Getting ready for the tax hammer

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The Algonquin Power Income Fund is offering C$208 million in stock and cash to buy the Clean Power Income Fund in a friendly takeover bid that would make it the largest operator of wind power in Canada. Clean Power, based in Toronto, has investments in 15 generating plants in Canada and the US, including the 99 MW Erie Shores wind farm in Ontario. Algonquin's Dave Kerr says the Clean Power portfolio is a good fit with Algonquin's asset base, which includes the 104 MW St Leon project in Manitoba.

Algonquin's bid is an early indication of what is expected to be growing consolidation in the sector after Canada's federal government announced in October that it will begin taxing income trusts, which currently pay little or no tax, at corporate rates beginning in 2011. It has since issued guidelines saying existing trusts will be allowed to double in size in the interim at a rate of 40% in 2007 and 20% in each of 2008, 2009 and 2010.

"You have got to strategize to make yourself stronger as a corporation for 2011. Some of the smaller guys probably can't get enough critical mass in four years to become a stable corporation. So there is no doubt in anyone's mind there are going to be mergers and acquisitions going on, at least in our space, in the power and utilities sector," says Kerr.

In recent years income trusts have been a growing force in the development of wind power projects across the country, something Kerr does not expect to see change. "I think you will still see income trusts participating in wind development and projects and the reason I say that is that is probably where most of the non-utility type development is going. Most of the stuff you're seeing right now in terms of new generation being built is wind," he says. Kerr points out that Algonquin has a market capitalisation of close to C$1 billion, leaving it room to grow within the federal guidelines. "We can carry on business like we always have."

Meanwhile, a much smaller trust invested exclusively in wind power projects, the Creststreet Power and Income Fund, says the tax changes and growth limits could have an impact on its plans, including the acquisition of the 63 MW Kettles Hill project under construction in Alberta.

The fund has invested C$33 million in subordinated notes in Kettles Hill, which is expected online this month, and has expressed interest in adding the completed project to a portfolio that includes the 54 MW Mount Copper project in Quebec and the 30.6 MW Pubnico Point project in Nova Scotia.

Hitting home already

"Our partnership's ability to acquire Kettles Hill may be restricted," managing director Eric McFadden said recently when announcing the fund's 2006 financial results. Creststreet Kettles Hill Windpower LP, a tax-advantaged, flow-through limited partnership created to finance the development phase of the project, announced last month it had appointed an independent advisor to help determine its options for providing liquidity to unit holders.

Units in flow-through limited partnerships typically do not trade on any secondary markets, so the partnerships have traditionally provided liquidity for investors by either listing on a stock exchange or selling to an income trust. Both options are affected by the government's taxation plan (Windpower Monthly, January 2007).

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