). The amount of both types is very large, with the consequence that a considerable amount of the Canadian economy is controlled by foreigners. Although foreign direct investment continued to grow through 2012, there are increasing fears in some sectors that federal restrictions on foreign ownership of Canadian companies and resources will put a chill on foreign cash flows into the country.

Early British and US Investment

The large foreign presence in Canada's economy has deep historic roots. Beginning in the mid-19th century and lasting until the First World War, British investors readily supplied capital, chiefly of the portfolio type, that financed construction of canals, railways, urban buildings and public works.

Meanwhile, the United States was building a huge national economy which would far surpass that of any European country. Its railway network joined all its regions into one immense market, making gigantic industrial plants feasible and profitable. For some of these firms it became desirable to set up distant branch plants that were closer to natural resources, or to local markets that could be best served by a local plant. The railway, the telegraph and later the telephone made it possible to exercise effective control over operations far from headquarters.

As natural resources became depleted in the US, American industrial firms sought supplies elsewhere. The first Canadian resource upon which Americans drew heavily was timber, especially in Québec and Ontario (see Timber Trade History). American lumbermen came to Canada and built large mills to process lumber for sale in the US. These were not branches of US firms, however; the men who established and owned them eventually became Canadians.

The first significant branch plants were newsprint mills, built by American papermakers. They would have preferred simply to buy logs to feed their already established mills in the US, but provincial governments, anxious to secure jobs and economic development, refused to permit the export of logs from forest lands that they controlled, insisting that American companies build local mills. By 1929, Canada accounted for about 65 per cent of world exports of newsprint, and 90 per cent of all Canadian output went to the US.

Mining, Manufacturing and Retail

The discovery in the late 19th and early 20th century of valuable minerals (gold, nickel, zinc and other nonferrous metals) created a mining industry in which American and some British capital soon played a commanding role. Gold, found in river bars and surface deposits, was extracted first by individuals using cheap and simple methods and then by large-scale, capital-intensive methods. Established American mining firms set up branches to carry on this type of activity, bringing skills, capital and experience. From the beginning, Canadian base-metal deposits were exploited chiefly by companies established and controlled by US mining corporations.

During the 1920s, US firms in other industries began to operate branches in Canada on a large scale. Manufacturing companies set up branch plants to serve the Canadian market, thereby avoiding high freight costs and import duties. US-owned branch plants also benefited from the fact that products made in Canada were admitted at preferential tariff rates to other British Empire countries. New variety and grocery-store chains built stores in many cities. By 1930, US direct investment in Canada was more than five times that of the United Kingdom.

American Branch-Plant Advantage

The 1929 stock market crash and the Great Depression brought practically all forms of foreign investment to a standstill, a situation that lasted throughout the Second World War. After the war, US investment resumed in Canada. American industrial corporations undertook enormous mining projects and, following the discovery of the Leduc oil pool in Alberta (1947), US firms spent enormous sums on oil and gas exploration, and on pipelines and refineries. The increasing population and its growing affluence made the Canadian market highly attractive to US companies. More manufacturers of consumer products set up branches, as did retail and financial firms and suppliers of equipment and services required by business firms.

Conceivably, goods and services produced in the branch plants of US firms could have been provided by Canadian-owned enterprises. But American companies had the enormous advantage of greater capital and experience and strongly established, valuable connections. US-owned plants in Canadian resource industries had absolutely reliable markets, as parent plants in the US bought all their products. Many US-manufactured products were already well known in Canada, and branch plants tended to buy equipment and materials from their parent organizations or from the US firms that regularly supplied their parents. Canadian-owned firms inevitably could not compete effectively against American branch plants that had these advantages.

In a relatively small number of cases, foreign firms licensed Canadian companies to use technologies that they had developed, so that goods and services based on these new technologies were produced in Canadian-owned establishments.

Benefits and Costs of US Investment

In addition to setting up branch plants in Canada, US companies bought established Canadian firms, incorporating them into their organizations. Many Canadian businesses were sold to American corporations for considerably more than they would have received from Canadian buyers. As a result of all these considerations, US direct investment of $3.4 billion in 1950, was more than 30 times that figure by the end of 1995. Some of this increase was attributable to inflation. But a large portion of it reflected increased American ownership of physical assets in Canada.

Although US-owned firms initiated the production here of many novel products and services, and provided welcome job opportunities, there have been — and still are — problems caused by their presence. Huge and increasing amounts of money have to be remitted to US owners in the form of dividends on their investment, as well as contributions by branch plants toward head office costs of administration, research, product development and advertising. A large proportion of these payments must be made in US dollars. Where payment in US dollars is not required by contract, the investors, receiving payment in Canadian dollars, wish to exchange them for American currency. The result is that a very large fraction of the US dollars that Canada earns by its exports must be used to make interest and dividend payments and branch plant remittances to American firms. The amount of US dollar earnings left after these payments are made has often been insufficient to pay for all imports, obliging Canadians to borrow abroad — and thereby increasing the amount of interest that will have to be paid to foreigners in the future.

Multinational corporations carry on their Canadian operations to serve their own best interests, not those of Canada. Industrial research and development, essential to industrial innovation and growth, and providing highly desirable job opportunities, is generally done not in Canadian branch plants but in US facilities. When demand for the products of some international companies falls, they tend to reduce the scale of operations or close down the Canadian branch while maintaining operations in the parent plant. When an international firm uncovers a cheaper source of supplies or labour in another country, it might close down its Canadian operation.

Canada Limits Foreign Ownership

The presence of giant, foreign-owned companies has sometimes made it difficult for the Canadian government to stabilize the economy. Possessing great financial power and having wide international interests, these firms cannot be induced or pressured to alter the tempo of their Canadian operations to help keep the wider economy on an even keel. Being subject to American legislation that forbids US firms and their affiliates from trading with enemies of the US, plants here cannot export their products to some countries with which Canada has normal trade relationships. Corporate strategy frequently has the same consequences; branch plants are generally designed to serve the domestic Canadian market and lack the resources or mandate necessary to develop and to sell products in export markets.

Aside from economic concerns, many Canadians (see Committee for an Independent Canada; Council of Canadians) object on nationalistic grounds to the scale of foreign ownership and control over the economy (see Economic Nationalism). The federal government responded in the 1960s with new legislation that forbid foreigners from owning radio and television stations (see Cultural Policy). The legislation also restricted the right of foreigners to set up banks, insurance companies and other financial concerns, from enlarging established firms, or exploring for oil, gas and mineral deposits or acquiring uranium mines. In 1973 the federal government also established the Foreign Investment Review Agency (FIRA) to screen investments by non-residents, approving only those that would clearly be of benefit to Canada.

The federal government also created the Canada Development Corporation (1971) and Petro-Canada (1974), both of which reduced foreign control by buying out a number of large, foreign-owned concerns. The NDP government of Saskatchewan bought out foreign-owned potash firms. And in 1980 the Canadian government introduced its National Energy Program, under which it accorded special privileges and financial incentives to Canadian-owned and -controlled firms in the oil and gas industry, prompting the takeover by Canadians of a number of foreign-owned firms. By the early 1980s the proportion of manufacturing, mining, oil and gas industries under foreign control was significantly smaller than it had been a decade earlier.

FIRA Criticized, Dismantled

While FIRA approved about 90 per cent of the foreign-investment proposals it reviewed, and was not a significant barrier to foreign ownership, it was angrily criticized for its occasional rejections and its sometimes delayed decisions. In response, the Liberal government began to loosen the restrictions. In 1984, the newly-elected Conservative administration of Prime Minister Brian Mulroney indicated that it planned to extend its reduction of barriers to foreign investment in Canada, and that same year it dismantled FIRA, replacing it with Investment Canada, an agency that would welcome foreign investment rather than obstruct or delay it.

The Mulroney government never blocked a foreign investment under the Investment Canada Act. Nor did its two Liberal successor governments under prime ministers Jean Chretien and Paul Martin. From 1985 to 2006, foreign investment in Canada rose from $100-billion to $550-billion.

However, use of the act changed under the Conservative government of Prime Minister Stephen Harper, which took office in 2006. In 2008, the Harper government used the Investment Canada Act to block the sale of the space division of the British Columbia communications technology company MacDonald, Dettwiler & Associates (MDA), to American-based Alliant Techsystems — following wide protest that the sale would transfer strategic economic and scientific assets out of Canada. It was the first rejection of foreign investment under the Investment Canada regime.

Ottawa Restricts Sale of Strategic Assets

In 2010, the Harper government placed conditions on the takeover of Saskatchewan-based Potash Corp. by BHP Billiton, the Australian mining giant. Billiton responded by saying the conditions were too harsh and withdrew its takeover offer. To the surprise of many, the MDA and Billiton rejections would become part of a trend, an aggressive one at that.

In 2012, the Harper government approved China National Offshore Oil Corp.’s (CNOOC) $15.1-billion takeover of Nexen, a Calgary-based petroleum producer, and the $6-billion takeover of natural gas producer Progress Energy Resources by Malaysian national energy company Petronas. But on the same day, Ottawa also announced changes in the Investment Canada Act and its "net benefit to Canada" test. These changes would effectively bar state-owned foreign firms from acquiring control of Canadian oil and gas companies. Acquisitions by state-owned enterprises would be allowed "on an exceptional basis only," Harper said. In other words, the government was announcing it would not repeat the type of approvals it had just granted to CNOOC and Petronas.

New Rules Criticized

The new rules attracted intense criticism from corporate Canada, especially in the Alberta energy sector, that foreign interests would not invest in a project or company if there is uncertainty about whether a transaction would be approved. Indeed, evidence of a chill on foreign investment in gas and oil soon became apparent in figures tabulated by the chartered bank CIBC. By the fourth quarter of 2013, foreign investment in the oil and gas sector had fallen 92 per cent to $2.3 billion, from $29.2 billion at the same point in 2012. Jim Prentice, a former minister in Harper’s government, warned that foreign companies and state-owned enterprises would place their investments elsewhere unless Canada changed its attitude toward foreign investment and provided clarity. "We need to be abundantly clear that we’re open for business," he told the news media.

Harper balked at providing clarity on his government’s interpretation of the takeover rules for state-owned investors, saying Ottawa needs discretion in accepting and rejecting this type of transaction. It would be foolish for Canada to provide "absolute clarity," he said in a November 2013 panel discussion before business students in Toronto.

Financial markets were surprised again in October 2013 when the federal government used the Investment Canada Act to block a sale by Manitoba Telecom of its Allstream division to a private equity firm led by Egyptian entrepreneur Naguib Sawrie. The government cited national security reasons for the decision but did not provide further details. Critics in the telecommunications sector and financial markets complained the Allstream decision was proof that Canada’s foreign takeover rules had grown opaque and unpredictable. They argued further that what kind of foreign investment constitutes a "net benefit" to Canada is unclear. Financial markets tend to deplore policy uncertainty and the government's new approach in rejecting deals is expected by some to discourage investment.

In spite of such warnings, "Canada has remained an active participant" in the increasing global flows of foreign investment in recent decades, according to a 2013 paper by the Montreal-based Institute for Research on Public Policy. Since 1992 Canada's inbound foreign direct investment, as a percentage of national GDP, outpaced both the US and the G8 group of industrial countries as a whole. And in the most recent years it has continued to grow on an annual basis. Total foreign direct investment in Canada stood at $551-billion in 2008, $592-billion in 2010, and $634-billion in 2012, according to Statistics Canada. The American share of that stood at $327-billion in 2012 — accounting for just over half of Canada’s total stock of foreign direct investment.

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