On November 9, 2012, the Ontario Securities Commission (OSC) released OSC Staff Notice 51-720 – Issuer Guide for Companies Operating in Emerging Markets (the Issuer Guide). The Issuer Guide highlights key areas of risk for Canadian public companies which have significant business operations in emerging markets, sets out the expectations of OSC Staff regarding regulatory compliance and is intended to assist directors and management of such issuers in meeting the level of standards expected in Ontario capital markets. Publication of the Issuer Guide follows a review of emerging market issuers (EMIs) undertaken by the OSC, the findings of which were published in March 2012 in OSC Staff Notice 51-719 – Emerging Markets Issuer Review (the Review). The Review identified deficiencies relating to EMIs in relation to corporate governance practices, use of complex corporate structures, related party transactions and risk management and internal controls.
The Issuer Guide addresses the deficiencies identified in the Review and highlights key areas of risk for EMIs, sets out questions that directors and officers of EMIs should consider when deciding how to address these risks and outlines staff expectations regarding EMI regulatory compliance, including disclosure requirements. It reminds EMIs that all board members of Canadian reporting issuers, regardless of the location of their operations, are required to adhere to Canadian regulatory requirements.
The Issuer Guide provides guidance on the following areas:
- Business and operating environment – The board and management of an EMI should have a thorough understanding of both the political, cultural, legal and business environment of the emerging market in which the company operates and the requirements of the Canadian capital markets. Meaningful disclosure should be provided which allows an investor to clearly understand characteristics of the emerging market which are unique to operating in that market.
- Language and cultural differences – EMI boards should include directors who have experience in the particular emerging market and boards should be mindful of relying wholly upon local management. The board should consider adopting such policies and practices as are necessary to address these risks including using independent translators, obtaining independent input on local issues and arranging for site visits.
- Complex corporate structures – EMI boards should consider the risks inherent in adopting complex structures such as multiple layer ownership structures which separate the board from its operating subsidiaries and special purpose vehicles where investors have a controlling interest in an entity not based on a majority of voting rights. Such structures may produce challenges for the board in effectively being able to direct the decision making of the EMI. Adequate disclosure of the structure and its risks should be provided.
- Identification and Management of risks associated with Related Party Transactions (RPTs) – RPTs may present heightened risks for EMIs and identification and monitoring such transactions is necessary for investor protection. Proper policies and procedures should be put in place to identify, independently evaluate and approve RPTs and comprehensive disclosure of all material RPTs should be made.
- Identification and Management of Risks – Boards are responsible for the identification of the principal risks of a company’s business and the oversight of implementation of appropriate management systems to address such risks. EMI boards should be aware that risk management techniques that are appropriate in non-emerging markets may be less effective in an emerging market. Appropriate and specific disclosure of risk factors should be provided to the market.
- Strong Internal controls – The Issuer Guide notes that the unique risks EMIs face in operating in emerging markets heightens the need for strong internal controls. Such internal controls should address communication issues resulting from time zone differences as well as language and cultural issues.
- Use of and reliance on local experts – The Issuer Guide encourages EMIs to assess the risks of relying upon experts in an emerging market. As such experts may not be subject to equivalent professional conduct rules and standards as in Canada, EMI boards will need to assess the quality of the advice in determining whether to use or rely upon such experts.
- Oversight of the external auditor – The audit committee should determine if the company’s external auditors have the appropriate expertise and experience in the emerging market to carry out the audit function and should effectively oversee the external auditor’s work.
The OSC will work with the Investment Industry Regulatory Organization of Canada to develop underwriting due diligence standards. In addition, the OSC is currently working with the Canadian Public Accountability Board on issues of common interest in respect of the audit function. The TSX and the TSX-V are finalizing guidance to address the risks associated with listing EMIs. These guidelines are expected to be released for comment in November 2012.
A copy of the Issuer Guide can be accessed here.