The state of the head office

Canada’s anxiety about becoming a branch plant economy run by foreign interests is as old as Confederation itself. But is all the worry and handwringing warranted?

In the global mining industry, there’s nothing especially unusual about M&A activity; indeed, resource companies are frequently in play, thanks to the constant flux in commodity prices.

But news last spring of a bidding war for Montreal-based Osisko Mining Corp., a precious-metals producer, quickly spread well beyond the confines of the Quebec mining finance world. With assets of more than $3.3 billion, Osisko is the province’s largest gold producer. So perhaps not surprisingly, the firm became a takeover target. A Toronto-based joint venture between Yamana Gold and Agnico Eagle Mines put in a 50-50 takeover offer, which was met with a hostile bid from Goldcorp Inc., a Vancouver firm.

Yet as the board weighed its options, pundits and political observers were fretting about something else besides the target price: the ramifications of an acquisition that could see Osisko’s headquarters leaving Montreal. The prospect of such a loss soon became fodder for a charged discussion about whether Premier Philippe Couillard’s new Liberal government should step in to find a way to prevent the firm from decamping, with all the associated economic ripple effects.

"The philosophical underpinning is very simple," finance minister designate Carlos Leitao, a former Laurentian Bank economist, told The Financial Post in April. "It’s the realization that a head office is a very valuable component of the economy in a metropolitan area. We intend to protect that as much as we can."

For many Quebecers, the takeover battle evoked an earlier one — the attempted acquisition of Rona, the Quebec-based home improvement retailer, by US chain Lowe’s. Quebec, moreover, isn’t the only region that has confronted the possibility of the departure of a strategically vital head office. Saskatoon had a similar wake-up call when Australian mining giant BHP Billiton tried to acquire Potash Corp. And tech watchers have been wondering what could happen to Waterloo, Ont., if a multinational tech giant gobbled up what’s left of BlackBerry.

With the two earlier cases, the takeovers floundered and the head offices remained in situ. What happens with Osisko’s headquarters, however, is less clear. Leitao’s rhetoric aside, the Liberals have little in their arsenal to protect head offices from relocating. And after Goldcorp allowed its offer to expire, Yamana and Agnico completed the acquisition in mid-June, renaming the firm Mine Canadian Malartic. It seems inevitable that key decisions will henceforth be made on Bay Street.

In big cities across Canada, economic development officials obsess about the state of their local head offices — either of Canadian firms or Canadian subsidiaries of foreign ones. The preoccupation is not difficult to understand: it’s an article of faith that head offices provide high-salary, high-skill jobs and create all sorts of spin-off economic activity, especially in fields such as law, accounting, finance, engineering, management consulting and advertising.

"In some sectors, the head offices are very important and generate a lot of economic benefits that can’t be underestimated," says Michel Magnan, the Stephen Jarislowsky chair of corporate governance at Concordia University’s John Molson School of Business. A loss of head offices, he adds, "is a cause for concern."

Many in Montreal’s business community recall the grim years following the 1976 election of the Parti Québécois, when dozens of major firms, such as Sun Life, pulled up stakes and moved their headquarters to Toronto. In Toronto, in turn, executives and professional services firms remember the exodus of branch plant head offices following the Canada-US free trade agreement, as well as more recent threats to the city’s mining industry in the face of global consolidation in the resource sector.

Magnan points out that when a head office leaves, there’s a direct hit on the professional services firms that provide everything from financial advice to marketing and creative direction. Head offices also dictate economically vital activities such as R&D, so when a company moves or is absorbed by a larger firm, the executives who make key decisions about product development and research agendas will likely lose their jobs or see those responsibilities shifted elsewhere.

A loss for one city can be a gain for another, of course. Court Ellingson, manager of research and community sustainability for Calgary Economic Development, says the city agency has compiled data showing that Calgary’s roster of Financial Post 500 head offices grew by 61% between 2003 and 2012, and now stands at 135. Moreover, the number of high-value jobs in Calgary in the professional, scientific and technical occupations jumped by more than 31% during this period and is currently well above the pre-2008 peak (the surge reflects population increases as well as economic growth in the booming energy and natural resources sectors). Says Ellingson, "We use those numbers in our business attraction efforts."

Most city-regions do, and not just to attract other head offices, although there’s evidence that companies like to locate head offices in communities with lots of other head offices (other factors include strong education and training sectors). According to George Hanus, CEO of the Greater Toronto Marketing Alliance — which seeks to attract investments from businesses to create a presence with warehousing, assembly, manufacturing and research development facilities — foreign firms looking for locations will be drawn to communities with a healthy head office sector because of what he calls the "prestige factor." "It helps if we can rattle off the numbers of other high-profile companies."

On the flip side, the loss of head offices, some observers say, doesn’t bode well for big cities that have become increasingly dependent on high-paying service-sector jobs that pump spending power into the veins of the local economy. According to a recent study by KPMG Secor, Montreal has about 400 head offices — 70% of Quebec’s total — and 42,000 jobs linked directly to them.

Yet the actual economic heft of the head office sector may be overstated, according to other experts. Indeed, given that an unprecedented number of Canadian firms are now snapping up foreign companies, the various policy tools meant to retain domestic head offices may actually backfire on investors looking for acquisition opportunities abroad.

Almost since Confederation, Canada has endured and post-NAFTA fretting about Canada’s head offices persisted waves of anxiety about the influence of foreign companies on the country’s economy, from political resistance to "reciprocity" (a.k.a. free trade) in the late 19th century to post-Second World War concerns about the evolution of a "branch plant economy" run by multinational manufacturers with little emotional stake in Canada. In the 1970s, then prime minister Pierre Trudeau established the Foreign Investment Review Agency and passed the Investment Canada Act in order to make it more difficult for offshore companies to buy Canadian firms.

The federal government applied those protections cautiously into the late 1990s and early 2000s, with critics bemoaning the "hollowing out" of corporate Canada.

Economists and statisticians, however, have repeatedly produced data debunking those fears. A 2002 Statistics Canada analysis found few sectors experiencing declines in head offices or head office employment. A Statistics Canada survey conducted in 2012 found a slight decline in the overall number of head offices, to 2,816, but a slight uptick in head office employment, to almost 222,300. Indeed, all six of Canada’s largest metropolitan areas saw their respective roster of FP 500 head offices grow by double digits in the past decade.

When University of British Columbia professors Keith Head and John Ries looked at the role of head offices in a paper for Industry Canada’s Competition Policy Review Panel, they found some other surprises. For example, employment in foreign-owned head offices actually grew more quickly than in Canadian firms in the first half of the 2000s. Walid Hejazi, a professor of international business at the University of Toronto’s Rotman School of Management, says the explanation likely has to do with the fact that newly arrived foreign firms have a greater need to establish themselves in local business and professional circles.

There is little question that the employment generated directly or indirectly by head offices pumps cash into the local economy. Ellingson points to the fact that in Calgary in the past decade, retail sales through both high-end and low-end chains have outpaced population growth, due to both the energy boom generally and the growth in head office and spin-off employment.

Yet not all head offices are created equal. In some sectors, such as retailing and manufacturing, corporate structures have become so flat and decentralized that a head office may be a very lean operation, Magnan says. "The proximity to a major plant is not as critical as it used to be."

Other observers say that the head office jobs aren’t necessarily the most important economic drivers in large metropolitan regions. David Wolfe, an expert in regional economic development and innovation at the University of Toronto’s Munk School, says he pays more attention to the overall number of creative-occupation jobs and high-end business services in an urban area, not whether they’re directly linked to head offices per se. Looking at greater Toronto, he points out that the banks and financial institutions play a major role, but so do the large local divisions of tech giants such as IBM and Hewlett Packard. "They’re a huge presence."

Hejazi points to the Ontario government’s recent decision to offer a $200-million incentive to Cisco to establish a $4-billion operation that will create 2,000 tech-sector jobs. "I would argue that Cisco allows us to make Ontario more attractive to head offices." (Indeed, he says that of all the tasks and spin-off activity generated by head offices, none compare in importance to R&D labs.)

Such enticements, in fact, may deliver more punch than investment policies specifically designed to prevent takeovers that could lead to the loss of a head office. As Head and Ries concluded in their 2008 study, "There is also no compelling case for promotional policies and investment inducements designed specifically to attract head offices, since the head office sector is strong."

It’s hardly a consensus view. Earlier this year, a task force on the protection of Quebec business issued a report outlining ideas for retaining head offices in the aftermath of Lowe’s attempted takeover of Rona (Andre Dion, Rona’s founder, was a member of the task force, which was established by the former PQ government in 2013).

As the final report noted, "The Task Force believes that too many head offices are vulnerable to takeover bids that are attractive in the short term to the shareholders but that would cause significant economic losses for Québec." Among its many recommendations: granting tax treatments on capital gains to Quebec residents and investment funds that make it financially advantageous for them to retain their shares.

Hejazi, however, says that foreign direct investment in Canada as a proportion of GDP hasn’t changed since 1970, whereas Canadian firms have become world-beaters in terms of international M&As. "Canada’s share of global outward investment has increased." A 2010 study by University of Calgary economist Jack Mintz found that Canada ranks 23rd out of 92 countries in terms of outward investment as a proportion of GDP and only 46th in terms of foreign direct investment. "Despite extensive empirical evidence documenting the benefits associated with outward FDI," adds Hejazi, "it remains less well understood among both policy-makers and the public."

In his view, Canada runs the risk of retaliation abroad if our governments make it difficult for foreign companies to acquire domestic firms and relocate their head offices.

Magnan disagrees, and points out that all countries, including the US, maintain either overt or subtle protectionist measures to prevent the loss of strategic corporate assets, such as head offices. "You know the old saying: ‘You don’t need to be more catholic than the Pope,’ " he says. "Why should I play by the rules of a game that no one else plays? It’s an issue of balance."

As for Montreal and the ultimate fate of Osisko’s head office in the wake of the takeover by Yamana/Agnico, Quebec economic development officials can take some comfort in the fact that the city’s FP 500 head office indicators have all trended up over the past decade, despite all the handwringing.