The new streamlined rights offering regime adopted by the Canadian Securities Administrators came into force on December 8, 2015. This could not come at a better time as a multitude of public companies are struggling to find an efficient way to finance themselves. Offerings to an issuer’s shareholder base are common, even mandated, in other developed jurisdictions. However, in Canada, given the previously cumbersome regulatory regime, they have been used only when brokered financings are not available, which has added to a perception of rights offerings as a sign of desperation. The new regime simplifies the rights offering process.
Rights Offering Mechanics
A rights offering is the distribution of rights to purchase securities of the issuer to its existing shareholders. Unlike other forms of financing, it provides an opportunity to all shareholders to participate and avoid dilution.
A rights offering can be done on a prospectus exempt basis through a circular under National Instrument 45-106 – Prospectus Exemptions of the Canadian Securities Administrators and in the case of an issuer whose shares are listed on the Toronto Stock Exchange, in compliance with Section 614 of the TSX Company Manual.
A rights offering may only be effected through a rights offering circular if the offering could result in an increase of no more than 100% of the outstanding securities of the class being issued upon the exercise of rights.
A rights offering may alternatively be conducted by way of prospectus, provided it is done at a discount. But given the new rights offering exemption now permits a maximum dilution of 100% rather than just 25% under the old regime, we believe fewer issuers will need to use a prospectus to conduct rights offerings. Moreover, under the new regime rights offering circulars are no longer subject to advance review and clearance by securities regulators, unlike a prospectus.
To be eligible to use the rights offering exemption under the new regime the issuer must be a reporting issuer in at least one jurisdiction of Canada and must have filed all periodic and timely disclosure documents required to be filed in that jurisdiction. The new regime is not available to investment funds or non-reporting issuers.
Notice and Circular
Before the commencement of the exercise period for the rights, the issuer must file and send a rights offering notice to all securityholders, resident in Canada, of the class of securities to be issued upon exercise of the rights. A rights offering notice is a “two-pager” in the form prescribed by Form 45-106 F14, which contains summary information about the rights offering with instructions on how to participate and access the rights offering circular electronically.
Concurrently with the filing of the rights offering notice, the issuer must file a rights offering circular in the form prescribed by Form 45-106F15, which follows a question and answer format. The disclosure required includes information about the offering (securities offered, subscription price, timing of the offer, listing information), available funds of the issuer and the use of proceeds from the offering, insider participation, any stand-by commitments, any managing dealer, the manner of exercising the rights and additional subscription privileges, the depository and any material information that has not yet been previously disclosed. Unless material and not previously disclosed, business information, including technical and scientific information in the case of a mining issuer, are not required to be included in the circular.
In Quebec, the notice and the rights offering circular must be prepared in French or in French and English.
The subscription price for a security issued upon exercise of a right must be, for a listed security, lower than the market price (i.e., the simple average closing price of securities of that class on the previous 20 trading days) on the day the rights offering notice is filed. If there is no published market for the security, the subscription price must be lower than the fair market value of the security, unless all insiders are restricted from increasing their proportionate interest in the issuer through the rights offering.
Basic Subscription Privilege and Exercise Period
The basic subscription privilege must be available on a pro rata basis to securityholders, resident in Canada, of the class of securities to be distributed upon exercise of the rights. The exercise period for the rights offering must be for a minimum of 21 days and a maximum of 90 days.
Stand-by Commitments and Additional Subscription Privileges
A stand-by commitment exists where a person or issuer agrees to acquire rights not issued under the basic subscription privilege or the additional subscription privilege available to security holders under a rights offering. If there is a stand-by commitment for the rights offering, the issuer is required to grant an additional subscription privilege to all holders of rights. Most rights offerings have an additional subscription privilege even if there is no stand-by commitment. The additional subscription privilege permits existing shareholders to acquire more than their pro rata share of the existing capital through the exercise of rights that were not exercised by other shareholders. Under an additional subscription privilege, each holder of a right must be entitled to receive, on exercise of the additional subscription privilege, the number or amount of securities that is equal to the lesser of:
(a) the number or amount of securities subscribed for by the holder under the additional subscription privilege; and
(b) x (y / z) where
x = the aggregate number or amount of securities available through unexercised rights after giving effect to the basic subscription privilege,
y = the number of rights exercised by the holder under the basic subscription privilege, and
z = the aggregate number of rights previously exercised under the basic subscription privilege by holders of rights that have subscribed for securities under the additional subscription privilege.
Any unexercised rights must be allocated on a pro rata basis to holders who subscribed for additional securities based on the additional subscription privilege up to the number of securities subscribed for by a particular holder. The subscription price under an additional subscription privilege or a stand-by commitment must be the same as the subscription price under the basic subscription privilege.
At the time of writing this publication, the TSX has not yet published any amendment to the TSX Company Manual or staff notice with respect to its rules governing rights offerings. For now an issuer must rely on the existing rules set out in Section 614 of the TSX Company Manual.
Under the current TSX rules, a preliminary discussion with the TSX is recommended if the issuer decides to offer rights to its shareholders. A rights offering by the issuer must be accepted for filing by the TSX before the offering proceeds.
The TSX expects that securities offered by way of rights offering be offered at a “significant discount” to market price at the time of pricing, being when the circular is filed. A significant discount is equal to at least the maximum discount to market price allowed for private placements by the TSX (e.g., 25% if the market price is below $0.50).
The rights offering must receive final acceptance from the TSX at least seven trading days in advance of the record date for the rights offering, the record date being the date of the closing of the transfer books for the preparation of the final list of shareholders who are entitled to receive rights. The issuer is prohibited from announcing a firm record date for a rights offering before the necessary approval has been received.
At least seven trading days in advance of the record date: (i) all deficiencies raised by the TSX must be resolved; (ii) all the terms of the rights offering must be finalized; and (iii) the TSX must receive all requested documents and applicable fees.
Rights will be automatically listed on the TSX. Rights are listed on the TSX on the second trading day preceding the record date. At the same time, the underlying securities commence trading on an ex-rights basis, which means that purchasers of the securities at that time are not entitled to receive the rights (this is to account for settlement requirements). The rights offering must be open for a period of at least 21 calendar days following the date on which the notice is mailed to shareholders, or such longer period as is necessary to ensure that shareholders, including shareholders residing in foreign countries, will have sufficient time to exercise or sell their rights on an informed basis.
The TSX Company Manual has a general provision which will require an issuer to obtain shareholder approval with respect to any transaction involving the issuance or potential issuance of securities if, in the opinion of the TSX, the transaction “materially affects control of the issuer” (i.e. the creation of a new 20% shareholder). However, historically the TSX has taken the view that if the rights offering is a bona fide offering, available to all shareholders equally, the rights are distributed in all (or most) Canadian jurisdictions, with no unusual features, and there is a steep discount, it would not require shareholder approval if a new controlling shareholder resulted from the rights offering.