In October 2017, the International Swaps and Derivatives Association, Inc. (ISDA) initiated a discussion with its members and the industry on the feasibility of a common domain model (ISDA CDM) that would aim to deliver a standardized model for the post-execution trade lifecycle. The resulting ISDA CDM version 1.0 Design Definition Document provided a blueprint of the ISDA CDM framework, thereby introducing market participants to the model’s underlying concepts. The ISDA CDM version 1.0 defines a consistent event and product model for financial products, focusing on post-trade activities and ultimately aims to establish processing standards and data that can be used as a foundation for the development of new technologies such as distributed ledger and smart contracts.
Recently, the Investment Industry Regulatory Organization of Canada (IIROC) proposed two new disciplinary programs (the Programs) that will be of interest to IIROC Dealer Members and Approved Persons:
- A “Minor Contravention Program” (MCP) that would impose fines on dealer firms ($5,000 per contravention) and their approved individuals ($2,500 per contravention) for minor offenses that might not have triggered any substantive legal action by IIROC Staff in the past.
- An Early Resolution Offer (ERO) process that would permit IIROC Staff to make formal offers of settlement earlier in the enforcement process, at the time, or shortly after, a formal investigation is commenced. The reduced fines and costs sought by IIROC Staff by way of ERO will constitute IIROC Staff’s “best offer” to settle.
The Programs would increase the number of enforcement options available to IIROC Staff. Comments on the proposed Programs may be submitted until May 23, 2018.
The Minor Contravention Program
The current spectrum of options available to IIROC Staff after an investigation is completed ranges from closing a matter with no action, issuing a cautionary letter with no formal legal effect that sets out Staff’s opinion that a rule has been contravened, or initiating formal discipline proceedings.
The MCP would allow IIROC Staff to seek the imposition of a fine in situations that call for a stronger regulatory response than a cautionary letter but do not warrant the initiation of formal disciplinary proceedings.
Key features of the MCP include the following:
- Staff will determine whether a contravention by an Approved Person or Dealer Member may be resolved using the MCP by considering whether the following key MCP eligibility criteria are met:
- the contravention is technical
- the contravention is isolated
- the contravention resulted in limited or no harm to clients, other market participants or the reputation of the marketplace
- the contravention resulted in limited or no benefit to the firm or individual engaged in the conduct or any related parties
- the conduct was unintentional or inadvertent.
- If the above criteria are met, Staff will consider the following additional MCP eligibility criteria:
- whether the conduct is admitted
- whether the conduct is self-reported
- whether the conduct has been the subject of internal discipline by the firm
- whether corrective or remedial measures were taken
- whether voluntary compensation has been made, including voluntary disgorgement of commissions, profits or benefits.
- A private MCP Notice is issued by IIROC Staff to an Approved Person or Dealer Member in lieu of commencing a disciplinary proceeding. The MCP Notice would specify the alleged IIROC requirement contravened, the facts relied on to support Staff’s allegations, the fine sought and the period of time the recipient has to respond.
- If the Approved Person or Dealer Member voluntarily agrees to the terms of the MCP Notice:
- the recipient admits to contravening the specified IIROC requirement
- Staff would be prohibited from initiating a disciplinary proceeding based on the admitted contravention
- the admission would not constitute a formal disciplinary record and the recipient firm or individual would not be required to disclose it as disciplinary history
- IIROC Staff may rely on the admission at a future disciplinary proceeding against the recipient.
- Anonymous Public Notice of admission: On a quarterly basis, Staff would issue a public notice setting out all matters resolved by way of MCP Notice, specifying the contravention and a summary of the facts set out in the MCP Notice without identifying the individual or firm involved. IIROC would also promptly notify the Canadian Securities Administrators (CSA) of all MCP Notices.
- If the Approved Person or Dealer Member does not voluntarily agree to the terms of the MCP Notice, Staff may commence a disciplinary proceeding against the recipient of the MCP Notice.
- The MCP will generally not be available when the following factors are present:
- the conduct is deliberate
- there is a prior disciplinary history
- there is significant harm to investors or the reputation of the capital markets
- the conduct involves serious and complex issues
- the conduct relates to whether a firm fully and properly supervised securities-related activity.
Early Resolution Offers
Currently, in the context of an enforcement action, settlement agreements with IIROC Staff are typically reached after a full investigation is completed and following extensive negotiations between Staff and the Respondent. The process is resource intensive for both IIROC Staff and respondents. EROs are intended to incentivize respondents to enter into a settlement agreement with Staff earlier in the enforcement process, at the time, or shortly after, a formal investigation is commenced, by seeking lower fines and cost. Settlements reached by way of ERO would still be subject to acceptance by an IIROC hearing panel.
Staff may extend EROs after considering whether the following ERO eligibility factors are met:
- Staff reasonably believes it has determined the extent, scope and harm of the misconduct
- the extent to which the subject has demonstrated proactive and exceptional cooperation in accordance with Staff’s Policy Statement on Credit for Cooperation
- the extent to which the non-compliance has been remedied or will be remedied as part of the settlement
- whether the respondent has or agrees to disgorge the amounts obtained or loss avoided as a result of the contravention
- whether the respondent has compensated or agrees to compensate affected clients
- whether individuals have been internally disciplined
- whether the respondent, through counsel, an agent or otherwise, has expressed a willingness to resolve the matter in a timely manner.
We invite you to contact a member of our Securities Regulation and Investment Products Group should you have any questions regarding how the new proposed Programs might affect your business.
In the Finkelstein v. Ontario Securities Commission insider trading case, the Ontario Court of Appeal provided guidance on the interpretation of a “person in a special relationship with an issuer” as it applies to successive tippees who possess material, non-public information (MNPI) about an issuer.
OSC’s 2015 Findings
For a detailed summary of the 2015 decision of the Ontario Securities Commission (OSC), please see here. In brief, the OSC Panel found that, in connection with three separate M&A transactions between 2004 to 2007, a lawyer tipped his friend (Azeff), an investment advisor, and Azeff’s partner Bobrow about MNPI, and that Azeff and Bobrow engaged in insider trading and tipping. Two other investment advisors, Miller and his associate Cheng, learned of MNPI from LK, a friend and client of Azeff and Bobrow. The OSC determined that Miller and Cheng also engaged in insider trading in one stock, Masonite.
The elements that constitute insider trading under the Securities Act (Ontario) require (i) a special relationship with the issuer on the part of the party purchasing or selling securities; (ii) the purchase or sale of a security of the issuer; and (iii) knowledge of MNPI by the special relationship party. An insider trading violation can only be established if all the elements are proven.
If the recipient of MNPI “ought reasonably to have known” that the person who provided the information was in a special relationship with the issuer, they are themselves deemed to have a special relationship with the issuer under s. 76(5)(e) of the Securities Act (Ontario).
The 2018 Appeal Decision
The Court of Appeal’s decision concerned the OSC’s findings against Miller and Cheng only. There was no dispute that Miller and Cheng (a) received MNPI about Masonite, (b) traded on that information, and (c) did not have actual knowledge that LK, their informant / tipper, was in a special relationship with Masonite, as LK had himself received MNPI from Azeff. At the OSC hearing, Miller and Cheng argued that they were trading on rumours in the marketplace. Trading on a rumour does not contravene the Securities Act (Ontario).
The key issue on appeal was the interpretation and application of s. 76(5)(e) of the Securities Act (Ontario) and whether Miller and Cheng as recipients of MNPI “ought reasonably to have known” that the person who provided the information was in a special relationship with the issuer. Under s. 76(5)(e), an objective knowledge test must be applied: should a person standing in the shoes of the tippee reasonably assume that the MNPI passed on to the tippee originated with a knowledgeable person? Answering this question becomes increasingly difficult in cases involving a chain of successive tippees.
The Court of Appeal agreed with the OSC Panel that because most insider trading cases involve circumstantial evidence, the OSC could rely on the following non-exhaustive list of factors to determine whether a person ought reasonably to have known that the information originated from someone in a special relationship with an issuer:
- What is the relationship between the tipper and tippee?
- What is the professional qualification and standing of the tipper?
- What is the professional qualification of the tippee?
- How detailed and specific is the MNPI?
- How long after he or she receives the MNPI does the tippee trade?
- What intermediate steps before trading does the tippee take, if any, to verify the information received?
- Has the tippee ever owned the particular stock before?
- Was the trade a significant one given the size of his or her portfolio?
The OSC’s reliance on circumstantial evidence may be viewed as lowering Staff’s evidentiary onus to prove insider trading and tipping allegations. However, the Court of Appeal cautioned that any deduction from circumstantial evidence about the tippee’s state of knowledge must be drawn “in a logical and reasonable fashion” based on the “the totality of the evidence.” This guidance accords with the OSC Panel’s comments that circumstantial evidence must be “firmly established”, speculation cannot be used to fill in the gaps, and circumstantial evidence should flow “naturally and logically”.
 Finkelstein v. Ontario Securities Commission, 2018 ONCA 61.
 The Divisional Court upheld the OSC’s finding against Azeff, Bobrow and Miller but reversed it against Cheng. The Divisional Court’s Order was appealed to the Court of Appeal by Miller, the OSC (with respect to Cheng), and Cheng (with respect to additional purported errors by the OSC Panel). Azeff and Bobrow were not granted leave to appeal the Divisional Court’s Order.
 Trading on rumours can nonetheless be objectionable on public interest grounds. See Re Danuke (1981), 2 OSCB 31c at 43c. For a discussion of the OSC’s public interest power in the context of insider trading, see our 2014 article Can the OSC’s Public Interest Power Be Used to Expand Insider Trading Liability?
 Finkelstein v. Ontario Securities Commission, 2018 ONCA 61 at para. 70.
 Finkelstein v. Ontario Securities Commission, 2018 ONCA 61 at para. 70.
 http://www.osc.gov.on.ca/documents/en/Proceedings-RAD/rad_20150324_azeffp-2.pdf (Azeff (Re)). Azeff (Re), paras. 48, 49, 83, 231, 254, 341.
On February 8, 2018, the Canadian Securities Administrators (the “CSA”) published Staff Notice 51-352 (Revised) (the “Notice”) setting forth disclosure obligations applicable to issuers (“U.S. Cannabis Issuers”) engaged in the cultivation, possession or distribution of cannabis in the United States (“U.S. Cannabis Activities”) in light of the uncertainty resulting from cannabis being legalized in certain U.S. states while remaining a controlled substance under U.S. federal law. The Notice updates the CSA’s previously issued guidance by clarifying, expanding upon and detailing additional disclosure obligations for U.S. Cannabis Issuers, particularly with respect to describing the U.S. regulatory framework and disclosing matters related to regulatory compliance.
The Notice provides guidance on the “specific disclosure necessary to fairly present all material facts, risks and uncertainties” for all U.S. Cannabis Issuers. Such issuers are required, among other things, to:
- describe the activities of the issuer as “direct”, “indirect”, or “ ancillary” (as discussed below);
- prominently state that marijuana is illegal under U.S. federal law and that enforcement of relevant laws is a significant risk;
- discuss the risks related to enforcement actions, service providers suspending or withdrawing services, and regulatory bodies imposing restrictions on U.S. operations;
- quantify the issuer’s balance sheet and operating statement exposure to U.S. Cannabis Activities; and
- disclose if legal advice has not been obtained with respect to state regulatory compliance and the potential exposure and implications arising from U.S. federal law.
As noted above, the Notice outlines a framework for characterizing the involvement of U.S. Cannabis Issuers in the cultivation or distribution of cannabis in the U.S. as “direct”, “indirect” or “ancillary” and identifies corresponding disclosure requirements. An issuer is “directly” involved in cultivating or distributing if it or one of its subsidiaries cultivates or distributes cannabis under a license granted pursuant to state laws. Issuers having non-controlling interests in entities that are directly involved in cultivation and distribution are considered to have “indirect” involvement. An issuer has “ancillary” involvement if it provides of goods and/or services to third parties who are directly involved in the U.S. marijuana industry, including, without limitation, financing, branding, recipes, leasing, consulting or administrative services.
The Notice specifies that:
- issuers with “direct” involvement are required, among other things, to outline applicable state laws and regulations and their program for monitoring compliance, provide a positive statement that the issuer is in compliance with state law and regulations, discuss their ability to access public and private capital and promptly disclose any non-compliance with applicable law;
- issuers with “indirect” involvement must outline the regulations of states where direct operations occur and provide reasonable assurance, through positive or negative statements, that the operations are conducted in accordance with applicable laws and regulations (for example by stating that the issuer is in compliance or not aware of non-compliance); and
- issuers with “ancillary” involvement must provide reasonable assurance, through positive statements or negative statements, that the operations of their customers and partners are conducted in accordance with state laws and regulations.
The Notice indicates that the disclosure requirements it contains apply to all U.S. Cannabis Issuers and are to be satisfied by disclosure included in management’s discussion and analysis, annual information forms, and marketing materials filed pursuant to securities laws. Additionally, the Notice provides that prospectuses must include cover-page disclosure that marijuana is illegal under U.S. federal law.
The CSA expects U.S. Cannabis Issuers to evaluate, monitor and reassess these disclosures on an ongoing basis and to supplement, amend and communicate them to investors as applicable, including in the event of change of laws, regulations, policy or guidance.
The CSA has cautioned that issuers who do not provide appropriate disclosure in line with the CSA’s expectations (including with respect to regulatory compliance disclosure) may be subject to regulatory actions such as receipt refusal in the context of prospectus offerings, requests for restatements of non-compliant filings, and referrals for appropriate enforcement action.
The guidance in the Notice is in addition to the listing requirements outlined in the rules and regulations of any stock exchanges on which the issuers are listed. In particular, the Toronto Stock Exchange (“TSX”) published TSX Staff Notice 2017-0009 in which the TSX announced that its staff would be conducting a listing review of listed issuers involved in the marijuana sector and cautioned that listed issuers with ongoing business activities that violate U.S. federal law regarding marijuana are not complying with the requirements of the TSX.
Issuers that are already engaged in, or that are considering pursuing, activities in the marijuana sector (and, in particular, U.S. Cannabis Activities) should consult with counsel on their disclosure obligations under securities law and, in certain circumstances, be prepared to engage in detailed interaction with securities regulatory authorities and stock exchanges.
The Whistleblower regime of the Ontario Securities Commission (the OSC) has been updated to provide a civil cause of action for whistleblowers who experience reprisal for cooperating with the OSC. For a summary of the current regime, see our previous article.
New Statutory Cause of Action for Whistleblowers
Currently, the OSC expects that employers will not discipline, demote, terminate, harass or otherwise retaliate against a whistleblower who has made a report either “up the ladder” internally or directly to regulators. The OSC also expects employers not to take action, through contractual agreement (including confidentiality agreement) or otherwise, to impede a whistleblower from making a report to regulators.
Last November, the Ontario government published the 2017 Ontario Economic Outlook and Fiscal Review in which it announced its intention to provide a civil cause of action for whistleblowers who experience a reprisal for cooperating with the OSC.
The Securities Act and the Commodity Futures Act have now been amended to introduce a civil cause of action for whistleblowers who experience reprisal for cooperating with the OSC. In particular:
- The whistleblower may bring an action in the Superior Court of Justice or may make a complaint to be resolved by binding arbitration.
- The company has the “burden of proof” to demonstrate that it did not engage in a reprisal against the employee.
- The court (or arbitrator) may order (a) the employee’s reinstatement to the same seniority seniority status that the employee would have had but for the contravention, and/or (b) two times the employee’s remuneration (payments, benefits and allowances) from the time of the contravention to the date of the order, with interest.
The new legislation makes it important for companies to follow a well-defined and documented process when disciplining an employee who is known to be a whistleblower. In any civil action under the new legislation, the company will have to prove that any discipline imposed on a whistleblower is not directly or indirectly connected to the whistleblower’s reporting of potential misconduct.
Another potential change to Ontario’s Whistleblower regime on the horizon
The OSC has proposed an amendment to clarify that in-house counsel who report misconduct in breach of the applicable law society rules will not be eligible for a whistleblower award.
Currently, an individual who meets certain eligibility criteria and who voluntarily submits information regarding serious securities-related misconduct to the Commission is eligible for financial compensation. Under the current Program, in-house counsel is ineligible for a whistleblower award, except where
- whistleblowing is necessary to prevent substantial injury to the organization or investors;
- there is reasonable basis for in-house counsel to believe that the subject of his or her submission is engaging in conduct that will impede an investigation of the misconduct; or
- at least 120 days have elapsed since the whistleblower received the information and reported it internally, or became aware that it had been reported internally.
Under the proposed amendment, the foregoing exceptions would not apply to in-house counsel, thus clarifying that information subject to solicitor-client privilege will not be rewarded by the Commission. The OSC proposal will be published for a 60-day comment period. Comments are due by March 20.
 Section 121.5 of the Securities Act, R.S.O. 1990, c. S.5.
 Ontario, Ministry of Finance, 2017 Ontario Budget: A Stronger, Healthier Ontario, Chapter VII (Taxation) (2017).
 Section 121.5(4) of the Securities Act, R.S.O. 1990, c. S.5. The option to make a complaint to be resolved by binding arbitration applies in the unionized/collective bargaining context.
 Section 121.5(5) of the Securities Act, R.S.O. 1990, c. S.5.
 Section 121.5(6) of the Securities Act, R.S.O. 1990, c. S.5.
 OSC Policy 15-601, s. 15(2).
On December 15 and 19, 2017, the Chicago Board Options Exchange (“CBOE”) proposed in separate filings two rule changes which would exempt its proposed bitcoin ETFs from certain market manipulation rules. The rule changes suggested by the CBOE pertain to rules governing advisors and brokers that would support the ETF products when launched. The CBOE currently plans to list a total of four ETFs.
The SEC is asking for public comment on the proposed rule changes (released on December 28 and January 2) that, if approved, would result in the listing of the first bitcoin-based ETFs in the United States. The SEC will be accepting written comments for three weeks after the filings are published in the Federal Register.
Summary of Proposed Rule Changes
Current rules provide as follows:
- First, under current regulations, advisors to a company managing funds must have a “firewall” between any brokers or dealers with whom they might be affiliated. This wall is intended to prevent advisors and brokers from sharing information about the company’s portfolio.
- Second, current rules disallow anyone managing a fund from using insider information to increase the fund’s worth.
The CBOE is requesting exceptions to the above rules, on the basis of the nature of blockchain technology and its built-in safeguards.
Rationale for Rule Changes
The filings state that the CBOE does not believe bitcoin can qualify as a “commodity at risk of being manipulated under the same rules as other commodities, noting that price manipulation would require a bad actor to influence the entire Bitcoin blockchain worldwide.
The filings also state that it would be difficult for any individual person to have insider trading knowledge as a result of the broad, distributed and global nature and infrastructure of the Bitcoin network:
“There is [no] inside information about revenue, earnings, corporate activities or sources of supply; manipulation of the price on any single venue would require manipulation of the global bitcoin price in order to be effective; a substantial over-the-counter market provides liquidity and shock-absorbing capacity; bitcoin’s 24/7/365 nature provides constant arbitrage opportunities across all trading venues; and it is unlikely that any one actor could obtain a dominant market share.”
Likelihood of Regulatory Approval
Approval from the SEC to list any bitcoin-related ETF products is not guaranteed; past attempts at launching bitcoin ETFs have failed with the SEC rejecting some filings or forcing companies to withdraw their applications.
For example, the highly anticipated application by the Bats BZX Exchange to list and trade shares of the Winklevoss Bitcoin Trust, a bitcoin-based ETF, was rejected by the SEC in March 2017. In its 38-page ruling, the SEC listed significant barriers to the approval of trading in bitcoin securities, given a lack of safeguards in the market to prevent fraud and manipulation. The SEC declined to permit rule changes which would have allowed the ETF, requiring that a trade in such securities be conducted only on an exchange which has a surveillance-sharing agreement with a significant, regulated, bitcoin-related market. The SEC suggested these conditions could potentially be met over time but that the regulator would first want to observe “regulated bitcoin-related markets of significant size”.
As of December 2017, two different bitcoin futures products have come on the market in the United States since that decision, one listed by the CBOE and the other by CME Group Inc.
However, just recently on January 8, trusts controlled by Rafferty Asset Management LLC and Exchange Traded Concepts LLC each canceled plans to launch three bitcoin ETFs after staff at the SEC expressed concerns regarding the “liquidity and valuation” of futures contracts based on the digital asset. Further, in a letter dated January 18, 2018 to representatives of the Investment Company Institute and the Securities Industry and Financial Markets Association, the SEC reiterated that it would not be receptive to the registration of cryptocurrency-related funds until questions regarding fair value, liquidity and investor protection have been addressed. These comments underscore the caution with which U.S. regulatory authorities continue to approach cyptocurrency-based funds.
Cryptocurrency Funds in Canada
To date, no bitcoin based ETF has been approved for distribution to the public in Canada by the Canadian securities regulators. On September 21, 2017, Evolve Funds Group Inc. filed a preliminary prospectus to qualify the Evolve Bitcoin ETF which would invest in CBOE Bitcoin futures. More recently, on January 5, 2018, Harvest Portfolios Group Inc. filed a preliminary prospectus to qualify an ETF to replicate its proprietary Blockchain Technologies Index for which SEC approval is pending. The regulatory approach by the Canadian regulators to these initiatives will be interesting in particular as ETFs are generally required to replicate widely recognized and used market indices.
For more information about our firm’s Fintech expertise, please see our Fintech group’s page.
2017 was a year of significant developments in governance and disclosure requirements and guidelines. Many of these developments will have an impact on Canadian public issuers during the 2018 proxy season. Issuers need to understand, and in many cases must comply, with the changes that have occurred over the last year. Equally, issuers need to understand the changes that are expected in the near future.
This post summarizes some of last year’s most noteworthy developments in governance and disclosure requirements and guidelines, including developments in the following areas:
- Proxy Advisory Firm Guidance
- Majority Voting
- Board and Executive Gender Diversity
- Virtual Shareholder Meetings
- Non-GAAP Financial Measures
- Website and Security-Based Compensation Arrangement Disclosure
- Social Media Disclosure
- Cybersecurity Risk Disclosure
- Proxy Access
- Director and Audit Committee Independence
- Advance Notice Requirements
Proxy Advisory Firm Guidance
Issuers seeking to understand the perspectives of their institutional shareholders should familiarize themselves with the voting guidelines of proxy advisory firms like Institutional Shareholder Services (ISS) (Canada Proxy Voting Guidelines for TSX-Listed Companies) and Glass Lewis & Co., LLC (Glass Lewis) (2018 Proxy Paper – Guidelines – An Overview of the Glass Lewis Approach to Proxy Advice – Canada).
These organizations can influence how institutional shareholders vote through a variety of mechanisms including voting recommendations and other services they provide to institutional investor clients.
The Toronto Stock Exchange (TSX) introduced new rules in 2014 requiring all corporations listed on the TSX whose articles or by-laws do not already contain majority voting provisions to adopt a written majority voting policy. These policies must provide that for uncontested meetings (i.e. where the number of directors nominated for election is the same as the number of board seats available), a director must immediately tender his or her resignation if he or she is not elected by at least a majority of the votes cast and that the board of directors must determine to accept or refuse (but only in exceptional circumstances) a tendered resignation within 90 days of the relevant meeting.
In 2017, the TSX published Staff Notice 2017-0001, noting a number of deficiencies and inconsistencies with the policy objectives of the majority voting requirements based on its review of 200 majority voting policies. One of the key findings from the report was that some majority voting policies did not have the effect of requiring a director to tender his or her resignation immediately if they were not elected by a majority. The TSX also found that the use of “exceptional circumstances” in many cases was inconsistent with the objectives of the majority voting policy and emphasized that “exceptional circumstances” is a high threshold. Where an issuer determines not to accept the resignation of a director based on “exceptional circumstances”, the TSX has noted that it will contact issuers to discuss the exceptional circumstances and will review each situation on a case-by-case basis. The TSX expects that the issuer will take active steps in the following year to resolve the exceptional circumstances. See our previous post for more on the TSX review.
If Bill C-25 becomes law, majority voting will become a requirement for issuers governed by the Canada Business Corporations Act (CBCA), but not listed on the TSX (and therefore not subject to the TSX majority voting rules), by enshrining majority voting into the CBCA. See our previous post for more on Bill C-25.
Board and Executive Gender Diversity
Gender diversity at the board level has been a high profile issue for a few years. In 2017, the Canadian Securities Administrators (CSA) published Staff Notice 58-309 summarizing the results of its third review of gender diversity of boards and executive officer positions for issuers across Canada (see our previous post). The CSA’s review indicates that over the last three years, there has been little movement on board and executive gender diversity. Following this staff notice, the Ontario Securities Commission (OSC) held a roundtable to discuss the results of the review and potential policy changes (the roundtable transcript can be read here).
Proxy advisory firms ISS and Glass Lewis have also taken notice of the pace of change in this area and are implementing the following new policies to address this issue:
|Beginning in 2018 for S&P/TSX Composite Index issuers, and beginning in 2019 for all issuers, ISS will recommend withhold votes against the chair of the nominating committee (or the committee responsible for nominations, or, if neither of those can be identified, the chair of the board) where the following is true:
1. the issuer has not disclosed a formal written gender diversity policy; and
2. there are zero female directors on the board of directors.
Some exceptions apply for boards of fewer than four, and issuers recently listed on the TSX.
|In 2018, Glass Lewis will not make voting recommendations solely on the basis of the diversity of the board.
Beginning in 2019 for all issuers, Glass Lewis will generally recommend voting against the nominating committee chair of a board where the following is true:
1. the company does not have a formal, written gender diversity policy; or
2. there are zero female directors on the board of directors.
Depending on other factors (e.g. industry), Glass Lewis may extend the recommendation to other nominating committee members.
Additionally, Bill C-25 and Bill 101 (which proposes to amend the Ontario Business Corporations Act) propose to enshrine board and executive officer gender and non-gender diversity disclosure.
Virtual Shareholder Meetings
A small but growing number of companies, primarily in the U.S., are adding a virtual component to their annual shareholder meetings, or are going virtual-only. According to data from Broadridge, a virtual meeting technology supplier, the number of companies solely hosting virtual shareholder meetings increased almost 40 per cent in the U.S. last year. At least 212 companies held online-only meetings in 2017, up from 155 in 2016. Whether or not an issuer is able to do so will depend on a variety of factors, including the issuer’s jurisdiction of formation and constating documents. Some Canadian issuers that have recently gone virtual or hybrid have engaged firms specializing in shareholder meeting technology to assist with implementation including the provision of streaming services, monitoring attendance and tabulating votes.
Although virtual meetings are thought to increase efficiency, access and participation, drawbacks to virtual meetings have led to scrutiny of several major companies having implemented them, primarily as a result of limiting shareholder opportunities for communication. Glass Lewis’ recent guidelines stated that virtual meetings can complement in-person meetings by increasing the participation of shareholders who may be unable to attend in person, however, a virtual-only meeting can adversely impact meaningful shareholder engagement at one of the few opportunities for interaction with senior management. Beginning in 2019, Glass Lewis will recommend voting against members of the board’s governance committee if the board is planning to hold a virtual-only shareholder meeting and does not provide disclosure to this effect. In the short term, Laurel Hill Advisory Group anticipates an increase in hybrid meetings in Canada, before any significant adoption of virtual-only platforms, particularly in the case of prominent, brand name companies and in those instances where social activists may attempt to exert influence in physical meetings.
Notably, in 2017, ISS held a roundtable discussion in Toronto, which included the topic of virtual shareholder meetings. While proxy advisory firms have not yet adopted formal policies governing virtual meetings, ISS announced they were canvassing clients for input. Laurel Hill expects recommendation language to be put in place for the 2018 proxy season and such discussions may give rise to further policy changes or announcements.
Non-GAAP Financial Measures
In 2017, the OSC continued to express its concern with the prominence of non-GAAP financial measures for disclosure. The OSC has noted the use of non-GAAP measures in news releases, MD&A, prospectus filings, websites and marketing materials. Most recently, the OSC Corporate Finance Branch 2016-2017 Annual Report (“Branch Report”) reiterated this concern, particularly in the mining, real estate, technology and biotechnology industries. There is concern regarding the visibility and clarity of non-GAAP financial measures being used and the OSC warns that non-GAAP financial measures should not mislead investors or obscure GAAP results. The OSC has also warned in the Branch Report that it may take regulatory action if information is misleading and reminds investors that non-GAAP disclosure must meet the requirements of CSA Staff Notice 52-306 (Revised). This is an area where the OSC has indicated that new securities laws are expected.
Website and Security-Based Compensation Arrangement Disclosure
In 2017, the TSX announced amendments to the TSX Company Manual that affect website and security-based compensation arrangement disclosure for most TSX-listed issuers.
The website disclosure amendments are effective April 1, 2018 and will require listed issuers (with some exceptions) to post the following documents on their website, including some that may already be filed on SEDAR:
- articles of incorporation, or any other constating or establishing documents and by-laws; and
- if adopted, copies of any:
- majority voting policy
- advance notice policy
- position descriptions for the chairman of the board and the lead director
- board mandate
- board committee charters
The security-based compensation arrangement disclosure is effective for financial years ended on or after October 31, 2017. These amendments: (1) clarify existing disclosure; (2) add a new disclosure requirement for an annual burn rate (calculated in the prescribed manner) for each security-based compensation arrangement; and (3) modify the time period covering disclosure for annual meetings. For more on this topic, please see our previous post.
Social Media Disclosure
Social media is a popular venue for issuers to connect with customers, shareholders and other stakeholders. In 2017, the CSA issued Staff Notice 51-348 noting that a higher proportion of corporate disclosure is being provided through social media and the potential issues associated with such disclosure. The review was completed by securities regulatory authorities in Alberta, Ontario and Quebec and identified three key areas where issuers should improve disclosure practices in relation to social media use: (1) selective or early disclosure when certain investors received information through social media that was not generally disclosed; (2) misleading or unbalanced social media disclosure that was not sufficient to give investors a complete picture or was inconsistent with information filed on SEDAR; and (3) insufficient social media governance policies were established to govern social media practices internally. The members of the CSA have indicated that they will continue to monitor social media disclosure and issuers who have not complied will be expected to take corrective action. See our previous post for more on the CSA’s staff notice. In addition to the CSA comments, in the Branch Report, the OSC has also indicated that social media disclosure will need to comply with NI 51-102 – Continuous Disclosure Obligations.
Cyber Security Risk Disclosure
In September 2016, the CSA published Staff Notice 11-332 Cyber Security to highlight the importance of cyber security risks for issuers. Following that notice, CSA staff reviewed the disclosure provided by issuers on the S&P/TSX Composite Index regarding cyber security risk and cyber attacks and published CSA Multilateral Staff Notice 51-347 (“Staff Notice 51-347”) in January 2017 to report on the review and to provide disclosure expectations for reporting issuers.
The CSA found that 61% of issuers reviewed included cyber security risks in their disclosure. Staff Notice 51-347 sets out that issuers should focus disclosure on material and entity-specific information and that such disclosure should avoid boilerplate language. Materiality in the case of a cyber security risk will depend on an analysis of the probability that a breach will occur and the anticipated magnitude of its effect. Issuers are also expected to address how they mitigate cyber security risks, including whether and to what extent the issuer maintains insurance covering cyber attacks or its reliance on third party experts for their cyber security strategy and to remediate prior or future cyber attacks. However, issuers are not required to disclose details regarding their cyber security strategy or their vulnerability to cyber attacks that is of a sensitive nature or that could compromise their cyber security.
ISS also announced changes to its overboarding policy to better align with U.S. requirements. Beginning February 2019, ISS will generally recommend voting withhold for: (1) Non-CEO nominees who sit on more than five public company boards (compared to four under the current policy); and (2) CEO nominees who sit on more than two public company boards besides the company on which they serve as CEO (compared to one under the current policy).
However, under the new policy, director attendance will no longer be considered a factor to determine whether a director is overboarded. Under the current policy, an adverse voting recommendation is only issued when a director attends fewer than 75% of meetings of each board on which they serve.
The past year has seen significant changes in proxy access, resulting from a push by shareholders for proxy access similar to that in the U.S. Glass Lewis noted that it has received a considerable number of shareholder proposals requesting Glass Lewis to adopt the U.S. style proxy access. The U.S. style of proxy access is the “3/3/20/20” model, meaning one or more holders (up to a maximum group of 20) who hold 3% of the shares for 3 consecutive years may nominate up to 20% of the board. Notably, both The Toronto-Dominion Bank and Royal Bank of Canada adopted proxy access policies in 2017. Both of these policies are similar to the U.S. style, however they are limited to a 5% ownership threshold of outstanding shares as required under the Bank Act (Canada). Both banks have indicated that they would reduce the ownership requirement to 3% if permitted and have written to the federal Department to Finance to advocate for such an amendment to the Bank Act (Canada).
In response to the proposals received, Glass Lewis has noted it will continue to monitor the landscape in Canada regarding proxy access.
Director and Audit Committee Independence
In 2017, the CSA published CSA Consultation Paper 52-404 to facilitate a broad discussion on the current CSA approach to determining director and audit committee member independence. The comment period closes on January 25, 2018. This initiative by the CSA could result in changes to the current determination of independence set out in National Instrument 52-110 – Audit Committees, which has been criticized for being too rigid. See our previous post for more on the consultation paper.
Advance Notice Requirements
For the 2018 proxy season, ISS has revised its list of advance notice requirements which it may deem problematic. Some new additions that may be considered problematic under ISS’ evaluation include: (i) a requirement that any nominating shareholder provide representation that the nominating shareholder be present at the meeting in person or by proxy at which their nominee is standing for election for the nomination to be accepted, irrespective of the number of votes obtained by such nominee; (ii) any provision that restricts the notification period to that established for the originally scheduled meeting in the event that the meeting has been adjourned or postponed; and (iii) a requirement that any proposed nominee deliver a written agreement whereby the proposed nominee acknowledges and agrees, in advance, to comply with all policies and guidelines of the company that are applicable to directors.
On October 31, 2017, the British Columbia Securities Commission (BCSC) published a blanket order granting new exemptions to the prospectus requirement to British Columbia issuers seeking to access foreign capital markets. The order revokes and replaces BC Instrument 72-503 Distribution of Securities outside British Columbia (BCI 72-503).
The new BCI 72-503 introduces three exemptions – (i) the private placement exemption, (ii) the public offering exemption and (iii) the testing of the waters exemption – that eliminate the need to file a Canadian prospectus in connection with most distributions to investors outside British Columbia and aim to reduce the administrative burden and costs traditionally associated with complying with British Columbia securities laws in connection with such distributions.
With the new BCI 72-503, British Columbia follows similar initiatives implemented in Ontario and Alberta to modernize provincial securities laws relating to certain cross-border and international offerings.
In British Columbia, when an issuer with sufficient connections to the province distributes its securities to investors, the distribution is considered to have taken place in British Columbia even if none of the investors reside in the province. British Columbia securities laws therefore apply to the distribution, which means that the issuer must comply with the prospectus requirement under the Securities Act of British Columbia (Act) or rely on a prospectus exemption. BC Interpretation Note 72-702 provides guidance on the factors considered in determining sufficient connection to British Columbia, such as the issuer’s head office or key officers and directors being located in British Columbia or the issuer being a reporting issuer in British Columbia.
The extraterritorial application of British Columbia’s securities laws has caused headaches for British Columbia issuers in their foreign offerings. For example, British Columbia issuers looking to conduct a foreign public offering, whether it be an IPO or a follow-on offering, have had to either (i) file a Canadian prospectus regardless of whether there were any Canadian investors or whether the issuer was, or planned to be, listed on a Canadian exchange or (ii) find a prospectus exemption that they can rely on. The old BCI 72-503 provided for a private placement exemption for foreign offerings to issuers listed on a qualified stock exchange, but issuers were often unable to rely on this exemption in connection with a foreign public offering because the filing and form requirements (including the requirement to get prescribed certification and representations in a subscription agreement from foreign investors) and resale restrictions under this exemption were impractical and incompatible with market practices and expectations thereof of investors and dealers alike in the country where the foreign public offering was being conducted. Also, the limited application of the private placement exemption under the old BCI 72-503 meant that private issuers or issuers listed or quoted on a non-qualified stock exchange, such as the OTC or the Canadian Securities Exchange, could not rely on the exemption.
The New Prospectus Exemptions
Under the new BCI 72-503, British Columbia issuers can now rely on the following three exemptions when accessing foreign capital markets. All of the exemptions require that issuers comply with the securities laws of the jurisdiction where the investor resides.
1. Foreign Private Placement Exemption
This private placement exemption is a streamlined version of the same exemption that was in the old BCI 72-503 and is now available to all British Columbia issuers, regardless of whether they are listed on a qualified stock exchange.
Criteria: The exemption applies to foreign private placements that meet the following conditions:
- the investor does not reside in British Columbia;
- the investor purchases the issuer’s securities as a principal;
- the issuer complies with the securities laws of the jurisdiction where the investor resides; and
- the issuer is not relying on Multilateral Instrument 45-108 Crowdfunding in the jurisdiction where the investor resides.
A separate prospectus exemption exists for foreign crowdfunding distributions under BC Instrument 72-505 Exemption from prospectus requirement for crowdfunding distributions to purchasers outside British Columbia.
Resale Restrictions: The first trade of a security purchased in reliance on this exemption is subject to resale restrictions in section 2.5 of National Instrument 45-102 Resale of Securities.
Reporting Requirements: Within 10 days of the date of distribution, all British Columbia issuers who relied on this exemption must:
- file with the BCSC a trade report in Form 45-106F1 Report of Exempt Distribution (Form 45-106F1), including a completed Schedule 1 to Form 45-106F1 which lists all of the investors and information such as their addresses and details of securities purchased; and
- deliver to the BCSC a copy of any offering material that was filed with, or delivered to, securities regulators in the jurisdiction where the investor resides.
2. Foreign Public Offering Exemption
This new public offering exemption allows British Columbia issuers to conduct a foreign public offering, including an IPO, without filing a Canadian prospectus and extends to foreign at-the-market distributions. For those issuers that are not a reporting issuer in British Columbia, a brief, streamlined trade report omitting information previously required on each investor will need to be filed in connection with the foreign public offering.
Criteria: The exemption applies to foreign public offerings that meet the following conditions:
- the distribution is made (i) to an investor that is not a Canadian resident or (ii) on or through an exchange or market outside Canada provided that the issuer or selling securityholder has no reason to believe that the investor is a Canadian resident;
- for U.S. public offerings, the issuer has an effective registration statement under U.S. securities laws; and
- for non-U.S. foreign public offerings, the issuer has a foreign prospectus that has been approved by the securities regulators in the country where the public offering is conducted.
Resale Restrictions: None.
Reporting Requirements: For British Columbia issuers who are reporting issuers, as soon as practicable, they must file on SEDAR (i) the U.S. registration statement for U.S. public offerings or (ii) the foreign prospectus and any supplement thereto for non-U.S. foreign public offerings.
For British Columbia issuers who are not reporting issuers, within 10 days of the date of distribution, they must (i) file with the BCSC a trade report in Form 45-106F1, without Schedule 1 to Form 45-106F1, and (ii) deliver to the BCSC a copy of the U.S. registration statement or foreign prospectus and any supplement thereto, as applicable.
3. Foreign Testing of the Waters Exemption
This new testing of the waters exemption allows British Columbia issuers that are emerging growth companies under the U.S. JOBS Act to take advantage of the U.S. testing of the waters exemption and gauge interest in a potential U.S. offering. Previously, these “testing the waters” communications in the U.S. were considered acts in furtherance of a trade and triggered the prospectus requirement under British Columbia securities laws. If the potential investor does not reside in the U.S., then the issuer would have to consider whether the “testing the waters” communications are allowed under the securities laws of the country where the potential investor resides.
Criteria: The exemption applies to “testing the waters” communications that meet the following conditions:
- any oral or written communications by the issuer, or any person authorized to act on behalf of the issuer, with a potential investor are (i) permitted under section 5(d) of the U.S. Securities Act of 1933 and (ii) made with a potential investor that is not a Canadian resident; and
- the issuer complies with the securities laws of the country where the potential investor resides.
Resale Restrictions: None.
Reporting Requirements: None.
The new Companion Policy 72-503CP Distribution of Securities outside British Columbia provides guidance on using BCI 72-503.
The Alberta Securities Commission (the “ASC”) recently released the Credit For Exemplary Cooperation in Enforcement Matters policy (the “ASC Policy”). It joins the provinces of Ontario and British Columbia in encouraging persons and companies to self-report securities related misconduct and breaches of securities laws. The purpose of the ASC Policy is to explain the benefits of cooperating with the securities regulator and the factors the ASC will consider when granting credit for exemplary cooperation. Historically, securities regulators have faced difficulties in detecting securities related misconduct, and as such, regulators have come to see the merits in providing incentives for persons and companies to self-report.
The ASC Policy is intended for persons or companies who may have knowledge of or are involved in Alberta securities misconduct, persons or companies who are being investigated by the ASC, or persons or companies who are the subject of ASC enforcement actions.
What the ASC expects
Credit will only be given for cooperation that goes beyond what is already required under Alberta securities laws. In order to earn credit for exemplary cooperation the ASC expects companies to investigate and self-report possible securities misconduct or breaches of Alberta securities laws, disclose all available documents and records, ensure the companies’ employees and officers are available for interviews, investigate employees and officers’ conduct that may have breached Alberta securities laws, provide adequate compensation to any investors that may have been harmed and take corrective action.
Conduct not considered Exemplary Cooperation
The ASC Policy identifies a list of conduct where no credit will be given. Examples include when persons or companies fail to promptly and fully report misconduct, withhold or knowingly misrepresent information, claim the misconduct was based on prior legal advice, fail to correct inappropriate conduct or delay settlement agreements.
Examples of Credit for Exemplary Cooperation
Where credit is granted the ASC may issue a notice of hearing that acknowledges the exemplary cooperation, narrow the scope of allegations, resolve the matter through alternative means, reduce the costs and in limited circumstances conclude the matter without taking any enforcement action.
Comparisons with BC and Ontario’s Securities Regulators
British Columbia Securities Commission’s Credit for Assistance in Investigations (BCSC Policy) was released in 2002. It provides a general overview of circumstances where credit may be given, but unlike the ASC Policy it does not provide examples of non-exemplary conduct, nor does it provide a procedure for self-reporting and cooperation. Additionally, the BCSC Policy is more narrow in scope as it only applies to persons and companies before and during an investigation.
The Ontario Securities Commission (OSC) released its Credit for Cooperation Program (OSC Policy) in 2004 and a revised version in 2014. Similar to the ASC Policy, the OSC Policy provides examples of non-exemplary conduct, examples where credit will be rewarded, a detailed procedure for self-reporting and cooperation and disclosure policies. However, compared to the OSC Policy, the ASC Policy places a higher burden on those seeking credit for cooperation. As an example, the ASC expects that parties make best efforts to locate and obtain relevant documents, records and information held in foreign jurisdictions. The OSC Policy does not set out a similar expectation. Further, the OSC may recommend to have a matter not proceed by way of a quasi-criminal prosecution, whereas the ASC Policy specifically states that credit will not be offered when it is in the public interest to proceed with quasi-criminal or criminal investigation. Finally, the OSC Policy runs alongside the OSC’s whistleblower program which offers financial incentive to those who report information on serious securities related misconduct. The ASC does not currently have a similar program.
The ASC Policy affords some assurance to persons or companies who wish to self-report securities misconduct, where previously Alberta lacked such guidance.
On October 26, 2017, the Canadian Securities Administrators published for comment CSA Consultation Paper 52-404 – Approach to Director and Audit Committee Member Independence. The paper is intended to facilitate a broad discussion and solicit views on the current approach to determining director and audit committee member independence.
On October 26, 2017, the Canadian Securities Administrators (“CSA”) published CSA Consultation Paper 52-404 Approach to Director and Audit Committee Member Independence (the “Paper”). The Paper is intended to solicit views on the appropriateness of the CSA’s current approach to determining director and audit committee member independence. Interested parties have until January 25, 2018 to submit their views. The CSA will consider these views in assessing whether or not any changes should be made in determining who is and who is not independent under Canadian securities rules.
The Paper represents the first time since 2008/2009 that the CSA has opened up a discussion on director and audit committee member independence.
The CSA’s current approach is set out in National Instrument 52-110 Audit Committees (“NI 52-110”) and includes:
- A definition of independence that is subjective – a person is independent if he or she has no direct or indirect material relationship with the issuer, with a material relationship being one which could, in the view of the issuer’s board of directors, be reasonably expected to interfere with the exercise of that person’s independent judgement.
- Bright line tests that preclude certain directors or audit committee members from being considered independent.
- Additional bright line tests that relate specifically to the independence of an audit committee member.
The approach must also be considered in light of applicable stock exchange requirements.
Determining independence is central to the Canadian corporate governance regime in a number of respects, including under the “comply or explain” disclosure model prescribed by National Policy 58-201 Corporate Governance Guidelines and National Instrument 58-201 Disclosure of Corporate Governance Practices. These require issuers to have a board comprised of a majority of independent directors or, if they do not, disclose what the board does to facilitate the exercise of independent judgment in carrying out is responsibilities. Similarly, NI 52-110 generally requires that audit committees be comprised solely of independent members.
Critics of the current Canadian regime argue that the approach to determining independence is inflexible because it does not permit a board to exercise judgment in the event one of the bright-line tests has been triggered and may result in a determination of independence that does not accord with the more nuanced views of the board. This may in turn limit the pool of qualified candidates available to serve as independent directors or audit committee members.
The decisions of the CSA following closure of the comment period on January 25, 2018 should be of interest to all stakeholders.
If you have questions about the existing independence standards or requirements, or want to submit a comment letter to the CSA on these issues, please feel free to reach out to any of us.