Earlier this week the Toronto Stock Exchange (the “TSX”) published Staff Notice 2015-0001 (the “notice”), providing guidance to applicants and issuers with significant connections to emerging market jurisdictions (“Emerging Market Issuers”) in an attempt to improve transparency in respect of the TSX practices and procedures with a view to facilitating the listing process and supporting successful listings on the TSX. A corporate finance bulletin outlining the same guidance principals with respect to listings on the TSX Venture Exchange was concurrently released.
The notice was published after the publication of a consultation paper on Emerging Market Issuers by the TSX and the TSX Venture Exchange on December 17, 2012. Said consultation paper resulted from allegations that a Chinese forestry corporation listed on the TSX had been fraudulently inflating its assets and earnings, ultimately leading to the corporation’s collapse.
The Ontario Securities Commission, in Staff Notice 51-719, Emerging Markets Issuer Review, published on March 20, 2012, had provided an extensive review on regulatory and practical issues regarding Emerging Market Issuers.
In determining whether an applicant or an issuer may be an Emerging Market Issuer, the TSX will consider the following factors: (i) residency of “mind and management”; (ii) jurisdiction of the principal business operations and assets; (iii) jurisdiction of incorporation; (iv) nature of the business; and (v) corporate structure.
Like the Ontario Securities Commission, the TSX is focusing on applying these factors in jurisdictions outside of Canada, the United States of America, the United Kingdom, Western Europe, Australia and New Zealand, assessing each jurisdiction on a country-by-country basis.
Part I – Potential Risks Associated with Listing Emerging Market Issuers
The first part of the notice identifies five principal areas relevant to listing in which, according to the TSX, there may be greater risks associated with Emerging Market Issuers.
Management and Corporate Governance: According to the TSX, a lack of familiarity with Canadian securities law requirements and the TSX requirements by management may increase the likelihood of non-compliance or misunderstanding with such requirements. The possibility of non-compliance also increases if management lacks proper knowledge of the laws and requirements of the jurisdiction where the issuer is principally carrying out its business activities.
Financial Reporting: If an Emerging Marker Issuer’s Canadian auditors, CFO or audit committee lack sufficient experience and expertise in the applicable jurisdiction, errors or oversights in the audit process, the issuer’s financial statements and related disclosure will likely increase.
Adequacy of Internal Controls: Many factors relating to internal controls over financial reporting matters raise the risk profile for Emerging Market Issuers, including differences between jurisdictions with respect to banking systems and controls, business cultures and business practices, and rules or limitations on the flow of funds.
Non-Traditional Corporate/Capital Structures: Specific corporate or capital structures are often utilized by an Emerging Market Issuer due to tax or foreign ownership restrictions in certain jurisdictions. Potential risks may arise from such corporate or capital structures, such as (i) the compromising of the control over assets by the issuer if the structure requires that legal ownership of the issuer’s operating assets be vested in a non-affiliated entity; (ii) limitations on the ability of security holders to have recourse against the assets of the issuer; and (iii) inadequate public disclosure of the nature, material characteristics and risks associated with the structure.
Legal Matters Relating to Title and Ability to Conduct Operations: An Emerging Market Issuer faces increased risk with respect to demonstrating that it validly owns and is able to operate the business upon which its listing is based.
Part II – Guidance for Original Listing of Emerging Market Issuers
The second part of the notice provides guidance to Emerging Market Issuers submitting an original listing application to list on the TSX, in order to mitigate potential risks.
Pre-filing Meetings: Pre-filing meetings with the Exchange are encouraged, allowing the TSX and the applicant to express concerns and address potential issues early on in the application process.
Management: Applicants for listing must meet the TSX requirements for management, which also includes directors. In examining the composition, skills and knowledge of management and the board of directors of an applicant, the TSX considers multiple factors, including (i) the public company experience of management and the board, (ii) the independence of the board in relation to management and the significant security holder (if any), (iii) local business knowledge and experience in the jurisdiction of the applicant’s principal business operations, and (iv) the qualifications of the CFO and audit committee members.
Auditors: In exceptional circumstances, the TSX may require a change of auditors as a condition of listing. The TSX may also require as a condition of listing that the applicant provide advance notification for any proposed change of auditors.
Internal Controls: The TSX may request that the CEO and CFO of the applicant confirm to the TSX in writing that the issuer’s internal control over financial reporting provides reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with IFRS or GAAP. Such internal control systems may be evaluated by independent auditors in exceptional circumstances.
Sponsorship: An applicant could be asked to provide sponsorship in conjunction with an original listing application.
Related Party Transactions: The TSX may require an applicant to have a policy with respect to related party transactions, particularly if the issuer has a controlling security holder. Such policy should deal with matters such as independent director oversight and approval, public disclosure (news releases), reporting in financial statements and other continuous disclosure documents and requisite regulatory filings.
Non-traditional Capital or Corporate Structure and Ownership of Principal Assets: An applicant must provide the TSX with a satisfactory explanation if it utilizes a complex or non-traditional corporate structure, such as a variable interest entity. The TSX must also be satisfied that security holders will be adequately protected.
Background Research: The TSX conducts background searches on key management, board members and significant security holders of all applicants and requires submission of personal information forms for this purpose. The TSX may also conduct local corporate searches on an applicant, as well as its subsidiaries and affiliates.
Policies: The TSX may require Emerging Market Issuer applicants to have or adopt policies dealing with (i) related party transactions; (ii) whistle blowing; (iii) anti-bribery, anti-corruption and ethical business conduct; (iv) local disbursements; (v) governance; and (vi) disclosure.
Parts III and IV – Ongoing Guidance and Continued Listing Requirements for Emerging Market Issuers
In the closing sections of its notice, the TSX reminds Emerging Market Issuer applicants that their listing application could be subject to supplemental ongoing requirements, such as a change in auditors or ongoing reporting on internal controls. In monitoring the issuer’s compliance with continued listing requirements, the TSX will identify any deficiencies with matters outlined in the notice and contact the applicant so that it may address such deficiencies.