Finance

One shock to the Canadian trucking business environment mentioned in the case is company financing—specifically the Canadian government’s backing away from an earlier policy of allowing companies to form “income trusts” so as to generate higher returns to investors and escape the tax on corporate profits and dividends. The impact on the trucking industry is further described by Steve Handelman in a supplementary comment for this note as follows:

Note on Income Trusts

Income Trusts usually hold assets of a number of businesses grouped in specific sectors like energy, retail or real estate. They trade on exchanges like regular stocks, but are exempt from corporate taxes as long as they pay out the bulk of their profits in regular distributions to investors who bought “units” (shares) in the individual income trust fund. This made them widely popular with pensioners and other low-risk-tolerant investors, who were assured of steady dividends at higher rates than normal stock investments -- with annual yields ranging from 6 per cent to as high as 10 per cent. The structure was equally attractive to companies in mature or cyclical industries, like trucking, which gained extra leverage in their markets, a degree of stability, and a considerable increase in equity by converting to the income trust structure. By 2006, about 250 income trusts, with a total value of approximately $210 billion, were trading on Canadian exchanges – the majority of them established after 2001.

An income trust can begin as a single company but rapidly expand by acquisitions into a holding company in which a number of related businesses operate autonomously while benefiting from a centralized financial management. On October 31, 2006 the federal government announced it was phasing out the tax loophole for income trusts by 2011.

The federal government claimed it needed to act to prevent income trusts from effectively taking over the market. Some $70 billion in additional trust fund conversions were announced in 2006. Canada was in danger of becoming an “income trust economy,” warned Finance Minister Jim Flaherty in October, 2006, adding that the trusts' financial structure channeled profits into the pockets of shareholders instead of investing in new equipment and technology – a claim disputed by the income trusts.

Perhaps just as importantly, the expansion of income trusts represented an escalating threat to the federal treasury. Finance officials estimated that income trust funds cost the government some $500 million in lost tax revenue in 2006. Defenders argue that the income trust structure has been a major boon to the Canadian economy: operating on the theory that a rising tide raises all boats, income trusts are said to boost the value of many smaller family-owned companies in an industry (who are potential targets for acquisitions), and raise the profile of “pedestrian” areas of the market that rarely get attention from high-value investors.

“For years, the trucking industry was never an industry that the financial industry liked,” explained Stan Dunford, CEO of Contrans, the first trucking firm to turn itself into an income fund. Before Ottawa cracked down, he said, “we were finally changing the credibility of trucking.” While small investors were hit hardest by the tax blow, as the value of their holdings initially dropped with the announcement, there's no sign that income trusts are closing up shop any time soon. Several trucking trusts, including Contrans, announced new acquisitions following the announcement. But analysts predict that some of the fizz will go out of the income trust boom by the time the tax change takes effect in four years – and several trust funds may themselves be bought out by U.S. investors looking for bargains.

Since many trucking trusts also operate businesses in related industries, including rail, warehousing and logistics, it is hard to establish how many there are in Canada now, or their total value. The TSX index of income trusts does not list trucking companies separately; most are grouped under “diversified industries.”

For more information on Income Trusts, see the analysis in a working paper by the Bank of Canada (2003). Bank of Canada Income Trusts WP03-25.pdf

Cross-Border Shipping

Another –perhaps more profound shock—was the heightened border security in the wake of the 9-11 attacks. Recent Conference Board of Canada studies (June, 2007) available on its website http://www.conferenceboard.ca/ITIC/ indicate, among other things, changes in trucking practice from just in time to “just in case”—advanced shipping and warehouse inventory accumulation—as well as more rigorous border regimes and risk of delay as well as higher fuel costs have conspired to add to the costs of cross border trucking.

There are two reports aimed at general readers with findings pertinent to this discussion:

Is Just-in-Case Replacing Just-in-Time? How Cross-Border Trading Behaviour has changed since 9/11, June 2007.

Reaching a Tipping Point? Effects of Post 9/11 Border Security on Canada’s Trade and Investment [overview report], June 2007.

Trucking Industry Structure

The case also refers to the importance of industry structure in achieving competitiveness and withstanding shocks to the business environment. Students may wish to explore this issue, examining the level of industry concentration and developing a model of the key shapers of the trucking industry structure.

A portrait of Canada’s trucking industry was prepared by Statistics Canada in 2004 and is on their website http://www.statcan.ca/ under “Trucking in Canada,” Catalogue no. 53-222-XIE. Among its findings is the following graph which shows the current concentration and revenues in the industry (fig: 2.3-below)

Students could be asked to research equivalent data for the US trucking industry.

Here are the top revenue generators in the US trucking industry
(from Yahoo finance, 18 June 2006):

As is apparent, the revenue generated by US companies is significantly greater than the equivalent case in Canada.

US industry sector data, while readily available commercially, is difficult to find on government websites. The most recent concentration rations for the industry were reported in 2004: see http://www.census.gov/econ/census02/guide/INDRPT48.HTM (based on the 2002 economic census).

After investigation, it will become evident that both Canadian and American industries are relatively fragmented, composed mostly of small companies operating in very price-competitive environments.

A further reference which also contains data on the added cost to truckers of border security measures can be found in a presentation by the Canadian Truckers Alliance, Canadian Trucking Industry: Key Issues and Developments 2007. It contains some acronyms and other terms that may be unfamiliar. Of particular interest is the “operating ratio” of 0.96%. It means that operating costs to revenue, i.e. the industry profit rate, is 4.0 per cent.

Other terms are acronyms for border security programs for certifying drivers, pre-clearing manifests, standardizing procedures for hazardous materials and animal and plant inspections:

• C-TPAT: Customs Trade Partnership Against Terrorism
  • Supply chain documentation

• PIP: Port Inspection Program
  • aimed at nuclear contraband

• FAST: Free and Secure Trade
  • pre-clearance procedures among NAFTA countries

• ACE: Automated Commercial Environment
  • The standardized platform for electronic document exchange

• US-VISIT: visitor identification program for those with visas
  • most Canadians and Mexicans are exempt

• APHIS: Animal and Plant Health Inspection System

Trucking in NAFTA

Trucking is by far the most important shipping mode in NAFTA, as the graphic below shows, carrying 63.6 per cent of shipments by value.

(Source: US BTS: Pocket Guide to Transportation 2006)