Political Risk... in Canada?
by Steven Visscher, Mawer Investment Management
December 7, 2012
In selecting securities, we think it’s critically important that a government foster and maintain an environment that is business friendly, and has clarity and predictability. When governments are unable to provide that type of environment, investors must proceed at their own peril, and certainly should expect higher rates of return for the additional risk they are assuming. More often than not, investors are quick to cite nations such as China, Russia, Venezuela, or Greece as possessing high levels of political risk. Countries like Canada are typically described as being on the other end of the spectrum. We are a safe place to conduct business, and welcoming to foreign investors. But the distinction between safe and risky countries might not be so cut and dry.
Take Germany for example. Like Canada, it is typically considered a safe and stable place to do business. So when Mawer invested in RWE, a German utility and one of Europe’s largest producers of power, we felt quite comfortable that the political risk was minimal. But soon RWE found itself at the mercy of increasing government intervention in the power industry. Rules were changing that impacted RWE’s business model, and profitability. We liked the company, but became fearful that this uncertain regulatory environment would continue to harm RWE’s ability to create value for shareholders. So we sold our position.
Closer to home, we all know Canada has a tremendous record, relative to the rest of the world, in the enforcement of property rights and personal safety. But Canada hasn’t always fostered a clear and predictable business environment. The abrupt changes to Alberta’s royalty regime several years ago took many in the energy sector by surprise. Companies that had made plans under one set of assumptions suddenly faced a much different reality. More recently, there has been mounting confusion and criticism over Canada’s policy with respect to foreign takeovers. Some takeovers have been approved while others have been rejected. A recent offer by a Chinese company to acquire Nexen remains in limbo, with our government deliberating over whether or not to approve the transaction. This has prompted the Chinese to openly criticize Canada’s lack of clarity.
It’s clear that political risk can take many forms and come from many places. At Mawer, we don’t shun companies that face political risk, but instead we attempt to factor this into our analysis. We must weigh the assumption of this additional risk with the potential for greater returns. Canada’s decision on the Nexen deal will be watched closely by foreign investors. If our ruling does not provide greater clarity and predictability, then our reputation as a business-friendly environment may deteriorate. Some foreign investors may recalibrate the risks of investing in Canada versus the potential rewards.
Steven Visscher
