Legal Updates

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Update

Monday, August 8, 2016

Michael Rennie & Alexandra Meffe

Introduction

On June 30, 2016, the Ontario Securities Commission (the “OSC”) published for comment Proposed OSC Rule 72-503 – Distributions Outside of Canada (the “Proposed Rule”), along with an accompanying companion policy (the “Proposed CP”). The Proposed Rule is intended to provide greater clarity than the existing regime to issuers and selling securityholders with respect to the application of Ontario securities laws to certain cross-border transactions. In particular, the Proposed Rule provides exemptions from prospectus and registration requirements in certain instances in an effort to respond to the challenges faced by issuers and intermediaries in connection with the distribution of securities to investors that reside outside of Canada. 

The Existing Regime   

In certain provinces of Canada, securities regulators take the view that any distribution of securities by an issuer sufficiently connected to that province to an investor outside such province will be subject to that province’s prospectus requirement, thus requiring the issuer to either comply with such requirement or rely on an exemption therefrom. In contrast, the OSC’s view in this regard has historically been less clear. 

In 1983, the OSC published a note entitled “Interpretation Note 1 – Distributions of Securities Outside of Ontario”(the “Interpretation Note”), which, while not having the force of law, provides the OSC’s views on the interpretation of Ontario securities laws to distributions of securities outside of Ontario.  Unfortunately, the Interpretation Note engenders uncertainty and has consistently posed a challenge both for issuers, in its application, and for the OSC, in its administration. The Interpretation Note provides that where issuers and intermediaries exercise “reasonable precautions” to ensure that securities distributed by Ontario issuers outside of Ontario “come to rest” outside Ontario and do not “flow back” into Ontario, such distributions need not comply with the Ontario prospectus requirement. However, due to the absence of bright-line tests in the Interpretation Note and a lack of clarity as to what the OSC will consider “reasonable precautions”, since its publication, the Interpretation Note has caused difficulties for market participants when assessing the applicability of the Ontario prospectus requirement to cross-border securities offerings.  The OSC seeks to address these difficulties with the Proposed Rule which, if adopted, will replace the Interpretation Note and is expected to better facilitate cross-border offerings by removing the application of the Ontario prospectus requirement where offerings are subject to the securities laws of the foreign jurisdiction into which a distribution is made.  

The Proposed Prospectus Exemptions 

The Proposed Rule aims to eliminate uncertainty with respect to outbound distributions by providing four express exemptions from the Ontario prospectus requirement, as follows: 

I.     Foreign Public Offering Exemption – for distributions to investors outside of Canada under a public offering document, similar to a final prospectus, in the United States or other designated foreign jurisdiction. 

II.  Concurrent Distribution under Ontario Prospectus Exemption – for distributions to investors outside of Canada where the issuer has filed and received a receipt for a final prospectus in Ontario that qualifies the concurrent distribution in Ontario. 

III. Reporting Issuer Exemption – for distributions to investors outside of Canada where the issuer is and has been a reporting issuer in a jurisdiction of Canada for the four months immediately preceding the distribution. 

IV.  Miscellaneous Exemption – for all other distributions to investors outside of Canada where one of the foregoing exemptions is not available, provided that the first trade of the securities distributed under this exemption will be subject to standard Canadian hold periods and/or resale restrictions.

Each of the foregoing exemptions is only applicable where the issuer or selling securityholder, as applicable, has complied with the securities laws of the relevant foreign jurisdiction, a requirement which could give rise to the additional cost of engaging local legal counsel to confirm same.

The policy rationale behind the Proposed Rule appears to be ensuring that investors have access to adequate disclosure in order to make an informed investment decision, whether that be by way of a public offering document in a designated foreign jurisdiction, a final prospectus in Ontario or four months of continuous disclosure documents in Canada.  As a result, securities distributed pursuant to any of the first three exemptions set forth above would be freely tradeable, while the fourth, which does not contemplate the availability of such disclosure, gives rise to statutory hold periods.  Notwithstanding that nothing in the Proposed Rule prohibits or restricts the resale of securities distributed under one of the first three exemptions set out above, the OSC expects issuers, underwriters and other participants in the offering to take “reasonable steps” to ensure that the securities “come to rest” outside of Canada and are not redistributed back into Canada in a manner that constitutes an indirect distribution in Ontario, as discussed in further detail below. 

The Proposed Report of Outbound Distributions 

The Proposed Rule will, in certain circumstances, give rise to a new reporting requirement. With the exception of the “Foreign Public Offering Exemption”, as detailed above, issuers that rely on a prospectus exemption under the Proposed Rule will be required to prepare and electronically file an accompanying Form 72-503F Report of Distributions Outside of Canada (the “Proposed Form”) within 10 days of the distribution. Although the Proposed Form is similar to other private placement trade reports, it is generally less onerous and will not require disclosure of the names of, nor detailed information about, non-Canadian purchasers.  The Proposed Form is therefore not likely to give rise to significant additional costs to issuers completing cross-border distributions, subject of course to any filing fees that will be required in connection with the Proposed Form. 

The Proposed Registration Exemptions

The Proposed Rule also includes an exemption from the Ontario dealer and underwriter registration requirement for distributions outside Canada, subject to certain conditions. This exemption is intended to help reduce uncertainty associated with whether such registration requirement applies to foreign dealers in connection with the distribution of securities into the United States or other designated foreign jurisdictions by an Ontario issuer. 

The Proposed Companion Policy 

The Proposed Rule is intended to provide greater clarity than the Interpretation Note and, for the most part, it achieves its objective.  However, the Proposed CP appears to detract from this objective in that it includes language similar to that in the Interpretation Note that gave rise to the very uncertainties the Proposed Rule aims to rectify.  The Proposed CP references the requirement for the issuer, the dealer and other participants in the offering to “take reasonable steps to ensure that the securities come to rest outside of Canada and are not redistributed back into Canada”, and to “implement reasonable precautions and restrictions” to ensure that the securities end in the hands of foreign investors.  Neither the Proposed Rule nor the Proposed CP appears to improve on the “guidance” provided in the Interpretation Note as to the meaning and scope of such “reasonable measures” or “reasonable precautions”. As a result, as opposed to providing clear guidance to market participants with respect to the bright-line exemptions contained in the Proposed Rule, the Proposed CP may, in some measure, counteract the certainty provided by such exemptions. 

Conclusion

The benefits of the Proposed Rule, along with the accompanying Proposed CP and Proposed Form, are intended to outweigh any additional costs incurred by market participants in their application. While we are indeed of the view that the proposed regime will produce a net benefit for Ontario capital markets, we are also hopeful that, following the comment period, the final version of these measures will go further in reducing the ambiguities discussed in this update. 

The OSC has requested comments on the Proposed Rule by September 28, 2016.

This update is intended as a summary only and should not be regarded or relied upon as advice to any specific client or regarding any specific situation.

If you would like further information regarding the issues discussed in this update or if you wish to discuss any aspect of this commentary, please feel free to contact us.