Strong and rising commodity prices in recent years have sparked a wave of activity in the Canadian stock markets, with larger resource companies acquiring a significant number of smaller, publicly-traded resource companies that require further capitalization to exploit their assets. A number of these transactions have contained a feature not often found in transactions outside the resource sector to date: in the course of being taken over, the target has spun out a new public corporation to its shareholders, owning assets not required by the purchaser.
Commonly, these takeovers occur once some of the target's assets have proven out, while others remain highly speculative. Where the purchaser is interested in acquiring and operating the proven assets, it often will place little or no value on the more speculative assets - and the stock market typically will give it little or no credit for them, either. Target's management, however, may be focused on an earlier stage in the asset development process and often will believe in the prospects of the non-core assets. A ready shareholder base for a smaller, more speculative company often exists - and will be present in the target's shareholder base itself. In these circumstances, a spin-out to the target shareholders of the non-core assets in the form of a new corporation (a "Spinco") as part of the takeover can deliver more value to the vendors at little cost to the purchaser, by allocating exploration or speculative assets and operational assets separately to the capital pools that are seeking each kind of investment. The purchaser may feel that it is appropriate to retain an interest in these assets (in the form of Spinco shares) so as not to simply pass on the upside they may represent, and its interest in Spinco will be quite liquid.
This article discusses how Spinco transactions typically are structured and the relevant Canadian tax considerations. Issues affecting employee stock options are discussed separately, as is the availability of the tax bump to the purchaser of the target shares. In the past two years, there have been 10 of these Spinco transactions in Canada. All but one of them have involved targets in the resource sector. In four of these 10 Spinco transactions, the purchasers took an interest in the Spincos, ranging from 9.9 per cent to 19.9 per cent of their issued capital.