On March 14, 2013, the Canadian Securities Administration (CSA) issued for comment new proposed rules enhancing the reporting requirements relating to the early warning reporting system.
You will find below a link to the CSA proposal, as well as the various questions it raises for comments, and the proposed amendments.
Nature and Purpose of Changes
The proposal would amend the early warning reporting requirements of Multilateral Instrument 62-104 Take-Over Bids and Issuer Bids (MI 62-104), National Policy 62-203 Take Over Bids and Issuer Bids (NP 62-203) and National Instrument 62-103 Early Warning System and Related Take-Over Bid and Insider Reporting Issues (NI 62-103). These amendments, together with expected changes to the Ontario Securities Act and OSC Rule 62-504 Take-Over Bids and Issuer Bids (OSC Rule 62-504), will apply in all Canadian provinces and territories.
The CSA proposes:
- to lower the threshold from 10% to 5% of the issuer’s outstanding voting or equity securities;
- to require the disclosure of decreases in ownership of at least 2% of such securities;
- to expand the disclosure in early warning news releases and reports; and
- to require the disclosure of certain “hidden ownership” and “empty voting” practices.
“Hidden ownership” refers to the potential use by sophisticated purchasers of strategies in derivative instruments which avoid public disclosure of the acquisition of substantial economic position in public companies, while “empty voting” relates to the use by an investor of derivatives or securities lending practices enabling the investor to hold indirectly voting rights in an issuer when the investor has no equivalent reportable beneficial economic position in the issuer.
The Proposed Amendments
Currently, the early warning rules require a person when acquiring beneficial ownership of, or control or direction over, 10% or more of the outstanding voting or equity securities of any class of a reporting issuer, to issue and file promptly a news release and, within two business days, to file with the authorities a prescribed report. Further news releases and reports have to be filed within two days of additional acquisitions of 2%.
The following is a summary of the CSA’s proposed amendments to these rules:
- The early warning reporting threshold is decreased from 10% to 5%. The news release must be issued and filed promptly but no later than the opening of trading on the next business day.
- Equity derivative positions (see below) and positions under securities lending arrangements would now be aggregated in the threshold calculation.
- Further disclosure is required if there is a 2% increase or decrease in ownership or if there is a change in a material fact contained in an earlier report.
- A news release must be issued and filed and a report must be filed if the ownership percentage decreases to less than 5%.
- Currently, the early warning requirements are accelerated during a take-over bid by requiring disclosure of acquisitions by a party other than the offeror at the 5% level. The CSA proposes not to maintain these particular provisions for reporting during a take-over bid.
- The CSA proposes to enhance disclosure requirements in the news release and related report and the report would have to be certified and signed.
- A person would be excluded from the AMR system if such a person solicits, or intends to solicit, proxies from the security holders of a reporting issuer on matters relating to the election of directors of the reporting issuer or to a reorganization, amalgamation, merger, arrangement or similar corporate action involving the securities of the reporting issuer.
Reasoning behind Changes
The early warning regime is designed to provide the market disclosure of accumulations of significant blocks of securities with potential influence or control of a reporting issuer. Because securities may be voted to exercise control, or accumulated in contemplation of a take-over bid, an accurate disclosure of timely information is necessary for the market to run efficiently and without distortions.
At this time, the CSA believes that the current 10% ownership threshold no longer meets current market trends, such as shareholder activism. Also, the holding of 5% now generally suffices to requisition a shareholders’ meeting. This percentage is deemed significant enough to influence critical matters respecting the issuer, such as constituting the board of directors, and affecting the outcome of control transactions and potential take-over bids.
Regulators wish to recognize the increasing use of derivatives by including an early warning reporting trigger in MI 62-104 and the Ontario Act which would require an investor to include within its early warning calculations its “hidden holdings” through “equity equivalent derivative” positions that are substantially equivalent in economic terms to direct equity holdings.
The CSA defines “equity equivalent derivatives” in the proposal as including total return swaps, contracts for difference and other “derivatives” that provide the holder with the notional “long” position with an economic interest, substantially equivalent to the one it would have enjoyed by holding the reference securities directly. “Equity equivalent derivatives” would not include partial exposure instruments that provide limited exposure to the reference securities.
These proposed amendments are intended to avoid allowing an investor from accessing indirectly reference securities held by a counterparty without having to disclose such access as the investor would have had to do if it held those securities directly.
Finally, whether it be through the use of “equity equivalent derivatives” or by using securities lending arrangements by which a lender transfers temporarily securities to a borrower and title to the securities is actually transferred to the borrower, the holder of the economic interest to the security would be bound under the new rules to issue a press release and file a report as if that holder owned the security directly. The regulators are contemplating exempting the lender under the securities lending arrangement from the early warning reporting requirement for the decrease in its holding.
Impact of Changes on Other Investors
By lowering the early warning threshold from 10% to 5% of holdings, the securities authorities will cast a wider regulatory net that will now require reporting by investors whose holdings stand below the 10% threshold but not below 5%.
Also, holders of an indirect economic interest in securities through practices of “hidden ownership” and “empty voting” will also be required to disclose these economic interests in a security by aggregating them with their beneficial direct interest in the same class of securities.
In addition, eligible institutional investors that can now avail themselves of the alternative monthly reporting rules (AMR) would no longer be allowed to do so under the proposed rules if they actively engage with the securityholders of a reporting issuer by soliciting, or intending to solicit, proxies from them for the election of directors or a reorganization, merger or similar corporate action relating to the securities of the reporting issuer.
Finally, the CSA is considering whether there would be any significant benefit to our capital markets if mutual funds that are reporting issuers, and therefore not eligible institutional investors benefiting from the AMR exemption, were to be subject to the proposed early warning reporting rules at the 5% threshold. That is one of a number of questions the securities regulators are asking for comments on by June 12, 2013.
The proposal refers to the fact that National Instrument 55-104 Insider Requirements and Exemptions, since its amendments in January 2010, addresses to some extent issues related to “hidden ownership” through the use of derivatives. At this point, the securities regulators are still monitoring initiatives of other countries in this regard and may tighten further its insider reporting requirements to further address that issue, as well as the practice of “empty voting” to mirror the changes to the early warning system.