Trans Mountain Expansion: One Path Forward

Kevin McSweeney's picture

Since the announcement by Kinder Morgan that it would suspend construction on its Trans Mountain Expansion Project, there have been many calls for further action by the federal or Alberta governments to ensure that the project is built. This is a matter of national priority given the stakes involved – billions of dollars and thousands of jobs, international investors’ perception of Canada and the ability to diversify our export markets from an uncertain North American trade environment.

As a manager of funds that hold Kinder Morgan Canada equity (we also hold preferred shares, and have exposure to its U.S. parent company), this is of particular interest. While the proposal that follows is motivated by my fiduciary duty to the funds’ investors, it also reflects a personal view that this project as constituted, following wide-ranging consultation and with extensive environmental protection, is good for Canada.

To ensure the project proceeds, Prime Minister Trudeau has directed the Department of Finance to launch a “formal financial discussion” with Kinder Morgan, and federal ministers have indicated “all options are on the table”. Alberta has indicated that it is prepared to take an equity stake. If Alberta and Ottawa are willing to pursue direct ownership, then they should be willing to extend capital with phased-in funding and future payback as one less-risky option.

In my view, a path forward doesn't need the complications of government ownership, or untested ideas. There is a straightforward and existing framework for capturing public benefits when project development is uncertain. Governments currently take a royalty on the amount of gas or oil that is extracted from their province; they should be equally able and prepared to take a royalty from the amount of gas or oil that flows down a pipeline after it begins operation.

Regarding the Trans Mountain Expansion, the governments of Alberta and Canada could direct a loan to Kinder Morgan whereby repayment is exclusively from a royalty on the products flowing through the pipeline after it begins operation. (There is no impact to other royalty arrangements). This loan could be immediately drawn so that the 2018 construction schedule could be advanced without jeopardizing the existing timeline. These governments have confidence that they will follow through on the project in a way that no private investor ever could.

For the federal and Alberta governments, shouldering the early capital ensures that the ongoing revenue loss from being captive to North American energy markets ends as soon as possible. Given the rates at which each government can borrow, the broader public interest, and their stated determination to complete the project, the cost-benefit trade-off for these governments tilts asymmetrically toward the benefit.

Kinder Morgan should be agreeable, as it addresses its fear that it would incur billions in debt without ever receiving the benefit of the asset created. If the Trans Mountain Expansion Project does not come into service, then Kinder Morgan has no obligation to repay from products that do not flow. It retains the existing business with a high-quality balance sheet. I am confident that independent shareholders would be supportive and I would encourage the company to consider this path in lieu of abandonment.

During the period that governmental spending is necessary to advance the project, many of the constitutional and regulatory questions could be adjudicated or – hope springs eternal – agreed upon by the various governments. As well, upon regulatory and constitutional resolution, Kinder Morgan would repay these funds and raise money in private markets. This is a bridge to address regulatory uncertainty, not a handout.

The Trudeau government has already made the case for novel financing structures for private/public hybrid models via its Canada Infrastructure Bank (CIB). Quoting from the 2016 Fall Economic Statement, the CIB is mandated to “work with project sponsors to structure, negotiate and deliver federal support for infrastructure projects with revenue-generating potential; and use innovative financial tools to invest in national and regional infrastructure projects, and attract private-sector capital to public infrastructure projects”. A funding model such as this provides a high-profile example to international and domestic investors of Canada’s determination to deliver on its approvals and provide creative support for infrastructure projects of national importance.

There are many more details that all parties would need to consider, beyond the purview of this piece. However, for this project to move forward, with Canada optimizing benefits to its citizens and attracting necessary capital to grow its economy, I believe that this framework is an effective and fair means of mitigating risk and capturing benefits.

 

This commentary is published by CI Investments Inc. It is provided as a general source of information and should not be considered personal investment advice or an offer or solicitation to buy or sell securities. Every effort has been made to ensure that the material contained in this commentary is accurate at the time of publication. However, CI Investments Inc. cannot guarantee its accuracy or completeness and accepts no responsibility for any loss arising from any use of or reliance on the information contained herein. This commentary may contain forward-looking statements about the fund, its future performance, strategies or prospects, and possible future fund action. These statements reflect the portfolio managers’ current beliefs and are based on information currently available to them. Forward-looking statements are not guarantees of future performance. We caution you not to place undue reliance on these statements as a number of factors could cause actual events or results to differ materially from those expressed in any forward-looking statement, including economic, political and market changes and other developments. Commissions, trailing commissions, management fees and expenses all may be associated with mutual fund investments. Please read the prospectus before investing. Mutual funds are not guaranteed, their values change frequently and past performance may not be repeated.

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