Market Contraction

The financial markets and global economy have experienced a precipitous decline and substantial volatility due to the economic impact of the ongoing COVID-19 pandemic. This has had a significant and immediate impact on the level of M&A activity, both in Canada and globally, as companies are shelving deals or simply walking away entirely.

In fact, Thomson Reuters, citing data from the financial research firm Refinitiv, recently reported that there was a 57% decline in M&A activity in Q1 2020 as compared to Q1 2019, as Canadian M&A activity dropped to its lowest level since 2015. Globally M&A activity also experienced a sharp decline in Q1 2020, dropping 28% in the first quarter to its lowest level since 2016.

Despite this downturn in M&A activity, private equity & venture capital (PEVC) funds remain well-capitalized. According to the quarterly report published by research firm Preqin, the total amount of capital raised by PEVC funds in Q1 2020 was $133B, surpassing the Q1 2019 total of $119B by almost 12%. While the disruption of COVID-19 has impacted both venture capital deals (number of such deals in Q1 2020 down 23% from Q1 2019) and, to a lesser extent, the buyout market (deal value in Q1 2020 17% lower than Q1 2019, but relatively similar to Q3 and Q4 2019), there is no question that funds holding excess capital are in a prime position to take advantage of the current market conditions, which are ripe for rescue deals and distressed M&A.

Emerging Opportunities

For many companies, the COVID-19 pandemic has created numerous challenges affecting their business, operations and financial condition. Further, there is no guarantee that any fiscal interventions by governments or financial institutions will be sufficient to help mitigate the impact of some or all of these issues. Consequently, companies face uncertain times and may need to explore all possible options, including mergers and alternative financing, in order to survive post-pandemic.

At the same time, the COVID-19 pandemic has produced perfect conditions for well-financed companies and cash-rich funds to acquire distressed companies at significant discounts, scoop up a wide variety of assets, or set their sights on global opportunities. After all, private investments firms have entered this crisis with US$2.5 trillion of “dry powder” according to a Bain & Co. report released in February 2020. Up until the start of this crisis, asset prices were extremely high, and private equity firms had difficulties finding attractive targets. Under prevailing fund structures, most private equity firms have a limited time window to deploy their unspent capital (usually between four to six years). This surge comes as businesses across Canada are in desperate need of cash. Accordingly, these market conditions may breed opportunistic behaviour.

Jurisdictions worldwide have taken notice and announced certain regulatory changes regarding foreign investment. The Canadian government has decided to follow suit and step in.

Enhanced Scrutiny of Foreign Investments

On April 18, 2020, the Canadian government published a policy statement on foreign investment review and COVID-19 (the Policy). Foreign direct investment is regulated by the federal government under the Investment Canada Act (ICA, or the Act), which empowers the Minister of Innovation, Science and Economic Development (the Minister) (and in certain cases the Minister of Canadian Heritage) to screen, impose conditions, or possibly forbid, such investments. A brief overview of the Act follows.

The ICA contains three main components: notification, “net benefit” reviews, and national security reviews. Where a non-Canadian investor seeks to acquire control of a Canadian business with an enterprise value exceeding prescribed financial thresholds, which vary depending on the type and origin of foreign investor and the business carried on by the Canadian business, the transaction is subject to a “net benefit” review and must be approved by the Minister prior to closing. Under this review, the Minister must determine whether the transaction is likely to result in a net benefit to Canada based on a number of factors set out in the ICA.

Where a transaction does not meet the financial thresholds, the foreign investor is simply required to file a notification of the transaction within 30 days of closing. Reviewable and notifiable transactions are both also subject to review to assess whether the transaction could be injurious to Canada’s national security. Although “national security” is not defined in the Act, the Canadian government has published guidelines (the Guidelines) which set out a number of categories of transactions where such issues could arise. The Guidelines also inform investors of the procedures applicable to such a review. Namely, if a notification or application for economic review is filed, the Minister has 45 days from certification of a complete filing to notify the investor that an order for national security review may be issued. In addition, where a transaction is not subject to notification or economic review (because it is an investment of a minority interest), it is still subject to a national security review for up to 45 days from closing.

Notably, the Canadian government has not introduced any new review procedures or powers in its implementation of the Policy. Instead, the Canadian government will rely on existing powers, such as the ability to request additional information or extend timelines, to ensure that certain types of investments are adequately reviewed during the COVID-19 pandemic.

The Canadian government has recognized that the current state of the financial markets and global economy as a result of the COVID-19 pandemic is a “unique” environment that could lead to “opportunistic investment behaviour”. While typically foreign investment is a welcome and integral element to the success of Canadian businesses in the global economy, the current “extraordinary circumstances” and market conditions attributable to the COVID-19 pandemic require, in the government’s view, appropriate regulatory and policy changes. Therefore, the Policy advises that the Canadian government will increase oversight of certain foreign direct investments to protect the Canadian economy and national security, including the health and safety of Canadians.

In particular, the following foreign investments will be subject to “enhanced scrutiny” under the ICA “until the economy recovers” from the effects of the pandemic:

  • “foreign direct investments of any value, controlling or non-controlling, in Canadian businesses that are related to public health or involved in the supply of critical goods and services to Canadians or to the Government”; and
  • “all foreign investments by state-owned investors, regardless of their value, or private investors assessed as being closely tied to or subject to direction from foreign governments”.

The complete scope of the Policy remains unclear. It does not define what businesses constitute “public health” or “critical goods and services”, and the Policy will remain in effect for an indeterminate period, i.e. until the economy recovers from the impact of the pandemic. Further, the Policy will likely be applied broadly. The Guidelines refer to the Canadian government’s National Strategy for Critical Infrastructure (the Strategy) for the meaning of “critical infrastructure”, which includes the following ten sectors: energy and utilities, finance, food, transportation, government, information and communication technology, health, water, safety, and manufacturing. The Strategy is also cited in Canada’s Guidance on Essential Services and Functions in Canada During the COVID-19 Pandemic. As a result, where applicable, foreign investors should be sure to file a notification at least 45 days before closing for transactions involving potential national security concerns in order to obtain regulatory certainty before closing.

Potential Impact on Foreign Private Equity Investments in Canada

While some private equity investors may have direct foreign government ties (e.g., sovereign wealth funds or state-owned investors), most of them are independent players mainly focused on commercial returns and objectives. Some experts consider that although it is fair to protect local companies from entities that may represent a strategic risk to Canada, policies should be very careful about entities with non-commercial objectives and potential to harm Canadians. Canada has a tradition of effective and efficient checks and balances and has already enacted foreign ownership restrictions to protect its most sensitive and significant sectors from detrimental foreign ownership (e.g., banks, telecom, media, transportation to name a few).

Over previous decades, scores of highly innovative start-ups and high-growth Canadian companies have blossomed and developed through foreign equity funding and support. Many Canadian tech start-ups, given their high risk profile and early development stage, do not qualify for traditional bank funding, and as such they appeal to private equity players. Consequently, any restrictive policy may deprive them of much needed capital and know-how during times where they need it the most.

Finally, the greater scrutiny given to some transactions may further delay the investment process and ultimately, discourage potential private equity investors. This may push some private equity investors to reassess their interest in Canadian targets and, at a time when capital is needed swiftly, impose a high opportunity cost for very successful Canadian companies and high value added private equity firms.


Notwithstanding recent data indicating a contraction in M&A and private equity deals, the COVID-19 pandemic has created a market of new opportunities for well-financed companies and capital-rich private investors. To prevent potential “opportunistic investment behaviour” that threatens Canada’s economy or national security, the Canadian government has issued the Policy. While the Policy only impacts investment related to “public health” or “critical goods and services”, as well as those by state-owned investors, it may have the unintended effect of depriving certain Canadian companies from much-needed investment. Ultimately, the full impact of the COVID-19 pandemic on Canadian M&A and foreign private investments remains to be seen, but the recent Policy announcement by the Canadian government is another piece worth monitoring.

The authors would like to thank Samantha Black, Articling Student, for her contribution to this legal update.

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