Effective March 17, 2008 there will be new rules applicable to the filing and disclosure of material contracts with securities regulators. These new rules will come into force across Canada and may result in reporting issuers being required to file and disclose more material contracts than were previously required. The new rules are set out in amendments to National Instrument 51-102 Continuous Disclosure Obligations and to Form 51-102F2 Annual Information Form (the Amendments). New guidance on the filing requirements can be found in the Companion Policy to National Instrument 51-102 which has also been amended. The changes have been implemented to harmonize the continuous disclosure obligations of reporting issuers with the new prospectus rules recently published by the Canadian Securities Administrators.
The Amendments implement two key changes. First, the filing exemption for material contracts entered into in the “ordinary course of business” has been restricted. Second, the ability of issuers to redact or omit certain confidential or competitive information contained in a material contract prior to filing has been reduced. Since material contracts need to be described in the Annual Information Form (AIF) of issuers, the Amendments also have an impact on disclosure in the AIF. This bulletin explains the new requirements.
THE BASIC FILING REQUIREMENT
All issuers are required to file with their AIF (or, if they are not required to file an AIF, within 120 days of their financial year-end), all material contracts not previously filed which were entered into within the issuer’s most recently completed financial year or, if they are still in effect, on or after January 1, 2002. The Amendments define material contract as “any contract that an issuer or any of its subsidiaries is a party to that is material to the issuer”. The Companion Policy has been amended to clarify that a material contract generally includes not only the contract but all schedules, side letters, exhibits and amendments to the contract.
ORDINARY COURSE OF BUSINESS EXEMPTION
Where a contract is material, it will not be required to be filed if it has been entered into in the “ordinary course of business”. Whether or not a material contract is in the ordinary course of business is a question of fact which should be considered in the context of the issuer’s business and industry. This is consistent with the current requirement. The Amendments, however, limit the availability of this exemption by providing that certain types of material contracts must be filed despite the fact that they were entered into in the ordinary course of business. The agreements for which the exemption will not be available are:
- Contracts with directors, officers or promoters: Any contract to which a director, officer or promoter is a party, other than a contract of employment, must be filed. The Companion Policy states that one way to determine whether an agreement is a contract of employment is to consider whether a particular contract contains payment or other provisions that would require disclosure under executive compensation rules if the individual were a named executive officer or a director of the reporting issuer.
- Goods, services or product agreements: A continuing contract to sell the majority of the reporting issuer’s products or services or to purchase the majority of the reporting issuer’s requirements of goods, services or raw materials must be filed.
- Franchise or licensing agreements: Any franchise or license or other agreement to use a patent, formula, trade secret, process or trade name must be filed.
- Financing agreements: Any financing or credit agreement with terms that have a direct correlation with anticipated cash distributions must be filed.
- Management/administration agreements: Any external management or administration agreement must be filed. The Companion Policy provides that external management and administration agreements include agreements between the reporting issuer and a third party, a parent entity or an affiliate of the issuer under which the other party provides management or other administrative services to the reporting issuer.
- Material contract on which the issuer’s business is substantially dependent: Any agreement or contract on which the reporting issuer’s business is “substantially dependent” must be filed. The Companion Policy provides that a contract that is so significant that the business of the issuer depends on its continuance would fall into this category. Examples of such contracts include a financing or credit agreement which provides a majority of the issuer’s capital requirements for which alternative financing is not readily available at comparable terms, a contract calling for the acquisition or sale of substantially all of the issuer’s property, plant and equipment, long-lived assets or total assets, and an option, joint venture, purchase or other agreement relating to a mining or oil and gas property that represents a majority of the reporting issuer’s business.
REDACTION OF CONFIDENTIAL OR PREJUDICIAL INFORMATION
As is currently the case, a provision of a material contract may be redacted or omitted prior to filing if an executive officer of the reporting issuer reasonably believes that disclosure of the provision would be seriously prejudicial to the interests of the reporting issuer or would violate confidentiality provisions. The test for redaction has, however, been changed by the Amendments, which provide that redaction or omission will not be allowed in any event where the provision in question relates to:
- debt covenants and ratios in financing or credit agreements;
- events of default or other terms relating to the termination of the material contract; or
- other terms necessary for understanding the impact of the material contract on the business of the reporting issuer.
If a provision is omitted or marked to be unreadable, the reporting issuer must include a description of the type of information that has been omitted or marked to be unreadable immediately after the provision.
The Companion Policy indicates that the regulators may grant exemptive relief and allow redaction of such provisions where the material contract was negotiated prior to the Amendments taking effect and where disclosure would violate a confidentiality provision.
Guidance as to whether a provision is necessary to understand the impact of a material contract on an issuer’s business is also provided in the Companion Policy. Examples of such provisions may be terms relating to (i) length and nature of patents, trade-marks, licences, franchises, concessions or similar agreements; (ii) disclosure about related party transactions; and (iii) contingency, indemnification, anti-assignability, take-or-pay or change-of-control clauses.
DISCLOSURE IN THE AIF
As was the case prior to the Amendments, particulars regarding material contracts filed by an issuer must be provided in its AIF, including the dates of, parties to, consideration provided for in, and general nature and key terms of, the contracts.
COMPARISON WITH THE US RULES
The Amendments reflect in part the material contract disclosure obligations imposed by the US Securities and Exchange Commission on US domestic issuers and foreign issuers that report as domestic issuers. As a general rule, the SEC’s continuous disclosure regime effectively requires that every contract not made in the ordinary course of business which is material to the registrant be disclosed and filed. Contracts that ordinarily accompany the kind of business conducted by the registrant will be deemed to have been made in the ordinary course of business and thus need not be disclosed or filed unless they fall within certain categories, in which case they must be disclosed and filed except if immaterial in amount and significance. Examples of such classes of contracts include agreements with directors, officers and promoters, contracts upon which the registrant is substantially dependent, agreements for the acquisition or sale of assets for an amount exceeding 15% of the registrant’s fixed assets. In addition, certain management contracts and compensatory plans, including those relating to options, pension, retirement and deferred compensation, and profit sharing, must be filed, in some cases even if they are immaterial in amount or significance.
The SEC has also implemented a procedure allowing for the confidential treatment of certain information in material contracts that must be filed. Confidential treatment is only available if, among other conditions, the registrant can demonstrate the applicability of an exemption under the US Freedom of Information Act. Of the nine specific exemptions under that statute, the exemption typically relied upon by registrants is the “trade secrets and commercial or financial information obtained from a person and privileged or confidential”, known as the “(b)(4)”, exemption. Notwithstanding the applicability of the (b)(4) exemption, the SEC takes the position that confidential treatment is generally not appropriate for information that is material to investors. Examples of such types of information are names of key suppliers, material contingency clauses, indemnification clauses, anti-assignability clauses, take-or-pay clauses and financial covenants in material financing agreements.
STEPS TO BE TAKEN
If an issuer is filing an AIF on or after March 17, 2008, it will need to identify all material contracts entered into since the beginning of its last financial year in light of these new rules to determine which material contracts not previously filed will need to be filed. Secondly, issuers will need to look at previously unfiled material contracts entered into prior to the beginning of the last financial year (but after January 1, 2002) and which are still in effect to see if such material contracts which were not previously filed because they were covered by the ordinary course of business exemption must now be filed as a result of the changes made to this exemption by the Amendments. Venture issuers will also need to take the foregoing steps to determine which material contracts must be filed within 120 days of the issuer’s most recently completed financial year. All issuers must apply the new redaction rules in determining what provisions of contracts (including schedules, side letters, exhibits and amendments) may be omitted or redacted in material contracts filed on or after March 17, 2008. The new rules may also require additional disclosure with respect to material contracts in an AIF filed on or after March 17, 2008.