Brookfield Renewable Energy Partners L.P. has announced:
the commencement of an offer to exchange (the “Exchange Offer”) each issued and outstanding Class A Preference Share, Series 5 of Brookfield Renewable Power Preferred Equity Inc. (TSX:BRF.PR.E) (“BRP Equity”) with an annual dividend rate of 5.00% (collectively, the “Series 5 Preferred Shares”) for one newly issued Class A Preferred Limited Partnership Unit, Series 5 of Brookfield Renewable with an annual distribution rate of 5.59% (collectively, the “Series 5 Preferred Units”). The annual distribution rate on each Series 5 Preferred Unit will be C$1.3976, compared to the annual dividend rate of C$1.25 on each Series 5 Preferred Share.
Holders of Series 5 Preferred Shares (“Series 5 Preferred Shareholders”) will be entitled to receive one Series 5 Preferred Unit for each Series 5 Preferred Share tendered under the Exchange Offer. Each of the guarantors of the Series 5 Preferred Shares will also be a guarantor of the Series 5 Preferred Units, other than the issuer, Brookfield Renewable. The Series 5 Preferred Units have been assigned a provisional rating of “Pfd-3 (high)” by DBRS Limited (“DBRS”) and a preliminary rating of “P-3 (high)” by Standard & Poor’s Rating Services, a division of The McGraw-Hill Companies Inc. (“S&P”), which are the same ratings currently assigned by DBRS and S&P to the Series 5 Preferred Shares.
The Exchange Offer will be open for acceptance until 5:00 p.m. (Toronto Time) on December 18, 2015, unless extended or withdrawn by Brookfield Renewable. The Exchange Offer is conditional upon, among other things, at least 50% of the Series 5 Preferred Shares having been validly deposited or tendered under the Exchange Offer and not withdrawn, which condition may be waived by Brookfield Renewable.
The Exchange Offer is being made pursuant to a supplement to Brookfield Renewable’s short form base shelf prospectus dated May 12, 2015 (the “Prospectus Supplement”) that will be filed today with securities regulatory authorities in each of the provinces and territories of Canada.
Series 5 Preferred Shareholders should consider the following factors, among others, in making a decision whether to accept the Exchange Offer:
•Increased distributions: The annual distribution rate on the Series 5 Preferred Units is 5.59% (C$1.3976), compared to the annual dividend rate of 5.00% (C$1.25) for the Series 5 Preferred Shares.
•Substantially similar other terms and conditions: The other terms and conditions of the Series 5 Preferred Units will be substantially similar to those of the Series 5 Preferred Shares, other than certain technical amendments noted in the Prospectus Supplement.
•Unanimous Board Recommendation: The board of directors of the general partner of Brookfield Renewable and the board of directors of BRP Equity, after reviewing the Fairness Opinion (as defined below) have unanimously recommended that Series 5 Preferred Shareholders accept the Exchange Offer and deposit their Series 5 Preferred Shares pursuant to the Exchange Offer.
•Fairness Opinion: The Partnership and BRP Equity engaged PricewaterhouseCoopers LLP to provide an opinion to the effect that, subject to the assumptions, limitations and qualifications contained therein, the consideration to be received under the Exchange Offer is fair, from a financial point of view, to the holders of Series 5 Preferred Shares (the “Fairness Opinion”).
Full details of the Exchange Offer are contained in the Prospectus Supplement and other related documents that will be mailed today to the registered holder of all Series 5 Preferred Shares as required under applicable Canadian securities laws. Copies of the Prospectus Supplement and other relevant documents will be available on SEDAR at www.sedar.com and on Brookfield Renewable’s website at www.brookfieldrenewable.com. Brookfield Renewable has also commenced the process of mailing to beneficial holders of Series 5 Preferred Shares. Series 5 Preferred Shareholders are urged to evaluate carefully all information in the Exchange Offer, including risk factors, and to consult their own investment, tax and legal advisors.
Computershare Investor Services Inc. is the Depositary for the Exchange Offer and D.F. King Canada, a division of CST Investor Services Inc., is the Information Agent. Any questions or requests for assistance concerning the Exchange Offer or further information about tendering to the Exchange Offer should be directed to the Depositary at 1-800-564-6253 (toll free in North America) or 1-514-982-7555, or by e-mail at corporateactions@computershare.com; or to the Information Agent at 1-800-332-4904 (toll free in North America) or 1-201-806-7301, or by e-mail at inquiries@dfking.com.
Copies of the Prospectus Supplement and any other documents relating to the Exchange Offer as referred to above may be obtained free of charge upon request to the Depositary or the Information Agent. Series 5 Preferred Shareholders whose Series 5 Preferred Shares are registered in the name of a broker, investment dealer, bank, trust company or other nominee should contact such nominee for assistance in depositing their Series 5 Preferred Shares to the Exchange Offer.
BRF.PR.E is a Straight Perpetual, 5.00%, which commenced trading 2013-1-29 after being announced 2013-1-21. It is tracked by HIMIPref™ but relegated to the Scraps index on credit concerns.
I consider this offer coercive because, according to the prospectus supplement:
Following the completion of the Exchange Offer and any Subsequent Acquisition or Compulsory Acquisition Transaction relating thereto, the Partnership intends to cause BRP Equity to apply to the TSX to delist the Series 5 Preferred Shares from trading. See “The Exchange Offer – Effect of the Exchange Offer on the Market for Series 5 Preferred Shares, Listing and Public Disclosure by BRP Equity”.
The more detailed explanation is:
Effect of the Exchange Offer on the Market for Series 5 Preferred Shares, Listing and Public Disclosure by BRP Equity
If, after taking up Series 5 Preferred Shares under the Exchange Offer, the Partnership holds a sufficient number of Series 5 Preferred Shares, the Partnership intends to effect a Subsequent Acquisition Transaction or, if a sufficient number of Series 5 Preferred Shares are tendered, a Compulsory Acquisition. In such event, if permitted by applicable Law, the Partnership will apply to delist the Series 5 Preferred Shares from the TSX and there will no longer be a trading market for the Series 5 Preferred Shares.
Even if the Subsequent Acquisition Transaction or Compulsory Acquisition cannot be completed as quickly as intended, the purchase of Series 5 Preferred Shares by the Partnership pursuant to the Exchange Offer will reduce the number of Series 5 Preferred Shares that might otherwise trade publicly, as well as the number of Series 5 Preferred Shareholders and would likely adversely affect the liquidity and market value of the remaining Series 5 Preferred Shares held by the public.
A decline in liquidity is all part of the game, but it will be noted that company is not making any commitment to maintain the listing in any scenarios that are not specified in the above. Note that:
Resident Holders are cautioned that, if the Series 5 Preferred Shares are no longer listed on a “designated stock exchange” (which currently includes the TSX) and BRP Equity ceases to be a “public corporation” for purposes of the Tax Act, the Series 5 Preferred Shares will not be qualified investments for trusts governed by RRSPs, RRIFs, registered education savings plans, registered disability savings plans, deferred profit sharing plans or TFSAs. Resident Holders are urged to consult their own tax advisors with respect to the potential income tax consequences to them in this regard.
So that’s the stick. The carrot is:
• Increased distributions: The annual distribution rate on the Series 5 Preferred Units is 5.59%, compared to the annual dividend rate of 5.00% for the Series 5 Preferred Shares.
But the difficult part is the tax considerations. First off, this is not a tax-free rollover:
A Holder of Series 5 Preferred Shares who for purposes of the Tax Act (as defined herein) and at all relevant times, is or is deemed to be resident in Canada (a “Resident Holder”) who exchanges Series 5 Preferred Shares for Series 5 Preferred Units pursuant to the Exchange Offer will be considered to have disposed of such Series 5 Preferred Shares for proceeds of disposition equal to the fair market value, as at the time of acquisition, of the Series 5 Preferred Units acquired by such Resident Holder on the exchange. As a result, the Resident Holder generally will realize a capital gain (or capital loss) to the extent that such proceeds of disposition exceed (or are less than) the aggregate of the adjusted cost base to the purchaser of the Series 5 Preferred Shares so exchanged and any reasonable costs of disposition.
However, this is of relatively small concern, since the year-end 2014 bid was 21.40 compared to today’s closing bid of 21.05 (after a healthy pop in price today, +3.64%. It looks like some players like the offer!), so I suspect that most – although not all! – holders will crystallize a capital loss.
Of greater pith and moment is the nature of the dividends to be paid on the new Preferred Units:
For Canadian federal income tax purposes, holders of Series 5 Preferred Units will be allocated a portion of the taxable income of the Partnership based on their proportionate share of distributions received on their units. The allocation of taxable income to such holders may be less than the distributions received. This difference is commonly referred to as a tax deferred return of capital (i.e., returns that are initially non-taxable but which reduce the adjusted cost base of the holder’s units). See “Certain Canadian Federal Income Tax Considerations” in this Prospectus Supplement for further details. As shown in the table below, the historical 3 year average per unit Canadian dividends, ordinary income and return of capital (i.e., excess of distributions over allocated taxable income) expressed as a percentage of the annual distributions in respect of units of the Partnership for the period 2012 through 2014 were approximately 56%, 26%, and 18% respectively. Management anticipates the 5 year average per unit Canadian dividend, ordinary income and return of capital will be 50%, 25%, and 25%, respectively, for the period between 2015 and 2020; however, no assurance can be provided this will occur.
So let’s take them at their word and estimate the after tax return on BRF.PR.E compared to the new units (which pay a total of 5.59%). According to Ernst & Young, marginal tax rates for an Ontario resident with taxable income of $150,000 p.a. were 46.41% on income, 23.20% on capital gains and 29.52% on eligible dividends. Since the Return of Capital on the new units will eventually be taxed as a capital gain but only when the gain or loss is crystallized, let’s apply a 25% discount to the capital gain marginal rate to reflect the time value of the money; hence, we will assume that the Return of Capital is subject to tax at a rate of 23.20% * 75% = 17.4%:
| Taxation comparison of distributions |
| |
BRF.PR.E |
New Security |
Distribution
Type |
Pre Tax Amount |
Tax |
Net |
Pre Tax Amount |
Tax |
Net |
Eligible
Dividend |
1.25 |
0.369 |
0.881 |
0.69875 |
0.20627 |
0.49248 |
Ordinary
Income |
0.00 |
0.00 |
0.00 |
0.349375 |
0.162145 |
0.187230 |
Return
of
Capital |
0.00 |
0.00 |
0.00 |
0.349375 |
0.060791 |
0.288584 |
| Total |
1.25 |
0.369 |
0.881 |
1.3975 |
0.4292 |
0.9683 |
So on the surface it seems like a genuine improvement – the after-tax income per share will increase from 0.881 to 0.9683, a 9.9% hike. However, note that there are no guarantees offered by the company! If it should come to pass that 100% of the distributions are ordinary income, then tax at 46.41% will come to 0.6486 and the net after-tax amount will be 0.7489, a 15.0% decline. So there’s a certain amount of tax-risk here, depending on the nature of the company’s distributions.
DBRS has assigned a provisional rating of Pfd-3(high) to the issue:
DBRS Limited (DBRS) has today assigned a provisional rating of Pfd-3 (high) with a Stable trend to Brookfield Renewable Energy Partners L.P.’s (BREP; rated BBB (high), Stable trend) proposed new issuance of Class A Preferred Limited Partnership Units, Series 5 (Preferred LP Units).
I will not make a recommendation regarding tendering holdings of BRF.PR.E at this time, and I might not make a recommendation at all. But feel free to comment!
