The Financial Markets Conduct Act 2013 (Act) was passed on 28 August 2013 with the purpose of promoting confident and informed participation in the financial markets, and promoting and facilitating the development of fair, efficient and transparent financial markets.
The Act represents a sea change in the regulatory regime relating to the financial markets. It replaces a number of pieces of outdated legislation including the Securities Act 1978, the Securities Markets Act 1988, the Securities Transfer Act 1991, the Superannuation Schemes Act 1989, the Unit Trusts Act 1960, and parts of the Kiwisaver Act 2006. It also amends a number of other pieces of legislation including the Financial Advisers Act 2008, the Financial Markets Authority Act 2011, and the Fair Trading Act 1986.
The Act takes effect gradually over a transitional period. The Government has signalled that fair dealing obligations, key growth-focussed initiatives including employee share schemes and enabling financial market participants to become licensed, including for crowd-funding, will take effect on 1 April 2014. The remainder of the Act is signalled to take effect on 1 December 2014 (including the new disclosure requirements, go-live of the online registers, and licensing obligations).
Once a part of the Act is in force, there is generally a transitional period of two years, with certain milestones taking effect during this period.
Primary offers of financial products
The Act completely overhauls how primary offers of financial products are regulated. It introduces a new regime incorporating major changes to almost every aspect of how offers of securities (referred to as "financial products" in the Act) are regulated.
(a) Regulated products
The new law is much clearer on which financial products are regulated and which category they are regulated under.
Only financial products which fall within one of four clearly defined categories will be regulated. There is no longer a vague catch-all category for products which fall within the cracks. The categories are debt securities, equity securities, managed investment products and derivatives.
The different categories of financial products are mutually exclusive. The new law gets rid of the grey areas between different categories. So, for example, the definition of "equity security" expressly excludes anything which falls within the definition of "debt security".
FMA will have the power to call products into the regulatory regime or into a particular category by making a declaration. The idea is that, at any given time, prospective issuers of financial products will be able to work out whether their products are regulated and which category they are in, rather than having to rely on guesswork.
The new law has the same basic framework for exclusions and exemptions as the old law, and retains the essence of many of the same exemptions (now expressed as exclusions). However, there are two important differences.
The first is the introduction of some important new exclusions. The most notable is the new exclusion for "small offers". This will allow companies to raise up to $2 million from up to 20 investors in any 12 month period. This should add significant flexibility to early stage capital raising.
The second is making the statutory exclusions easier to apply by making the Act as much of a one stop shop as possible. And while it retains the essence of many of the exemptions available under the old law, it improves them by making them clearer to apply.
(c) Disclosure requirements
The new law adopts a completely new approach to disclosure. The disclosure document that will need to be produced will have a very different look and feel to what is currently required. The investment statement and prospectus are being replaced with a product disclosure statement. The product disclosure statement is intended to contain only information considered essential to an investor's decision to invest. All the other required information that does not fit into the product disclosure statement will go on a public register. That register is expected to operate in a similar way to the Companies Office register.
(d) Advertising and publicity
The new law retains the key prohibition against misleading, deceptive or confusing advertising. However, there are two key differences:
- the new law relaxes the restrictions on advertising before the disclosure documents are registered. Such advertising is now allowed as long as a prescribed disclaimer is included; and
- the new law also relaxes the rules for offer advertising after the disclosure documents are registered, as well as getting rid of director certification requirements. Such advertising will be allowed as long as it includes a reasonably prominent reference to the issuer and how to obtain the product disclosure statement, and the advertising is not inconsistent with the disclosure documents.
However more specific content requirements could still be introduced by regulations made under the Act.
The governance requirements for debt securities and the various types of managed investment schemes under the old law have previously been set out in a number of disparate pieces of legislation. The new law consolidates these governance regimes into two distinct regimes - a governance regime for debt securities, and a governance regime for managed investment schemes.
The key features are as follows:
(a) Debt securities
- Like the old law, regulated offers of debt securities require the issuer to have a licensed supervisor. The supervisor role is broadened from a focus on breaches and financial security, to now require supervision of any matter connected with the trust deed, the terms of the offer, and all other aspects of the issuer's performance.
- Whereas under the Securities Act, trust deed amendments were governed by the trust deed with some additional ability for trustees to make amendments not adversely affecting holder interests (with issuer consents). Trust deed amendments under the Act must be in accordance with one of the statutory processes. This generally requires supervisor consent with security holder approval by special resolution, or supervisor consent where the supervisor is satisfied that the amendment does not have a material adverse effect on the holders. Alternatively the issuer can make amendments required to comply with the law with FMA approval.
- Product holder meetings now require attendance by only 5% of holders and holder rights to direct the supervisor are strengthened.
Otherwise, the governance requirements for debt securities remain largely the same.
(b) Managed investment schemes
- Managed investment schemes generally must have a manager and a supervisor. The Act imposes a number of duties on managers and supervisors. Notably it imposes more onerous duties on the manager than under the Securities Act.
- Managed investment schemes making regulated offers must be registered by type of scheme, with specific registration requirements for KiwiSaver, superannuation and workplace savings schemes. We expect disclosure obligations will likely be tailored to scheme type.
- The governing document will be required to contain certain provisions. Amendments must comply with the processes in the Act (generally requiring affected security holder approval by special resolution).
- Supervisor functions cannot be delegated, except for custodianship of scheme property. Manager functions can be delegated, but the manager remains responsible.
- KiwiSaver and superannuation schemes must have the sole purpose of providing retirement benefits (with more latitude for workplace savings schemes).
- New for some managed investment schemes will be the right for scheme participants to call a meeting and give the supervisor binding directions.
- Related party transactions must comply with processes in the Act generally requiring security holder approval or certification that the transaction is on arms' length terms.
- New managers taking over from old managers take on existing liabilities.
Dealing in financial products on markets
There is only one material change to much of the regime relating to dealing in financial products on markets, formerly regulated under the Securities Markets Act. That is the extension to the insider trading regime and substantial security notification regime to bring derivative positions based on a quoted underlying into these regimes.
Licensing and operation of financial product markets
The Act requires "financial product markets" to be licensed. The regime will capture a much wider range of financial trading product facilities than previously (which really only caught NZX and derivatives exchanges). Overseas facilities will also need to take care if their facility is operated or promoted in New Zealand.
Providing market services
The Act introduces mandatory licensing for managers of registered schemes and providers of discretionary investment management services as a class service to retail customers.
The Act brings derivatives issuer licensing into the same licensing regime as applies to other licensees, as opposed to the former authorisation and declaration process.
Providers of prescribed intermediary services may choose to be licensed, and issuers who place their financial products through licensed intermediaries will be exempted from disclosure and governance obligations.
Enforcement and liability
There are three areas for enforcement and liability:
(a) Civil liability
- Civil remedies include declarations of contravention, pecuniary penalties ranging from $200,000 to $1 million for individuals and $600,000 to $5 million for entities, and compensation and other orders.
- Defences are available, based on reasonable reliance on third parties, the taking of reasonable steps to avoid the contravention caused by a third party, and having made all reasonable enquiries to avoid defective disclosure.
- Directors have an additional defence if they show they took all reasonable and proper steps to ensure compliance.
- Persons involved in a contravention also have a defence if they took all proper steps to ensure compliance or can show reasonable reliance on a third party.
(b) Criminal liability
- The criminal offences under the Act range in seriousness. They start with "speeding ticket" type offences risking a fine of up to $50,000. The most serious offences involve knowing or reckless breach of defective disclosure provisions, with potential for imprisonment and large fines.
- There are no defences to criminal charges once the contravention is proven. However the more serious offences require knowledge or recklessness to be proven beyond reasonable doubt.
(c) Other enforcement options
- FMA may also choose to issue stop orders, direction orders or unsolicited offer orders, or seek injunctions or banning orders.
- Directors and offerors are jointly and severally liable to repay money to investors who withdraw from an investment that did not have PDS disclosure when it should have. Directors can avoid liability if they prove that the default in repayment was not due to their misconduct or negligence.