Our debt is overestimated by 46 billion

I jumped when I saw the numbers in the budget. Within five years, the Quebec government will increase its annual payments to the Generations Fund, intended to reduce the debt, by 44%. No other budget item will increase as much, not even health.

This jump of 1.5 billion per year is surprising, knowing that our debt reduction objective, set 15 years ago, has been achieved. Knowing also that Quebecers pay much more taxes than elsewhere, that they have more extensive public services and that our infrastructures need love. And I didn’t talk about environmental needs.

Despite everything, Eric Girard still wants to reduce the debt within 15 years, by establishing a new target. And economists in Quebec generally suggest continuing efforts with the Generations Fund until our net debt, equivalent to 39.8% of GDP, has fallen to the average for Canadian provinces, by 33% of GDP.

Very good. But now, the government and economists do not take into account a major factor: the value of Hydro-Quebec. If we considered the fair value of this jewel, our net debt would not be 199 billion as of March 31, 2022, but 153 billion, or 46 billion less, according to my estimates.

In other words, we would not be at 39.8% of GDP, but rather around 30.7% of GDP, so already below the average for Canadian provinces (33% of GDP). Hence my question: should we continue to divert so much money to repaying the debt?

Hydro is worth 121 billion

To understand, you have to know how our governments calculate their net debt. Essentially, they add up their gross debt, from which they subtract their financial assets, such as the value of Hydro-Québec. The catch is that the value of Hydro taken into account by the government is its book value, which bears almost no relation to its actual market value.

To estimate the fair value of Hydro, I chose seven relatively comparable energy companies. And I found that their value is 14 times their operating profit^⁠1on average, which, applied to Hydro-Québec, would give it a value of $121 billion!

In the market, some believe that Hydro-Quebec would probably be worth more than the companies compared, therefore more than 121 billion. Why ? First, because it is much bigger (it is twice the size of its nearest Canadian competitor). But above all, because all of its energy is renewable, which is not the case for the companies being compared, which often have a gas component.

However, subtracting Hydro’s debt from its value of $121 billion gives equity of $72 billion, which is the amount that would remain in the government’s pockets if it sold Hydro, essentially. By subtracting that $72 billion from our debt rather than the $26 billion book value used by the government, our net debt would be deflated by $46 billion.

Some will say that we shouldn’t worry about the market value of Hydro, since we will never sell it. Except that the rating agencies know very well that Quebec has a jewel in its hands, whose cheap energy feeds our businesses and whose dividends are used to pay for our services.

In addition, the point of comparison for our debt is Alberta, Newfoundland and Labrador and Saskatchewan, among others, whose debt fluctuates greatly depending on an energy factor that is just as much linked to the market, namely the oil prices and royalties. If it’s good for pup…

British Columbia and Newfoundland and Labrador also each have a hydroelectric company, but their value is low or nil, since both have big problems with a dam. As for Manitoba Hydro, it is 5 times smaller than Hydro-Québec and Manitoba’s debt weighs little in the calculation of the average provincial debt.

Another possible objection: the heaviness of the Quebec government’s debt service, ie the annual interest payments, which eat into the budget. This argument, however, is outdated, since debt service has melted for 15 years. In 2006, 12.5% ​​of our budget was used to repay annual debt charges, while this proportion is only 6.4% today^⁠2.

I have long been a proponent of debt reduction and I still think we have to be vigilant. Quebec is aging and it will have to rely on sound finances within 10 years, when the old boomers will exert maximum pressure on public services.

In addition, the financial improvement will bring our competitors in Ontario and Alberta into a debt reduction phase within five years, in turn. This is without taking into account that Quebec has another little-known debt, that of its ailing infrastructure. It would even take $30.6 billion tomorrow morning to upgrade them, according to the estimates.

But precisely, shouldn’t we inject additional funds into our roads and our schools rather than into accelerated debt reduction? Or invest more in the fight against global warming, for example?

Thanks to professor emeritus in accounting Michel Magnan, from Concordia University, for his help in calculating the overall value of certain energy companies and Hydro-Québec.

1. The value is equal to 14 times EBITDA, which is earnings before taxes, interest and amortization.

2. Yes, the fall is explained by the drop in interest rates, but also by the fact that the government has gradually built up a huge kitty to pay the pensions of its employees, whose returns (to the Caisse de deposit) reduce these net interest charges on our debt. And if ever interest rates rise sharply within four years, the Ministry of Finance estimates that debt servicing would rise to 6.8%. We are far from the vice of the 1990s and 2000s.