The Hand-over

by Elaine Dewar

  The letter confirmed that Bennett and Prichard had both spoken to people in Ottawa. What they hadn’t told me, but as the letter made clear, is that they had gone to Ottawa because Random House had insisted on it, that the transaction was dependent on gaining this Opinion. They had not argued that Random House would have influence but not control: they had gone right around the control issue by asking for a declaration of Canadian status for the new entity. Their Ottawa meeting must have taken place after Wernick’s May 9 testimony to the Standing Committee on Canadian Heritage, because Wernick gave no hint to the Standing Committee that M&S, the leading Canadian publisher, was in such dire straits that it needed the government to spit out this extraordinary Opinion.

  Ross’s letter neatly demonstrated Bennett’s business brilliance. This Ministerial declaration of the Canadian nature of the new salami permitted all the slices that were to come. But three questions remained: what was the price Random House paid for its 25% of the new M&S? What was the size of the tax credit receipt issued? And what was this “put” in favour of U of T? A put is a contractual agreement between parties detailing the conditions and the price for which shares can be sold at a later date. But the letter did not provide these details.

  The next item in my bundle showed that approvals had also been rushed on the University’s side of the transaction. It was a memo labelled “strictly confidential to Members of the Business Board”. It was dated June 20, 2000, only 10 days before the deal would close. The University’s Business Board must review and recommend to the University’s Governing Council “approval of receipt of major gifts and bequests with terms and conditions of an unusual nature.” This memo summarized the terms of Bennett’s proposed gift. The gift’s sponsor was named as J. Robert S. Prichard, the U of T’s President.

  The memo said there had been a teleconference of Board members concerning this gift on June 8, 2000, six days after Ross wrote to Jeffrey Richstone in Ottawa. A motion had been put forward to the Board stating that the Governing Council should accept the gift, that the President and Secretary of the Governing Council should be given the authority to execute the agreements entailed by the gift, including “an undertaking by the University of Toronto in favour of the Director of Investigations, Investment Canada,” as long as the documents were consistent with the terms and conditions set out in this summary.

  The summary was light on details, but included in its highlights were terms of the gift not stated in the Ross letter to the federal government. For example, the memo said: “Any payments received by the University as a result of its ownership of the shares, including dividends and proceeds of disposition, shall be allocated to an endowment fund named ‘the Bennett Endowment’ and used by the University for the purposes of advancing Canadian literature, Canadian poetry and Canadian culture.” In a section titled Financial Implications, the memo stated that the new M&S would be run as a for-profit corporation “and it is believed that it will become profitable with the administrative and financial support from Random House… If the University decides to sell its shares in the new M&S, it has various sale options pursuant to the unanimous shareholders’ agreement.”

  This was a change in tone from the Ross letter of a few weeks before. In that letter, the implication was that without a deal, M&S’s prospects were dim. As Ross had put it,

  In recent years Mr. Bennett has been forced to confront several complex issues which do not lend themselves to simple solutions. These issues include:

  ensuring that control of the publishing program remains with Canadians,

  the difficulty of finding a dedicated and capable successor to purchase the entire business,

  coping with the significant losses which the business has suffered, particularly over the last number of years…

  But here, there was the prospect of profits. No mention was made in the memo as to how long the University was required to hold on to its shares, nor was there any reference to the University exercising control over the new M&S. No author signed it, but three names were written by hand on the right-hand side: Tad Brown; Brian Davis; and Matthew Cockburn.

  The next memo in my pile, dated the same day as the summary memo for the Business Board, had been sent by the same people—Tad Brown, Finance and Development Counsel for U of T; Brian Davis, a lawyer with Torys; and Matthew Cockburn, also a lawyer with Torys—to Robert Prichard. They identified themselves to him as outside and in-house counsel to the University of Toronto in connection with “the negotiation of a series of agreements…” relating to the gift. “We have also acted on behalf of the University in connection with the preparation of an undertaking (the “Undertaking”) proposed to be provided by the University to the Director of Investigations, Investment Canada, in connection with Investment Canada’s review of these transactions.”

  So, I thought, there had been an Investment Canada review, in spite of official assurances that no review had taken place, and in spite of the letter to Richstone seeking assurance that no review would be required. Three lawyers could not make a mistake about who they had to satisfy, surely?

  The next paragraph insisted that everyone who got this memo had to keep it confidential because “the University is subject to binding agreements of confidentiality, the violation of which may be prejudicial to the interests of the parties and potentially expose the University to damage claims.” This warning was set out in bold.

  For the first time, I saw a mark indicating that a paragraph had been withheld from me under FIPPA sections 19 and 21. The missing paragraph seemed to refer to Bennett, characterized as a long-time benefactor to the University.

  The memo described the reason that a Letter of Opinion had been sought from the Minister. It said:

  Under the Investment Canada Act a non-Canadian is prohibited from acquiring ‘control in fact’ of an existing Canadian publishing business. In order to ensure that the Federal Government accepts the proposed transaction as being in compliance with applicable law, an opinion has been sought confirming that, in the opinion of the Minister responsible for the Investment Canada Act, Random House has not acquired control in fact of New M&S. As of the date of this memorandum (June 20, 2000) the Minister’s opinion has not yet been issued, but, based upon conversations with Justice Department representatives advising the Minister, we expect that the opinion will be issued shortly.

  Interesting: this was almost an admission that rather than arrange the transaction to suit the law, the law was to be interpreted by the Minister so as to obscure uncomfortable facts, such as Random House acquiring de facto control of the new M&S. As Stoddart had said, he who controls marketing and the money controls the company, and this transaction clearly handed Random House control of both.

  The memo laid out a more comprehensive summary of the terms agreed to by the parties, a summary much more specific than Ross’s letter to Jeffrey Richstone. The gift would be 7500 shares of the new M&S. The University would promise not to sell its shares for “three years unless required by law or with the consent of First Plazas.” And, the letter said, the decision to sell any or all of the shares would have to be made by the Business Board acting on the recommendation of the President [italics mine].

  I had found no reference to any such decision by the Business Board when the shares were transferred to Random House in 2011.

  The memo described how profits from the new M&S would fund a Bennett endowment. Then it got to the meat, the agreement to be signed between the shareholders. And that was where, at long last, I spied a number, what Random House had agreed to pay First Plazas Inc. for 25% of new M&S.

  The memo declared that number to be $5.3 million.

  The memo said: “This would give a notional valuation to the entire company of $21,200,000.”

  The memo did not say what the tax credit would be: but it had to be 75% of $21,200,000 million, which would be a little more than $15 million. But was this notional value
of the company correct? According to the Ross letter to the government written only three weeks earlier, Mr. Bennett had to cope with “ensuring that control of the publishing program remains with Canadians… the significant losses that the business has suffered, particularly over the last number of years”… and the “difficulty of finding a dedicated and capable successor to purchase the entire business.” So how could it be worth $21 million? Nothing in the memo detailed how this valuation had been arrived at.

  It went on to name the people who would serve on the board of the new M&S on behalf of U of T: Avie Bennett, John Evans, Robert Prichard and Doug Gibson—Arlene Perly Rae’s name was not listed. The initial Chairman would be Avie Bennett. As to how this board would function, the memo said: except where specified, “board decisions would be by majority vote (thereby providing control in favour of the university).” But then the memo immediately backtracked about control in favour of the University to control in favour of Random House. It said: “A number of key matters require a majority of the University nominee directors and at least one Random House nominee director before they may be approved (thereby providing ‘negative control’ in favour of Random House for these matters).” The issues over which Random House could exert the power of No! included: approval of the annual budget and operating plan; changes in capital structure; any change in the business of the corporation; any payment of dividends on the shares of the corporation.

  These were not trivial matters, particularly the last one. Though the University would own 75% of the shares, it could find itself unable to pay itself any dividends, surely a major reason for the gift, even if M&S was awash in profits, if Random House said no.273

  The memo then described a series of actions that could be triggered by the University, or by Random House. Random House was not allowed to get rid of its share of the salami without the University’s approval. If the University wanted to sell its shares to a third party, Random House could buy them instead at a price equal to 105% of whatever that third party offered.

  Finally, the memo described two puts, though only one had been mentioned in the letter to Richstone of June 2. A put, you will recall, is a contractual requirement that allows one party to an agreement to force another party to buy or sell something at a fixed price at some agreed upon point in time. The puts outlined in this memo were complicated.

  When the Administration Agreement between M&S and Random House terminated after ten years, said the memo:

  …the University may require Random House to buy the University’s shares or the University may require Random House to sell to the University its shares, in either case at a ‘fair value’ price per share.

  Fair value per share was predetermined to be equal to 1.0 times the previous 12 months’ net sales of the new M&S divided by the number of outstanding shares and adjusted for any outstanding loans due to Random House [italics mine].

  Whoa! I muttered. A feature like that could provoke the kind of creative accounting for which Hollywood has become infamous. First, net is a concept that allows accountants to add or subtract costs at will, depending on the outcome desired, especially in a business involving returns. Second, this term would make it advantageous for Random House to make large loans to M&S because, if Random House was forced by the University to buy the University’s shares, a towering stack of loans would ensure Random House paid rock bottom price for them, or nothing at all. And, as the backlist was not mentioned at all in the equation set out to determine value, by this agreement the spectacular M&S backlist had effectively been assigned a value of zero before the signatures were dry on the contracts.

  The memo went on to say:

  “On the fifth anniversary of the Shareholders’ Agreement, the University may require First Plazas to buy the University’s shares for the purchase price of $5.0 million.”

  In other words, by these agreements, the University could force First Plazas Inc. to buy back its shares for a third of their value 60 months after the gift was received, just past the point when the CRA could demand repayment of First Plazas Inc.’s tax credit. While Bennett would get a tax credit receipt for over $15 million for the new M&S shares, those same shares could be deemed by the University to be worth $5 million after July 1, 2005.

  So: even if Random House permitted no dividends to be paid to the University, after five years the University could still get $5 million in cash from First Plazas Inc.

  Huh, I said to myself, that was where benefit to the University lay, not where Prichard had suggested, in the promotion of Margaret Atwood or Michael Ondaatje, but in this $5 million put. And yet the University had not exercised it. Instead, it had held on to the shares until 2011 and transferred them to Random House for nothing.

  Why?

  The summary said that the Publisher was to have editorial freedom, and Random House’s work in managing M&S would be subject to the decisions of the Board. Though the budget was to be prepared by Random House, it would be voted on by the Board. Random House loans would earn interest at 6% and Random House would be paid for its administrative, marketing, and financial services to the new M&S. The initial fee was set at 25.7% of net sales. Apparently, Bennett had assured one and all that such fees were cheaper than his old M&S’s costs. (The publisher of this book assures me that Bennett was correct.) The scope of the publishing program of the new M&S was also set out in the Agreement with Random House and summarized as follows: “The Administration Agreement establishes a general framework for the size and scope of New M&S’s ongoing business activities and establishes that it will publish annually an estimated range of 100 to 170 titles including original fiction and original non-fiction works. As a result, annual budgets will have to be prepared with these objectives in mind.” Random House had also agreed not to poach M&S’s authors or staff without permission.

  This Agreement with Random House could be terminated in five years by M&S if it realized no profits in the three consecutive years after June 30, 2002. In other words, M&S could not get rid of Random House until 60 months after U of T accepted the gift, which was the same point at which the University could call its $5 million put, and the same point beyond which First Plazas Inc.’s tax credit could not be revisited by the CRA.

  So far, Jack Stoddart’s warnings about the real meaning of this gift/sale had been confirmed. Not only did Random House get to control the M&S budget, and loan money to the company at 6%, and get paid for the cost of its services from M&S’s earnings, but because Random House guaranteed M&S’s payment of that $1 million promissory note to First Plazas Inc., and could decide whether or not to collect repayment of, or interest on the debt incurred on M&S’s behalf, Random House could push M&S into debt at the end of the Agreement’s first year.274

  It was very clear that the U of T’s role in the new M&S would be nothing more than acting as a Maple Leaf-branded container for 7500 shares of M&S for five years. In return for holding itself out in public as M&S’s Canadian steward, the University’s reward would be at minimum $5 million if it called the put. Avie Bennett’s First Plazas Inc. would get $6.3 million in cash, plus at least a $15 million tax credit, unless the put was called, in which case it would be left with $1.3 million plus the full value of the original tax credit. Random House would get government sanctioned de facto control of a major Canadian competitor, and a letter from the Minister to wave when applying on M&S’s behalf for grants and tax credits.

  And what had the government asked for in return?

  The memo said the government was worried that the Investment Canada Act provides that a “crown agent” may “dispose of an interest in a Canadian company without complying with that Act.” If the University declared itself to be a crown agent, it could sell its interest in the new M&S to a non-Canadian without restriction. “There has been no definitive determination of whether or not the University is a crown agent,” said the memo.

  And so, the government had insisted that th
e University—not First Plazas Inc. and not Random House of Canada—must give it an undertaking. The University had to promise that if it disposed of its shares of the new M&S, it would not, nor would it permit any purchaser to, rely upon the provisions “which exempt crown agents from the application of the Act… the effect of this undertaking would be to require any future purchaser of the University’s interest in New M&S to be Canadian.”

  Next item in the file was a letter from President Prichard on University of Toronto letterhead, dated June 21, 2000, the very next day. It was addressed to the Director of Investments, Department of Canadian Heritage, attention Michael Wernick. Prichard confirmed that the University would not accept Bennett’s gift without having delivered an undertaking “to the Director of Investigations, Investment Canada, that it will not, and will not allow any purchaser of its interest in M&S to, assert that the University is a crown agent in connection with any disposition of the University’s interest in M&S.” He hooked the provision of this Undertaking directly to the Minister issuing the Opinion that “the completion of the transaction will not result in the acquisition of control of a Canadian business by a non-Canadian.” He promised not to proceed with the transaction without having delivered to the Minister prior to, or contemporaneously with the closing of, the transaction, “the Undertaking negotiated with the Director of Investments, Department of Canadian Heritage.”