In December 2013, the Canadian Securities Administrators (“CSA”) published for comment proposed changes to National Instrument 31-103 Registration Requirements, Exemptions and Ongoing Registrant Obligations (“NI 31-103”) and its companion policy and related instruments. After reviewing the comments received on the proposed amendments, the CSA published final amendments to NI 31-103 on October 16, 2014. According to the CSA, the amendments to NI 31-103 will promote stronger investor protection by resolving ambiguities, strengthening compliance, and enhancing internal and external efficiencies. Most of the amendments to NI 31-103 will come into force on January 11, 2015, subject to receipt of all necessary ministerial approvals. Certain amendments, including the amendments relating to the exempt market dealers (“EMDs”), come into force on July 11, 2015. There will be a transition period for the implementation of certain amendments to the instrument.
The general rule set out in NI 31-103 is that certain securities industry professionals are required to register with the securities regulatory authority in each province or territory in Canada in which they conduct business. NI 31-103 creates the registration regime and rules under which such industry professionals are required to register.
The amendments to NI 31-103 and its related instruments will, among other things: (i) restrict the type of trading that may be conducted by EMDs; (ii) codify an international sub-adviser exemption for use by non-Canadian firms that carry on business as an investment adviser; (iii) provide guidance in situations where a representative may be in a conflict of interest by virtue of the representative’s outside business interests, volunteer activities or directorship with a public or private company; (iv) create additional proficiency requirements for certain advisers; and (v) require registrants to provide notice to regulators of certain reorganizations, acquisitions or restructurings. This article summarizes some of the key amendments to NI 31-103. Interested readers are encouraged to read the entire text of the amended NI 31-103 and related instruments available at http://www.osc.gov.on.ca/en/SecuritiesLaw_ni_20141016_final-amendments-related-forms.htm.
Part 3: Registration requirements
Section 3.3 of NI 31-103 (time limits on examination requirements) has been amended to provide relief from the registration requirements for certain scholarship plan dealers and EMDs. As a result, a dealing representative of a scholarship plan dealer is relieved from the examination requirements set out in section 3.7 (scholarship plan dealer – dealing representative) if the dealing representative was registered in a jurisdiction of Canada as a dealing representative of a scholarship plan dealer on and since September 28, 2009. Similarly, a dealing representative of an EMD is relieved from the examination requirements set out in section 3.9 (exempt market dealer – dealing representative) if the dealing representative was registered as a dealing representative of an EMD in Ontario or Newfoundland and Labrador on and since September 28, 2009.
Part 3 of NI 31-103 has also been amended to add an experience component to the proficiency requirements for a chief compliance officer of a mutual fund dealer, scholarship plan dealer or EMD. In each case, in addition to passing the requisite exams, the chief compliance officer of such dealer firm is now required to possess at least 12 months of relevant securities industry experience in the 36-month period before applying for registration.
Part 4: Restrictions on registered individuals
The amendments to section 4.1 of NI 31-103 (restriction on acting for another registered firm) prohibit conflicts of interest that arise where an individual is involved with two Canadian dealer firms. As set out in the instrument, a firm registered in any jurisdiction of Canada must not permit an individual to act as a dealing, advising or associate advising representative of the registered firm if such individual acts as either: (a) an officer, director or partner of another firm registered in Canada that is not affiliated with the first-mentioned registered firm; or (b) a dealing, advising or associate advising representative of another firm registered in Canada (regardless of whether the firms are affiliated).
Part 7: Categories of registration for firms
Some of the most significant amendments to NI 31-103, which will markedly restrict the activities that EMDs may conduct, are found at Section 7.1 (dealer categories). The amendments prohibit EMDs from trading securities listed on a stock exchange in foreign or Canadian markets, except where such trade relies upon a prospectus exemption. This restriction applies to issuances from treasury and secondary market trades (for example, by a control person), of equity, debt or other securities. In the companion policy to NI 31-103, the CSA states that EMDs are not permitted to participate as an underwriter in a distribution of securities offered under a prospectus without exemptive relief. Nor are EMDs permitted to establish an omnibus account with an investment dealer and trade securities for its clients through such an omnibus account unless the transaction requires reliance on a further exemption from the prospectus requirements. As further set out in the companion policy, the CSA believes that these activities should be conducted by investment dealers. These amendments will be effective July 11, 2015.
Part 8: Exemptions from the requirement to register
Part 8 of NI 31-103 has been amended such that a person or company acting as a registered dealer, adviser or investment fund manager will not be permitted to rely on a registration exemption in NI 31-103 if such person or company is already registered in the local jurisdiction and such registration permits the person or company to conduct the same activity for which an exemption is being sought. That said, a registered dealer, adviser or investment fund manager will be permitted to rely on a registration exemption in NI 31-103 if its existing registration does not permit the proposed activity.
Formerly, a person engaged in the business of trading securities was exempt from the requirement to register as a dealer if that person conducted such trades solely through a registered dealer. As a result of the amendments to Section 8.5 of NI 31-103, this exemption will not be available where the person or firm seeking the exemption solicits or directly contacts any purchaser or prospective purchaser in relation to the trade in question.
The amendments create several new exemptions from the registration requirements. Section 8.5.1 of NI 31-103 (trades through a registered dealer by registered adviser) states that registered advisers, advising representatives and associate advising representatives acting on behalf of the registered adviser in respect of trading activities that are incidental to its providing advice to a client will be exempt from the dealer registration requirement where such persons execute all trading in securities through a dealer registered in a category that permits such trading or a dealer operating under an exemption from the dealer registration requirement.
Section 8.22.1 of NI 31-103 (short-term debt) creates another dealer registration exemption, except in Ontario, in respect of a trade with a ”permitted client” (as defined in NI 31-103) of a “short-term debt instrument” (a negotiable promissory note or commercial paper maturing not more than one year from the date of issue). Notably, the exemption does not apply where the short-tem debt instrument is convertible or exchangeable into, or accompanied by a right to purchase, another security other than a short-term debt instrument. In relation to this exemption, the CSA has commented that permitted clients generally have sufficient investment knowledge or resources to obtain such knowledge and, accordingly, may not require the same of level of protection as other investors. This amendment will be effective July 11, 2015.
Subject to certain conditions, section 8.26.1 of NI 31-103 (international sub-adviser) also creates an exemption from the adviser registration requirement for ”sub-advisers” who (a) have an adviser with a head office or principal place of business in a foreign jurisdiction and engages in the business of advising in that jurisdiction; and (b) are registered, or operate under an exemption from registration, under the securities legislation of the foreign jurisdiction and such registration permits the sub-adviser to carry on the same activities in the foreign jurisdiction as an adviser is permitted to carry on in the local jurisdiction.
NI 31-103 defines ”sub-adviser” as an adviser to a registered dealer or an adviser to a registered dealer acting as a portfolio manager as permitted by section 8.24 of NI 31-103 (IIROC members with discretionary authority). For more information about the rules relating to sub-advisers, see section 13.17 of NI 31-103 (exemption from certain requirements for registered sub-advisers).
Part 11: Internal controls and systems
The key amendments in this part relate to the sale of securities of a registered firm and are designed to expedite and clarify the review process for notices delivered pursuant to section 11.9 (registrant acquiring a registered firm’s securities or assets) and section 11.10 (registered firm whose securities are acquired). Under the amended instrument, notices must be filed with both the principal regulator of the acquirer and the principal regulator of the target. Following submission of such a notice, the principal regulator will share the notice with the other applicable regulators and coordinate the regulatory review thereof. The CSA has noted that, although each of the regulators that receive such notice will have the power to object to the acquisition, the amendments to this part will expedite both the filing and the review process.
Companion Policy to NI 31-103
The Companion Policy to NI 31-103 also includes clarifying guidance on when start up issuers are able to engage in capital raising activities without the requirement to be registered as a dealer. The CSA acknowledges that a start up issuer may be involved in more frequent trading of its securities at the start up stage and will not require registration as long as the trading is primarily for the purposes of advancing the start up issuer’s business plan.
The Companion Policy provides guidance on whether a securities issuer may have to register as a dealer if it employs or contracts individuals to conduct activities that are similar to a registrant, or actively solicits investors, or acts as an intermediary by investing client money in securities. As set out in the Companion Policy, the factors that would indicate that an issuer or any of its officers, directors or other employees are actively soliciting trades are: (i) the principal purpose of the individual’s employment is raising capital through distributions of the issuer’s securities; (ii) the individual spends the majority of his or her time raising capital in this manner; and (iii) the individual’s compensation or remuneration is based solely or primarily on the amount of capital raised for the issuer.
The CSA has also provided additional guidance on the conflict of interest issues that arise when a representative of a registrant acts as a director or adviser of reporting issuers and have other outside business activities. A director of a reporting issuer who is also a representative of a registrant must give first responsibility with respect to confidential information to the reporting issuer. The same duty applies if the representative of a registrant is not a director but is acting in an advisory capacity to a reporting issuer. Registrants are required to disclose all outside business activities and any such changes on the requisite forms.