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Acting for Pension Funds The Magic Circle

It is hard to comprehend that the recent appetite of pension funds for billion-dollar real estate acquisitions represents just a fraction of the legal work generated by the enormous pools of capital created by the monthly contributions Canadians make to this country's old-age security network. But it is true. Acting for pension funds is big business, particularly if you are part of the "magic circle".

The real estate investments made by the funds have vaulted the industry into the forefront as the largest players in Canada's commercial property market. Yet real estate, which typically represents no more than eight per cent of their total assets and sometimes as little as four per cent, are but a portion-albeit a significant portion-of the pension fund legal work motherlode. Blake, Cassels & Graydon LLP's Rob Collins, widely recognized as the doyen of pension fund-related asset investment counsel, estimates that upwards of five per cent of the total billings of his 400 lawyer firm is connected to pension funds and pension related issues. While the pension funds' traditional stakes in stocks, bonds and other financial instruments require little direct legal work, their enormous cash flow has led to increasingly complex transactions as they search for appropriate investment vehicles in which to profitably park their wealth. And the trend to complexity is gaining momentum as funds push theboundaries of their investment parameters into the new economy. All of this suggests that a powerful pension law capability is a significant advantage, if not yet already mandatory, for Canada's principal law firms.

Given the breadth of legal work emanating from the funds, reason dictates that the country's law firms, particularly the majors, would be scrambling to assemble the expertise required to put them into the magic circle of primary legal counsel to the funds. But this is not the way the market has evolved, at least not to date. Blakes and Osler, Hoskin & Harcourt LLP have long led the pack in liability practice matters (the "plan" side as opposed to the "investment" or "asset" side), where the "pure" pension law expertise largely resides. Hot on their heels, Borden Ladner Gervais LLP is edging into the magic circle using an entirely different marketing approach. Toronto-based thirty-lawyer Koskie Minsky, meanwhile, has no formidable competitors on the union and employee side of pension and benefit work. Otherwise, the only other firms to have established significant departmental reputations in pure pension and benefits law are Fasken Martineau DuMoulin LLP and Fraser Milner.

Surprisingly, McCarthy T195131 169trault and McMillan Binch have only two full-time lawyers in their pensions and benefits departments, which are largely devoted to servicing the firm's existing clients. Similarly, Torys and Davies, Ward & Beck's interest in pension law appears confined to treating the area as a peripheral specialization. The one exception is fund involvement in merchant banking. Yet even here Stephen Donovan at Torys notes that venture capital typically represents only two to three per cent of pension fund assets. As explained by Sean Weir, previously head of Borden & Elliot's Pension Law Group until his recent appointment as the National Managing Partner of the newly merged firm, Borden Ladner Gervais LLP: "Some of the firms with major investment practices have regarded pension practices as adjuncts to investment banking and have not felt it necessary to develop a pension practice per se." In Montreal, Desjardins Ducharme Stein Monast are far and away the leaders on the plan side, while Vancouver's Lawson Lundell Lawson & McIntosh are the market frontrunners out West.

This is not to say that Blakes and Oslers share a duopoly on the pension fund investment side mega transactions. As Collins notes, Blakes acts for four of the top eight pension funds and one-third of the top 50, "but we don't act exclusively for any of them." That's partly because in-house counsel at the pension funds are adamant about the good business sense of spreading their work around, as most financial institutions have been doing for the last twenty years. And also because some of the large pension funds, like Teachers, take a very strict approach to lawyers acting for more than one party in a transaction. Conflicts or perceived conflicts play a large hand in spreading transactional pension work around.

But this much is clear: Blakes and Oslers are to be found as counsel on the pension-related deals more frequently than any other firms in the country. Their depth of expertise and experience in pension law, their contacts, and their pension-related client lists make them best-placed to take advantage of the opportunities presented by the increasingly significant role played by pension funds in Canadian and international markets.

At Oslers, a multi-disciplinary team led by Christopher Portner, a mergers and acquisitions specialist, Ian McSweeney, head of the firm's Pensions & Benefits group, and Maurice Coombs, Chair of the Research Department and a pension specialist in his own right, have been retained as counsel to the newly-privatized Canada Pension Plan Investment Board (CPPIB). The CPPIB marks the federal government's initiative to self-fund the Canada Pension Plan, the retirement fund for the 70 per cent of Canada's population that is not covered by the Quebec Pension Plan. Experts predict that the CPPIB will have $85 billion under administration within five years, and over $100 billion by 2012. Oslers are also principal counsel to OMERS and Portner and Barbara McGregor, Chair of Osler's Commercial Property Department, represented OMERS Realty Corporation and Oxford Properties in connection with the fund's recent acquisition of the Royal Bank's massive real estate portfolio. The Chair of the firm's Litigation Department, Brett Ledger, is counsel in several leading-edge pension class actions.

At Blakes, Collins' reputation has put him to work on the International Finance Participation Trust (IFPT), a vehicle that will allow pension funds to invest in international finance trusts without having the investments treated as foreign property. The IFPT is the brainchild of Carl Otto of Carl Otto & Associates, a Montreal-based financier who convinced the federal government to modify the rules governing the classification of foreign property for the purpose of the 20 per cent (soon to be 30 per cent) foreign property rule. Collins' assistance in this endeavour marks him as the lawyer to see when the funds, as they inevitably will, flock to international markets to satisfy their growing demand for the quality debt products that are in short supply domestically. "The IFPT adds a whole new aspect to lawyers' involvement in pension matters," says Otto. Collins and senior Blakes commercial real estate partner James Hilton are also involved in the huge CIBC real estate portfolio sale. They also acted on OMERS' acquisition of Hammerson's real estate holdings as well as the fund's investment in Oxford.

So what gives Oslers and Blakes the edge? The answer, as is often the case for magic circle members in various areas of the law (other examples would be asset securitization or investment funds), can be found in what Andrew Soundy, a senior partner with the London, England firm of Ashurt Morris Crisp, calls "successful leading individuals who offer high value work in less traditional areas of legal practice."

This is certainly the case at Blakes, whose roots in the pension industry spring from Collins' early involvement in structuring real estate ventures when funds first started investing in real estate almost a quarter-century ago, and in partner John Solursh's 16-lawyer Pensions & Benefits Group, the largest such group in Canada. Oslers' high profile in the area can be traced to its longstanding work for OMERS, a relationship now managed by John Petch, Q.C., the firm's Vice-Chair, and to the efforts of partner John Goodwin, Q.C., (now semi-retired), Ian McSweeney, and Maurice Coombs in developing the firm's 9-member core group of pensions and benefits experts to assist senior M&A practitioners like Portner and real estate specialists like McGregor in pension-related transactions.

Canada's top 100 pension funds, with assets of approximately $500 billion representing the country's largest pool of free capital, own roughly $25 billion of Canadian commercial real estate. "The pension funds," says Barbara McGregor, "have been in on all the big real estate deals for most of the last decade." And it is not just real estate. The Caisse de D195131 169p195131 180t et Placement du Quebec is the largest single corporate shareholder in Canada. It is practically everywhere, including its recently acquired status as the largest equity holder in Air Canada. The most recent examples of the muscle the Caisse can bring to bear is the audiacious $5.88 billion bid it has made with Quebecor Inc. to knock out Rogers Communications Inc. for control of Groupe Vid195131 169otron Lt195131 169e. If successful, the Caisse will dominate not only the skies above Canada (via Air Canada) but cyberspace above Quebec (via Groupe Vid195131 169otron's cable systems.) While the 10 biggest funds, led by the Caisse ($100 billion), Teachers ($60 billion), and BCI ($55 billion), account for over 50 per cent of the assets of the top 100, over 80 funds report assets of $1 billion or more.

The legal work created by the likes of the Ontario Teachers Pension Plan Board's (OTPPB) $2.3 billion takeover of Cadillac Fairview Corp. is staggering. Equally lucrative, no doubt, are the professional fees flowing from the CIBC's $860 million sale of its portfolio of seven wholly-owned office buildings, including downtown Toronto's Commerce Court West, to the BC Investment Management Corp. (BCI), the newly created manager of British Columbia's public employee pension funds; the Ontario Municipal Employees Retirement System's (OMERS) purchase, with Oxford Properties Canada Inc. and GE Capital Canada, of the Royal Bank of Canada's portfolio of 33 properties for $827 million; OMERS' related investment in Oxford; the pension funds' involvement in the purchase of Toronto's SkyDome; the Caisse's increased interest in real estate giant Cambridge Properties; and OMERS' $800 million acquisition of Hammerson Canada Inc., the biggest Canadian real estate deal of 1998. Even the smaller, less-publicized deals are hardly shoddy. In February of this year BCI, for instance, followed up its CIBC purchase by acquiring the 23-storey Merrill Lynch Tower in the heart of Toronto's financial district from Sun Life Assurance.

And the best may be yet to come. The unprecedented growth of the pension funds and their active investment activity has occurred with the largest player of all, the federal CPPIB, still in the starting gate. And pension funds' massive cash surpluses-currently, pension contributions and investment income exceed pension payments by $9 billion annually-make it unlikely that their investment rush will abate in the near future. David Foot, author of the best-selling Boom Bust & Echo and Boom Bust & Echo 2000, told Lexpert he expects that the trend will continue for at least another ten years. Donald W. Black, CEO of Regina-based Greystone Managed Investments Inc., which has $11 billion in public and private pension funds under administration, agrees with Foot. Black does not see a slowdown in fund investments for up to 20 years.

Real estate work is, however, just the tip of the pension plan iceberg. On the liability side (the "plan" side as opposed to the "investment" side) of the business, pension lawyers grapple with the complexities of a country that generates laws and regulations from ten provincial pension regimes as well as federal pension legislation. The complexity has prompted employers and fund administrators to look beyond their traditional advisors, actuarial and benefits consulting firms like William Mercer and Associates, Towers Perrin, Watson Wyatt and Hewitt Associates, to lawyers with expertise in the vagaries of pension and benefits law, pension governance and fiduciary duties. These lawyers appear before regulatory bodies, provide strategic advice and advocacy regarding legislative and regulatory reform on matters such as pension taxation, monitor compliance with legal requirements relating to both administration and asset investment, advise on the thorny question of pension fund surplus entitlement, advise corporate boards on their responsibilities relating to pension plan issues, counsel employers and individual plan members on a spouse's pension entitlement upon marriage breakdown, and draft pension plans, pension trust documents, investment agreements and securities lending agreements.

On the asset side, pension lawyers are important advisors in the purchase and sale of any business large enough to have a pension fund, whose value not uncommonly exceeds the purchase price of the business. Even when that isn't the case, the numbers are huge. For instance, in the news as this article goes to press is the $140 million dispute between National Trust pensioners and Scotiabank, which bought the trust company a few years ago.

Concurrently, litigators are having a field day with pension issues. While the suits over pension surpluses on wind-up, highlighted by the Dominion Stores case in the mid-eighties, have abated as the evolution of legal principle in this area of the law matures, disputes over surpluses in ongoing pension plans are on the rise. In 1990, retired Ontario police personnel incorporated a non-profit organization called The Police Retirees of Ontario Incorporated. The organization's aim is the protection of members' pension interests by promoting the formation of local police retiree associations. Some four years later, 27,000 retirees in Quebec formed an alliance of retiree associations to ensure the protection of their rights in ongoing pension plans and to promote an active involvement in the management of pension surpluses.

But it is not just the plan members whose activism is on the rise. Traditionally, and with the sole exception of the Caisse, pension funds-particularly the public sector funds-have for the most part maintained a low profile, preferring discreet diplomacy to public confrontation with management or resort to litigation. But that may be changing. In the early nineties, OMERS demonstrated the power of a pension fund investor to influence corporate behavior when the fund's managers objected to a change in the capital structure of Xerox Canada Corporation Ltd. and sought relief under a statutory oppression remedy. The matter eventually settled, but not before OMERS had, in the words of Oslers' Maurice Coombs, demonstrated "the power of a pension fund investor to act aggressively to influence corporate behavior."

OMERS again threw its weight around a few years ago, taking on Ford Canada's American parent when the fund's directors decided that Ford's offer for the shares of its Canadian subsidiary was inadequate. And, just a few months ago, Barbara Sargent, president of the 144,000 member Ontario Teachers Federation (OTF), whose retirement assets are managed by OTPPB, warned that Ontario teachers would lobby the fund to divest its $156 million stake in Talisman Energy if the OTF corroborated allegations of human rights violations in Sudan, where Talisman had invested $760 million in a lucrative oil project. After Ottawa ruled out sanctions against Talisman, Sargent withdrew her threat, a move described by market observers as a significant factor in Talisman's "reversal of fortune" exemplified by a 15 per cent rise in its share price over two days.

For its part, the Caisse has never been shy about taking public positions designed to maximize the value of its holdings, particularly by using what the National Post has called "last-minute holdout techniques." Last February, for example, Jean-Claude Scraire, the fund's chief executive, warned that it might invoke its shareholders agreement with the Chagnon family, majority owners of Groupe Vid195131 169otron, to block the $5.6 billion sale of Vid195131 169otron to Rogers Communications. Clearly, Scraire was harking back to the Caisse's success in winning an enriched bid and a "buy Quebec produce" guarantee from Loblaw Cos. when the Ontario-based grocer acquired Quebec supermarket chain Provigo Inc. in 1998.

When pensions first entered the real estate market in the mid-seventies, Collins' boss, Robert Brown, Q.C., (now retired), asked him to devise a structure that would allow funds to invest in real estate and retain professional consultants on a consortium basis while reserving investment discretion to individual funds. The structure had to afford the funds limited liability and maintain their tax-exempt status. Brown, Collins, and tax partner Joel Shafer (now retired) obtained a Revenue Canada (now the Canadian Customs and Revenue Agency) ruling that put the stamp of approval on a unique structure devised by the lawyers to accomplish the client's goals. Soon afterwards, Collins and company closed Canada's first pension fund consortium deal.

Two years later, Collins and his colleagues at Blakes again obtained a tax ruling that interpreted the capital tax recapture rules in a way that allowed the funds to make a tax-efficient bid on real estate owned by British interests who had overextended themselves during the global real estate recession. "That deal, which involved $80 million in equity and $160 million in debt, put pension funds on the Canadian real estate map," Collins says.

The then-unique transactions also put Collins on the map. Soon he was acting for the Morguard group of companies, originally 70 per cent owned by a half-dozen pension funds, which sold their interest to Metropolitan Life in 1986. Although the company has been sold twice since, Collins still acts for his long-time client. And in 1981, Collins parlayed his expertise into creating Canada's first pension fund oil and case consortium. As the funds expanded their investments internationally, Collins and his partners at Blakes created structures that allowed the funds to invest in what might otherwise be labelled as foreign property without fear of losing their tax status by transgressing the foreign content rules. The firm also provided the opinion that gave funds the comfort level to embark on securities lending-situations where dealers need to borrow securities to cover short sales and other situations. "In the late seventies and early eighties, no other firm was in a position to give that kind of opinion because they had not focused on the issues as much as we had," Collins recalls. The important business result was that the ability to give confident, cutting-edge advice in what was then a niche area helped Collins and Blakes create their own market for professional services.

As the pension funds grew larger and started investing aggressively, Collins remained one of their most trusted advisors. Arguably, he has one of the best corporate practices in the country-a pension-fund focused specialization that only a select few in the profession even know exists. Except for the clients, of course. "Rob was and is the preeminent lawyer who had a handle on how to structure real estate ownership for pension plans," says Greystone's Don Black.

Collins' colleague John Solursh, a former Blakes' managing partner, saw the future in pension work on the plan side about the same time Collins was making his mark on the investment side. A tax lawyer who specialized in trust issues, Solursh began dealing with pension-related matters in the early eighties. In 1988, Blake's Pensions Group attained formal status as a division within the tax department-"because that's my background," Solursh says. The group functions independently, however, holding its own meetings and assuming responsibility for group recruiting, training, and marketing. Two of the group's 16 lawyers who spend 80 per cent of their time in pension work are in Vancouver, and cross-appointments from other firm departments supplement the group's expertise.

"The reason we have the largest pensions and benefits group in the country is that we were able to identify an area that looked interesting and were prepared to take a risk by devoting ourselves to that area," Solursh explains. "We hired people so that we could provide service when work came in the door, rather than waiting for the work before we hired the people. It's also an area where the more you do it, the more of it you're likely to get, because you're working primarily with people who are themselves experts in the field, like actuaries and benefit consultants. Pensions is also an area where conflicts do not impair client lists."

Michel Benoit, Head of Pension and Employees Benefits Law at Montreal's Desjardins Ducharme Stein Monast is of much the same mind in explaining why his five-member group dominates the practice area in Quebec. "When I started here in 1984, the field was wide open, so we got a very significant head start, allowing us to build up a head of steam that made it hard for others to catch up."

A "fair chunk" of the work the Solursh group at Blakes draws involves lawyers in other disciplines, and many clients are new arrivals to the firm. "Big firms grow on M&A work, complex litigation, and specialty areas, and more than a few firms get some of their M&A work from specialty practices," Solursh notes. His practice also draws international calls from clients moving into Canada seeking advice on the complexities of integrating their existing pension plans with Canadian law. And pension work is closely connected to labour and employment law, allowing for potentially profitable interaction with human resource managers. Similarly, Benoit observes that his firm frequently handles the investment side when a pension law client is the lead investor on an acquisition. Borden Ladner's National Managing Partner Sean Weir maintains that the pension field "has been a boon for work in all kinds of areas."

The exponential growth in the work began when legislators started revising pension legislation in the mid-eighties. The most fundamental change allowed funds to invest beyond a legislated "legal list" of financial products, so long as they abided by a responsibility to invest "prudently". The legislation also deemed plan administrators and their agents to be fiduciaries. Not surprisingly, liability as a fiduciary became a major issue fuelling the growth of pension departments. "The new regulations threw responsibility for compliance on administrators, so people started worrying about covering themselves," Solursh explains. "We started giving a lot of preventative type advice because clients, no longer bound by a clear list of allowable investments, were now asking, 'How can I accomplish what I want to do without getting myself into legal difficulties?' And the days of the one paragraph letter to retain an investment advisor has certainly gone by the boards."

Also contributing to the growth of pension administration work were changes to income tax regulations relating to pension surpluses. In many instances, those changes gave the employer the benefit of pension surpluses. At the time, actuaries and consulting firms, many of whom had in-house lawyers, advised companies to simply change the terms of their pension funds to correspond with the new legislation. That approach, however, ignored the fundamental principle that a pension fund was a trust, whose terms could not be unilaterally changed. The conflict between trust and contract law led to the pension surplus litigation culminating in the Dominion Stores case, where Koskie Minsky's Mark Zigler convinced the courts that trust law was paramount, meaning that in many cases the surplus reverted to the employees regardless of plan terms.

Together, the surplus debacle and the legislative reform constituted a loud wake up call to employers and pension fund administrators alike as to the legal subtleties with which they were charged. No longer content to rely solely on actuaries and other consultants for advice, employers began to see pensions as fraught with difficult legal problems and started seeking out lawyers with the necessary expertise. "There's a competitive rivalry, and an aggressive staking out process between actuaries and lawyers," says Ian McSweeney at Oslers. "On the other hand, there's lots of room and lots of mutual cooperation. They need us and we need them, and there's much cross-referral going on as well. While there are still many corporate clients who rely exclusively on the services of actuarial consultants and their in-house lawyers, more and more something a little complex pops out and we get a call from the client." David Wentzell, one of two full-time pensions and benefits practitioners at McMillan Binch, believes that "actuaries and consultants get their hands on the work sooner because they're in there (at the pension funds) doing valuations."

Benoit is more sanguine: "On the plan side, governance issues clearly belong to the law firms. But otherwise, the practice of pension law is in the hands of actuarial firms who have internal legal people and who consistently market themselves as full-service providers." However the emergence of class action pension litigation, Benoit predicts, "will bring the ghosts out of the closets" in much the same way as the surplus lawsuits exposed the short-comings of advice provided employers by "full-service consultants."

In any event, among the lawyers getting regular calls from pension clients was Solursh's partner Kathryn Bush, who also has a tax background. "When I started practising in 1984, I didn't know pensions existed," she recalls. Today, Bush is Vice-Chair of Ontario's Financial Services Commission and the Financial Services Tribunal, which together oversee Ontario's pension regime. But she spends the vast majority of her time at Blakes providing legal advice in pension and related tax areas, doing executive compensation work, and assisting in the structuring of pension plan investments. "There's no end in sight to the growth of pension law," she says, noting that her group has added four lawyers in the last nine months.

James Hilton, the head of Blakes' real estate group, notes that the Pensions and Benefits group is a critical part of the team that acts on the pension fund megadeals in which the firm is involved. The regulatory and tax issues relating to pension funds are complex, he says. "You don't want the pension fund to do anything that will upset the tax authorities," he says, somewhat laconically. Like Collins, he attributes much of the firm's ascendancy in pension fund real estate work to its relationship with Morguard. "You get your foot in the door," he says, "and people trust you." But, like Ashurst's Andrew Soundy, he also subscribes to the "successful leading individual" theory. "There isn't a Rob Collins or a John Solursh at McCarthys," he maintains. "So while every one of the big firms does a little bit of work for pension funds or their advisor, they don't have the concentration of pension fund work that we have."

But Oslers does. In addition to Barbara McGregor, Chris Portner and John Petch on the investment side, the firm boasts four partners and five associates in the core Pensions & Benefits Department led by Ian McSweeney. Coombs, a cross-appointment from the research department, is a leading pension expert who has advised the Ontario government on the privatization that lead to Teachers' and OMERS' current structure. Called in 1970, Coombs has been with Oslers since 1972. He's been involved in pension fund work since the 1970s, sometimes spending as much as 70 per cent of his time in the area. Currently, he estimates that about 40 per cent of his workload is pension generated. Three other cross-appointments round out the group, which also includes two documentation consultants, responsible for keeping up with legislative changes and providing advice on plan design and related matters.

John Goodwin, followed by McSweeney, built on Coombs groundwork, culminating in the formation of a formal Pensions and Benefits Department at Oslers about 10 years ago. On the plan side, corporate governance and fiduciary-related retainers fuelled growth in the eighties. And over the last twenty years, the department has evolved from a two-member support unit to an independent department that provides services directly to its own clients and is both on the giving and receiving end of the firm's cross-selling efforts. "Economically, our department's contribution to the firm has become significant," McSweeney says. He goes on to note: "Strategically, our practice is important in enabling Oslers to deliver an appropriate level of service to clients involved in major corporate and real estate transactions." John Petch, whose position as the firm's Vice-Chair and partner responsible for the firm's overall relationship with OMERS gives him a clear picture of pension fund activities, has no doubt that the firm has an exponential growth area on its hands. "Just look at the sheer size of the funds," he says. "And they're getting bigger and bigger."

Oslers recent appointment as counsel to the CPPIB in an array of development matters speaks volumes to the continued pervasiveness of pension funds as generators of legal work. Given the embryonic state of the federal pension initiative, McSweeney and Coombs' experience on the plan side will be an important complement to the investment and transactional expertise of M&A specialist Christopher Portner.

This, Coombs notes, is a long way from the "bad old days of the seventies when pension lawyers were like the guys who did wills, never expected to be movers and shakers in a law firm." And, Coombs adds, the panoply of pension work is remarkably recession-proof. "In good times, you have the investment expertise with the pension and benefits work underneath. In bad times, the pension funds have to keep administering their funds and investing their money, so the legal issues on the plan side and the investment work don't go away. And at all times, the government is forever adding to and changing the regulations." Adds Don Kowalenko of Fraser Milner's Calgary office: "The pension funds are in the market when the other traditional players are not. They have cash, they don't have to borrow, and they're long-term holders who see opportunities in economic downturns."

Portner welcomes the experience of McSweeney and his group, "particularly in the interpretation of the prudent investment rule that leaves a substantial gray area on many pension fund investment issues." And Barbara McGregor, whose involvement with pension fund acquisitions has typically been in co-ownership structures, says the "pure pension considerations have always been there, and the tax considerations are heightened by the involvement of pension funds." Besides, she adds, "It's very important to understand the business of your client in any big deal, and our pension department brings that expertise to our transactional team on every deal involving pension funds." McSweeney, for his part, is keenly aware of the quantum change in the way other departments regard his group. "When I started out, pensions issues were always last minute items in share or asset transactions," he recalls. "Now, these issues are complex, high-dollar considerations that have caused corporate and real estate lawyers to get us involved at the outset."

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