With volatility rocking equity markets, flow-through share offerings have not exactly been flying off the shelf.

According to several product issuers, sales so far this year are down substantially from the same period a year ago. That’s despite a large number of issues on the market and the generous tax breaks afforded flow-through investors.

“It’s a very slow market with sales down by about 50%,” says Dennis da Silva, managing director of the resource group at Middlefield Capital Corp. of Toronto. “It’s a combination of market conditions and fact that 2006 and 2007 weren’t as good for the resources sector as the previous five. Without a doubt there is uncertainty. [Advisors] have to work harder to get their clients to get back into this market.”

Glenn MacNeill, vice president of investments at Toronto-based Sentry Select Capital Corp. , also notes that the flow-through business is down substantially this year. Sentry Select manages the NCE group of flow-through share funds.

Currently Sentry Select is marketing NCE Diversified Flow-Through (08) LP, which has about $100 million in the kitty — or about half of what was raised by NCE’s 2007 fund offering. MacNeill says the fund will remain outstanding for at least another month.

Issuers point out that markets for many of the commodities underlying the securities have weakened in recent months. Although this can be seen as an opportunity for those with a relatively high risk tolerance, it tends to dissuade retail investors from participating.

Recent data from the structured products group of TD Securities Inc. of Toronto show that some of the issuers have hardly been noticed by retail investors, with more than half the two dozen funds on offer having sales of less than $10 million, a small fraction of the minimum amount issuers would like to raise.

About two dozen issuers were hoping to raise a total of $1.5 billion by the end of February. This would represent a 50% increase from the $1 billion raised via 16 deals in the comparable 2007 period. In all of 2007, about $1.5 billion was raised via 36 flow-through deals.

However, the data also shows that well-established issuers are doing considerably better than others.

For instance, CMP Funds, managed by Goodman & Co. Investment Counsel Ltd. of Toronto, has raised more than $2.1 billion in flow-through shares since 1984. It is the largest issuer so far this year. CMP’s 2008 Resource LP raised $200 million via a deal that closed in January. Plans call for the capital to be invested in flow-through shares issued by junior oil and gas and mining companies.

A review of the flow-through funds that have either been offered or are still on offer this year shows there is a great variety in the types of assets that the funds can acquire, including precious metals, oil and gas and renewable energy. Some funds have imposed limits on the size of companies in which they can invest, while others have set limits on the percentage of flow-through shares issued by publicly listed companies that they will buy.

There are also great differences in charges. For instance, underwriters’ fees range from 6.75% to 7.25% of the amount raised and management fees range from 1.5% to 2% of assets under management.

Flow-through shares are attractive partly because of the juicy tax deductions that clients can take.

The bulk of those deductions are by way of Canadian exploration expense with the balance being in the form of management fees, interest expense and administrative costs. The CEE flows through to the investor because the resources company doing the exploration doesn’t have enough income to use the deductions. A structure is created in which the companies “flow” those deductions to shareholders. As part of the corporate structure, there is a general partner who hires an investment manager to make the decisions and run the business, and numerous limited partners.

The shareholders — the limited partners — can use the deductions against income, whatever its source. Almost all of the flow-through share purchase price can be deducted by the investors in the year the shares are bought. (The tax breaks for investors apply only for investments held outside an RRSP.) Many flow-through share partnerships offer investors the option of converting their flow-through partnership units into mutual fund units after the partnership unwinds.

@page_break@The actual after-tax benefit from investing in a flow-through share limited partnership varies according to a client’s tax bracket and the province in which he or she lives. But in general, on a $1,000 investment, a client in the highest tax bracket will have between $480 and $580 of so-called money at risk — or the total investment less all income tax savings from deductions.

In order to boost one current offering, MRF 2008 Resource LP, Middlefield is stressing its experience in the field. The fund will invest in oil and gas, mining or renewable energy exploration, development and production in Canada. It has raised $30 million so far, and is seeking a maximum of $100 million with a second closing scheduled for late March.

Da Silva notes that his firm has sponsored 40 resources LPs since 1983 and has invested more than $1.5 billion in the resources sector over that period. As well, it pioneered the mutual fund liquidity mechanism for flow-through share partnerships.

More importantly, Middlefield has shown that investors have done well by investing in its resources funds with the funds it raised from 1999 to 2005 generating an average after-tax gain at dissolution of 61%.

Toronto-based rompton Funds Management Ltd., a relative newcomer in the space, is also stressing its experience — that of its management team of Barry Morrison and Les Williams. They run Morrison Williams Investment Management LP, a Toronto-based firm that manages more than $4.5 billion, primarily in Canadian equity investments, on behalf of pension funds, mutual funds and high net worth individuals.

Of that amount, about $1.1 billion is in resources investments. Brompton’s first flow-through fund was created last October and raised $21.3 million. IE