In an effort to reduce the cost of capital and provide greater access to a larger pool of investors, the securities regulatory authorities (“SRA”) in all Canadian provinces, except Ontario and Newfoundland and Labrador (“Participating Jurisdictions”) have released for public comment, Multilateral CSA Notice 45-312 – Proposed Prospectus Exemption for Distributions to Existing Security Holders.
This proposed prospectus exemption is open for public comment until January 20, 2014, and would allow TSX Venture Exchange (“TSX-V”) listed issuers to distribute securities to existing security holders (the “Existing Security Holder Exemption”).
Absent from the above group of SRA is the Ontario Securities Commission (“OSC”). However, the OSC recently announced its support for the proposed Existing Security Holder Exemption and will seek substantial harmonization in developing its own exemption.
The Proposed Existing Security Holder Exemption
Under the proposed Existing Security Holder Exemption, TSX-V listed issuers that are current on all their timely and periodic disclosure documents (“Qualified Issuers”) would be able to distribute securities to existing security holders without the use of an offering document, provided that:
- the offering consists only of the class of equity securities listed on the TSX-V or units consisting of the listed security and a warrant to acquire the listed security;
- the issuer issues an “offering news release” disclosing the proposed offering, including details of the use of proceeds;
- each investor confirms in writing to the issuer that as at the “record date” (the timing of which remains undetermined as the SRA are requesting comments specific to an appropriate record date) the investor held the type of listed security that the investor is acquiring under the proposed Existing Security Holder Exemption; and
- the aggregate amount invested by an investor in the prior 12 months in reliance on the proposed Existing Security Holder Exemption is not more than $15,000, unless the investor has obtained advice regarding the suitability of the investment from a registered investment dealer.
As with most other capital raising prospectus exemptions, the proposed Existing Security Holder Exemption contemplates that the first trade of securities offered pursuant to the exemption would be subject to a four month hold period (although the SRA have solicited comments on this point).
In order to ensure sufficient investor protections for misrepresentation, the SRA propose the following additional measures:
- requiring Qualified Issuers to represent in the subscription agreement that there are no material undisclosed facts or changes relating to the Qualified Issuer;
- statutory secondary market civil liability provisions for investors in Alberta, Québec and New Brunswick1; and
- a contractual right of action for rescission or damages for investors in the remaining Participating Jurisdictions.2
Proposed Exemption Provides Access to More Investors
The proposed Existing Security Holder Exemption streamlines the currently available, yet rarely used, rights offering prospectus exemption. The proposed exemption is a welcome attempt by the SRA to provide much needed relief to Canadian listed TSX-V issuers that are struggling to raise capital due to the currently challenging Canadian capital marketplace.
Distributions to retail investors by prospectus, offering memorandum or other offering document are risky and costly to issuers as the fees and expenses associated with such distributions are significant and are borne by the issuer whether or not the offering is successful. As a result, TSX-V listed issuers consciously avoid “offering document” offerings, eliminating a significant source of potentially available capital, and rely almost entirely on private placements (which are only available to limited classes of placees) as their only practical and viable capital-raising vehicle. The proposed Existing Security Holder Exemption significantly reduces the risks and cost of capital associated with “offering document” offerings by replacing the traditional disclosure document with a condensed offering news release.
The proposed Existing Security Holder Exemption also seemingly addresses, in part, an anomaly within the Canadian securities regulatory framework that has sidelined non-accredited retail investors from accessing the ‘sweetened’ private placement offerings of Canadian listed issuers. As an example, a non-accredited retail investor is able to purchase securities of a Canadian listed issuer in the secondary market in the morning, yet is restricted from subscribing in a private placement of the same issuer later that afternoon. By allowing Qualified Issuers to distribute securities to their existing security holders, existing non-accredited security holders are given access to these otherwise restricted, and usually discounted, offerings.
While increasing access to capital for TSX-V listed issuers is the primary purpose of the proposed Existing Security Holder Exemption, this objective must be tempered by appropriate investor safeguards to maintain the integrity of the Canadian capital marketplace, and the SRA have struck a fair balance. Investors relying on the proposed exemption will: (i) have access to all timely and periodic disclosure documentation of the Qualified Issuer, including the proposed offering press release; (ii) be subject to either a $15,000 annual investment cap, or no cap provided investors are advised by investment dealers; and, (iii) will be afforded statutory secondary market civil liability protections, or contractual rights of action for rescission or damages in the event of a misrepresentation in the issuer’s continuous disclosure record.
Proposed Exemption is a Step in the Right Direction
The proposed Existing Security Holder Exemption represents a step in the right direction on behalf of the SRA. However, as is often the case with any new proposal, room exists to improve upon and clarify aspects of the proposed exemption.
For instance, it is contemplated that the proposed Existing Security Holder Exemption would only apply to TSX-V listed issuers. Many issuers listed on the Toronto Stock Exchange (“TSX”) are currently grappling with capital-raising challenges similar to those faced by their TSX-V counterparts. The logic behind restricting the availability of the proposed exemption to TSX-V listed issuers is not immediately clear. TSX listed issuers would no doubt welcome the opportunity to access additional capital from their existing non-accredited security holders.
The proposed Existing Security Holder Exemption does not have a fixed record date for security holders of the Qualified Issuer as the SRA are seeking specific comment on appropriate record dates. However, the SRA appear prepared to accept a minimum of at least one day prior to the announcement of an offering given that “…the investor will have already considered whatever information or advice they needed to make an investment decision”. The authors agree that the record date should be no longer than one day prior to the announcement of the offering under the proposed exemption.
Proposed Exemption Still Open for Public Comment
The proposed Existing Security Holder Exemption contains provisions that demonstrate the SRA have reviewed, in earnest, the challenges facing Canadian TSX-V issuers. While we support initiatives that seek to reduce the cost of capital and provide greater access to a larger pool of investors, this exemption will be limited by definition to a small group of investors, namely existing security holders.
In a prior bulletin, the authors discussed a similar dealer/adviser exemption (“Dealer Exemption”) that would see issuers raise funds from the public, provided that it is done through a registered investment dealer/adviser and provided that investor protection measures, including defined annual and or individual investment caps, are in place. Should the SRA introduce a new exemption, or an amended Existing Security Holder Exemption, the authors propose that an exemption without a requirement to be a shareholder may result in the kind of impact that the Canadian capital markets need.
The public has an opportunity to comment on the proposed Existing Security Holder Exemption until January 20, 2014.