Designed to Achieve Greater Protections for “Retail” Investors
The fractured nature of Canadian securities regulation is particularly apparent in the exempt market, where issuers are required to consider differences in prospectus exemptions, statutory rights and filing requirements across the provinces and territories in connection with a distribution to qualified purchasers in multiple Canadian jurisdictions. However, proposed amendments to National Instrument 45-106 Prospectus and RegistrationExemptions (NI 45-106) [availablehere] represent a welcome move to greater consistency, while also bringing significant proposed changes to the use of the accredited investor and the minimum amount prospectus exemptions when securities are being acquired by individual “retail” investors.
Comments on the proposed amendments are due by May 28, 2014. We would be please to assist you in formulating and providing your comments to the CSA on the proposed amendments.
Consistent Treatment for Fully Managed Accounts — A Boon for “Retail” Investors
As Canadian securities law now stands, a registered adviser acting on behalf of a fully managed account is qualified to purchase any securities for that managed account as an accredited investor, in all Canadian jurisdictions, that is, except Ontario. In Ontario, a registered adviser acting on behalf of a fully managed account does not qualify as an accredited investor when that managed account is acquiring investment fund securities. We have long urged the Ontario Securities Commission to drop this carve-out, given that a fully managed account, by definition, means that the client has given the registered adviser full discretion to invest the client’s assets, including by investing in investment funds, where the adviser considers this to be in the client’s best interest.
The proposed amendments would remove this Ontario-only carve-out from the definition of accredited investor and eliminate the confusion that currently exists where one of the investment fund manager or the client resides in Ontario. This has been a particular issue to Ontario investment fund managers who would like to put managed account clients into their proprietary funds. Registered advisers who currently rely on qualified relief granted by the Ontario Securities Commission to purchase investment fund securities for fully managed accounts that they manage, will now be able to rely on the revised accredited investor exemption without restriction. More fundamentally, this change will give Ontario investors, who may not qualify as an accredited investor, greater access to professional management of their assets, as well as more cost-efficient investment vehicles and perhaps precipitate a trend in Ontario that seems to be growing internationally, that of registered advisers putting their managed account clients into non-proprietary investment funds.
Increased Thresholds for Individual Accredited Investors
The CSA propose to make two amendments to the accredited investor definition. Accredited investors will include individuals who beneficially own financial assets having an aggregate realizable value that before taxes, but net of any related liabilities, exceeds $5 million and also trusts established by an accredited investor for the benefit of certain family members, provided that a majority of the trustees are accredited investors. The latter change is required because the definition of individual does not include a person in his or her capacity as a trustee. Under today’s rules, an individual who is an accredited investor is able to buy securities for his or her own account in reliance on the exemption, but not on behalf of a family trust.
Risk Disclosure Statement For “Retail” Investors
The CSA also propose that significant new disclosure be given to individuals who are accredited investors, other than those individuals who qualify under the new proposed $5 million financial asset test. This proposal is consistent with the CSA’s recent focus on ensuring appropriate protections for individual “retail” investors. This requirement is intended to address the CSA’s concern that individual investors may not understand the risks associated with exempt market investments.
Issuers will be required to obtain from these individual accredited investors a signed risk acknowledgement form before allowing those individuals to make an investment. The proposed prescribed form, entitled “WARNING TO INVESTORS”[all caps], is designed to alert individual accredited investors that they will not receive certain protections under securities laws when they make the investment pursuant to this exemption. This form will also require individual accredited investors to specify the category of accredited investor they fall under - the form requires a plain language description of the various categories - and to acknowledge that their investment is risky, which will include the investor specifying the total amount of the investment that could be lost.
Any intermediary working with the individual accredited investor to place the investment will also have to sign the new form, indicating whether (or not) he or she is registered with a provincial or territorial securities regulatory authority and how he or she is connected to the issuer, including the investment fund or investment fund manager, as applicable.
Given existing regulation requiring an ever- increasing pile of disclosure documents – and forms - to be given to investors, we wonder whether the introduction of additional boilerplate “warning” disclosure, even when written in plain language and requiring multiple signatures, will have a significant impact on the behavior and comprehension of investors.
Minimum Amount Exemption — No Longer Available To “Retail” Investors
Under the proposed amendments, the minimum amount exemption will no longer be available to individual “retail” investors, no matter the size of their investment. This amendment reflects concerns previously expressed by the CSA, notably in CSA Staff Consultation Note 45-401 Review of Minimum Amount and Accredited Investor Exemptions, as to how reliably the current $150,000 threshold served as a gauge of investor sophistication, particularly as the $150,000 threshold has much less significance now than when it was first set in 1987. By proposing to no longer permit individuals to rely on this exemption, the CSA seek to allay concerns that individual investors, who may not have the requisite financial sophistication or net worth which would allow them to qualify as accredited investors, are participating in the exempt market, while still preserving the ability of institutional investors, which are presumably more capable of making their own decisions on investment risk, to continue to rely on this exemption.
Changes are also proposed to Form 45-106F1. Most significantly, the table reporting information related to distributions in Schedule I has been amended to require disclosure by issuers, other than investment fund issuers, of whether or not the purchaser is an insider of the issuer or a registrant and of the name of any person compensated for the distribution to the purchaser. A purchaser’s email address will also have to be disclosed in this table, in addition to their residential address and telephone number. In British Columbia, similar changes have also been proposed to Form 45-106F6.