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Financial Post : October 18, 2002
By Derek DeCloet

EDC's pain could soon be yours How safe are loans to Bombardier Nortel customers?

EDC's pain could soon be yours How safe are loans to Bombardier Nortel customers? Derek DeCloet Financial Post FP1 Friday, October 18, 2002

Patrick Lavelle, past chairman of Export Development Canada, says half of the Crown corporation's loan portfolio is to Nortel and Bombardier clients. And you thought the worst was over. If you're a shareholder in Nortel Networks Corp. or Bombardier Inc., you've already watched the value of your investment disintegrate. Prepare to feel the pain again -- this time, through your tax return.

As Patrick Lavelle, past chairman of Export Development Canada, reveals in today's National Post, almost half of the Crown corporation's $21-billion loan portfolio is to clients of Nortel and Bombardier, whose share prices have dropped 90% and 64%, respectively, so far this year. In other words, the same sickly customers whose financial woes have caused so much grief to two of Canada's largest companies owe about $10-billion to the federal government -- read: you, the taxpayer -- via Ottawa's export financing arm. Just how safe are those loans? EDC doesn't disclose who it has lent money to. Documents obtained under the

Access to Information Act were heavily censored. But we do know the details of Nortel's experience in financing its customers, and it has been a disaster. As the telco industry implodes, Nortel has been forced to set aside large "provisions" for bills its customers will probably never pay. At the end of 2000, the firm had set aside about US$746-million for bad debts. By the end of 2001, the amount had doubled, to US$1.49-billion. But then, you don't have to tell anyone on Bay Street about it. Bad loans to telco firms have hurt every major Canadian financial institution this year, none more so than TD Bank, which lost $428-million in the third quarter because of them.

The country's six largest banks are scrambling to reduce their nearly $10-billion in loans to telecom, wireless and cable companies, before the next one defaults.

To review: telecom companies aren't repaying their loans from Nortel. They aren't repaying the banks. What are the odds they will repay the Canadian government?

It's easy enough to see why EDC would get in deep with Nortel. In the rosy hope of 2000, many of the Wall Street's finest minds missed the signs of a looming credit crunch. Perhaps it's unrealistic to expect better from some of Ottawa's dimmest minds.

But the relationship with Bombardier -- and EDC's huge exposure to the aerospace sector -- is harder to understand.

The airline sector's economics, if you can call them that, are no secret. (Warren Buffett was once asked why he decided in the late 1980s to invest in US Air. "I think probably the best answer is temporary insanity," he said.) A single recession in the early 1990s wiped out every cent the commercial airline business had earned -- ever. Air Canada's share price is still below where it was when it went public 14 years ago. US Airways is latest in a long line of frequent fliers to bankruptcy court, while others live on the knife-edge of insolvency.

No banker in his right mind would risk more than a tiny fraction of his capital on an industry with such a putrid record. But then, EDC is no ordinary lender. It has the ultimate safety net: the taxpayer. EDC bonds are thought to be so safe that they trade at yields similar to government paper.

If the Crown corporation ever got into serious difficulty, a federal bailout is guaranteed. And serious financial difficulty is not unthinkable. The $10-billion is about five times EDC's shareholders' equity of $2-billion. The least it could do, then, is operate conservatively -- with a well-diversified loan portfolio and proper risk-management policies. If it means Bombardier loses some orders, so be it. The taxpayer's interest must come first.

And if it won't clean up its act, let's at least dispose of the fantasy that EDC is a real business. Let's force it to disclose the details of its lending -- how much, to whom, and at what interest rate. Finally, let's strip it of its Crown status, and call it what it is: a government department, subsidizing companies that have done nothing to deserve such easy access to your money. ddecloet@nationalpost.com

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