The Use of Holding Companies for Ontario’s Municipally Owned Electricity Utilities: Part 2 – ‘Corporatization’ and Development of the HoldCo Structure

Introduction

In the first article of this series, we provided an overview of the utility and advantages of using holding companies (“HoldCos”) in a general business and finance context. This second instalment will explore the legislative authority for authorization and use of HoldCos in the context of electricity distribution restructuring in Ontario as part of the Energy Competition Act, 1998 (the “ECA”).

‘Unbundling’ Ontario’s Electricity Sector

Prior to the year 2000, Ontario Hydro, the government-owned generation and transmission monopoly, was also responsible for the distribution of electricity to rural communities. More than 300 municipal public utilities commissions or hydroelectric commissions distributed electricity in most urban areas. However, Ontario Hydro was still charged with regulating these commissions.

By the late 1990s, Ontario Hydro had incurred substantial stranded debt caused by, among other things, cost overruns on nuclear projects and a general downturn in the Canadian economy. A new Progressive Conservative provincial government came to power in 1995 and, consistent with global trends to “unbundle” vertically integrated electricity monopolies, passed the ECA.^[1] The ECA restructured Ontario Hydro into transmission, generation, market and system operation and electrical safety entities.^[2]

‘Corporatizing’ Municipal Electricity Distribution

The Electricity Act, 1998 (the “EA”), a part of the ECA, provided for the “corporatization” of municipal hydroelectric and public utility commissions. Municipalities were now required to transfer their distribution assets, liabilities and businesses to newly incorporated local distribution companies (“LDCs”) incorporated under the Business Corporations Act (Ontario). In exchange for the transfer of the business to the LDCs, municipalities received shares and debt in the form of promissory notes. Some municipalities retained sole ownership of their LDCs, some merged their distribution businesses with those of other municipalities – such that a number of municipalities held shares in the LDCs, and some sold their distribution businesses altogether (generally to Hydro One).

Regulated vs. Unregulated Affiliates

Under s. 142(1) of the EA, municipalities had the right to cause a corporation to be incorporated for the purpose of generation, transmitting, distributing or retailing electricity. The question arose whether the LDC, incorporated for the purpose of distributing electricity (a monopoly business regulated by the Ontario Energy Board), should also be used if a municipality wished to own a corporation that engaged in unregulated and competitive businesses. Competitive businesses could include generating or retailing electricity or carrying on other businesses that were related to distribution, such as water heaters or the provision of ancillary energy services. Also, certain assets and employees might be able to provide services for both the regulated distribution business and the unregulated competitive businesses. Thus, the structure that emerged was to place the assets to be used in the distribution business in the regulated corporate entity and assets to be used in the unregulated competitive businesses in the unregulated corporate affiliate.

The HoldCo Structure

For the reasons discussed in part 1 of this series (including centralized management, strategic direction, financing and limiting liability), it was considered desirable that the municipal shareholder(s) not own the shares of each corporate entity directly. Rather, it (or they) could own shares in a corporation that would be created for the purpose of, in turn, holding the shares in the regulated and unregulated entities as subsidiaries of the holding corporation.

A Legislative Problem and Solution

As noted above, municipalities were given the right under section 142 to incorporate a corporation only for certain enumerated purposes. The purpose of holding shares in another corporation was not one of the enumerated purposes. So, the question arose whether a holding corporation that, for example, held the shares of a distribution company could be considered to have been incorporated for the purposes of distributing electricity. To assuage any doubt, the EA was amended by adding section 142(1.1), which provided that a corporation that was incorporated to “acquire, hold, dispose of and otherwise deal with shares of a corporation” that was otherwise validly incorporated under section 142 would be considered itself validly incorporated under section 142. It is worth noting, however, that the effect of this section was temporary and could not be used for a holding corporation.

Final Instalment: Corporate Governance and HoldCos

In the third and final article of this series, we will discuss the specific corporate governance issues that arise when using HoldCos within the context of municipal electricity distribution. 

[1] Bill 35, Energy Competition Act, 1998 - Legislative Assembly of Ontario (ola.org)