SECURITIES LAW

INTRODUCTION TO COURSE
SOURCES OF LAW
OB1ECTIVES AND STRATEGIES OF REGULATION
In securities law, the underlying policy can sometimes trump the statutory text itself
CANADIAN CAPITAL MARKETS AND INSTRUMENTS
The Purpose of Capital Markets
1) The Public Sector
Public sector refers to the full range of services/activities carried on by governments, including social assistance
programs (such as unemployment insurance and welfare); the building and maintenance of roads, bridges, and other
infrastructure; the building and operation of schools and hospitals; and the operation of police forces, firefighting
services, national parks, and national defence
o carry out these activities, governments raise money in two ways!
(") through the collection of taxes or other revenues, such as government licensing fees and administrative fees,
lottery proceeds, and profits resulting from investments in #rown corporations; and
($) through the sale of government debt instruments, such as bonds (through this type of fund raising,
governments have become ma%or participants in modern capital markets & sell both short-term bonds, where the
principal must be repaid in less than one year, and long-term bonds, where the principal must be repaid one
year or more into the future'
2) The Private Sector - Profit and Not-for-profit Sectors
(on)profit & private entities supply goods or services with a view to benefiting specific subgroups of the public, such as
needy children, the homeless, and religious causes or community interests, such as the environment and educational
causes & turn any surplus of revenue over expenses back into the operations of the non)profit enterprise
*or)profit entities & supply goods or services with a view to generating a profit for the owner(s) of the entities, who
may be individuals, partners in a partnership, or shareholders of a corporation'
3) Net Savers and Net Users of Capital: Financial Investment and Real Investment
Private for)profit sector & forms the backbone of capitalist economy
#apital markets play a vital role in transferring the savings of net savers of capital to net users of capital, and ultimately
in financing various activities in the +real+ economy'
,(et users of capital- & those enterprises ) public or private ) that need funds to carry on their operations'
,(et savers of capital- & individuals, corporations or partnerships, with a surplus of funds
(et users of capital are the foundation of the ,real economy- (the aggregate of all the goods and services
produced within a country e'g' activities such as constructing homes, making cars, conducting scientific research
and development, running a travel agency, and offering legal services all constitute part of the real economy)
#apital markets transfer funds from net savers to net users, allowing real economic activity to take place (people invest
their savings either through a financial intermediary, such as a bank or a mutual fund, or by purchasing investment
products, such as stocks or bonds and these financial investments support the real economy e'g' the bank lends out most
of its deposit base in the form of mortgages and other loans' hat money, in turn, is used to finance investments in the
real economy, such as renovating a house or supplying a business with working capital) & savings go from net savers to
net users of capital, providing the link between financial and real assets
he financial economy consists of only financial claims, which come in many varieties'
. deposit in a bank! you are entitled to withdraw your money at any time, sub%ect to any agreement
Investment in a guaranteed investment certificate (/I#), is a financial claim on the issuing institution'
. life insurance policy with a cash)out value
0hares in corporations are an important species of financial claim, as are corporate bonds or debentures'
he rights associated with each type of financial claim vary'
o 1ond & entitles the holder to periodic payments of interest and to the ultimate repayment of the
principal on a named date'
o 0hare & perpetual claim that remains outstanding forever, barring bankruptcy, winding)up,
amalgamation, or other similar event of termination' he shareholder is entitled to participate in the
payment of dividends if, and when, declared by the board of directors; has a residual claim on the
corporation2s assets (i'e', the right to receive the remaining assets of the corporation after all other
claimants have been paid) should the corporation be wound up'
PRIMARY AND SECONDARY SECURITIES MARKETS
1) Primary Market Transactions
Issuer & a corporation or other entity that sells or issues securities
Primary market transaction & when an issuer sells its own securities
3 categories of primary market transactions!
Initial public offering (IP4/going)public transaction)! the first time an issuer sells securities in itself to the public
0ecurities laws re5uire that a comprehensive disclosure document known as a prospectus be prepared, filed
with government regulators, and delivered to the purchasers of the securities
0ubse5uent (seasoned or follow)on) public offering! raise money again from public investors (after IP4) through
a public offering
6e5uires the issuer to produce a new prospectus
Private placement! sale of securities effected by means of an exemption from the legal re5uirement to produce
and deliver a prospectus
2) Secondary Market Transactions
0econdary market transactions & once issued, securities sold from one investor to another
If the issuer is a private company (that is, a company that has never sold its securities to the public), the terms of sale
are usually negotiated between the seller and the buyer because no readily determined +market price+ is available
6eporting issuer & once the corporation makes a public offering of securities by means of a prospectus and is sub%ect to
specific, ongoing public reporting obligations
he shares of reporting issuers are often traded through the facilities of stock exchanges or other organi7ed securities
markets
hree stock exchanges in #anada (since "888) and each speciali7ed in specific types of securities trading!
oronto 0tock 9xchange (09) & speciali7es in #anada2s most senior e5uity issues (i'e', shares of the largest
#anadian corporate and other issuers)
1ourse de :ontreal (formerly the :ontreal 9xchange) & before "888 competed with the 09 in the trading of
senior securities & essentially has become an exchange over which derivative securities are traded
#anadian ;enture 9xchange (#<(= & now 0= ;enture 9xchange), which the 09 ac5uired in $>>" & lists
securities of smaller, more %unior companies
?isting re5uirements of the 0= ;9 are easier for smaller companies to satisfy than the listing re5uirements
of the 09 (but some firms that go public still do not meet the standards)
hese small companies used to trade through the #anadian <ealing (etwork (#<(), a subsidiary of the
09, which consisted of two segments!
@uoted segment & dealers 5uoted prices at which they were willing to buy and sell the securities of the
issuers (3A> issuers)
he reporting segment was, as the name suggests, merely a system for reporting trades in non)5uoted
issuers (several hundred more than 5uoted segment)
#<( was transferred to the %urisdiction of the 0= ;9, which invited about "B> issuers whose securities
had been 5uoted on the #<( system to transfer to a 0= ;9 +ier 3+ listing in the fall of $>>>' he
remaining +un5uoted+ securities were moved to a new Ceb)based system known as the #anadian Dnlisted
1oard Inc' (#D1), a subsidiary of the 0= ;9 (not really a +market+ but a trade)reporting system that
records the price and volume of securities traded in unlisted securities)'
"/$ of the #<( firms that had been 5uoted previously lost the benefit of dealer 5uotations and essentially
lost their secondary market'
he 5uoted firms that were invited to obtain a ier 3 listing on the 0= ;9 were sub%ect to a +drop dead+
date (date by or before something must be done), re5uiring them to 5ualify for a ier " or a ier $ listing'
#anadian rading and @uotation 0ystem (#(@) & private corporation that will fill the void created by the
demise of #<( (in the process of applying for recognition by the 40# as a 5uotation and trade)reporting
system)' he #(@ will allow reporting issuers in 4ntario to apply for admission to the trading system,
which will be a hybrid dealer and auction market'
TYPES OF FINANCIAL CLAIMS OR ~SECURITIES
1) Introduction
. security/financial claim, gives the holder a legal claim over
(") the earnings of the issuer of the security
($) the assets of the issuer, should the issuer be wound up
(3) entitlement to vote (most important) & right to vote for directors and a right to vote in respect of fundamental
changes (corporate transactions such as amalgamations, changes in the corporation2s constitutional documents, and
changes in the %urisdiction of incorporation)'
2) Debtholders
. corporation may raise capital by issuing debt claims as corporate bonds or debentures'
1ond/debenture & debt instruments issued under a contract with the corporation'
he contract promises the debtholders interest payments on the principal amount of the debt and repayment of the
principal due on the maturity date of the debt (holders of debt E debtholders or creditors of the corporation)
rust indenture & the contract between the corporation and the bondholders (indicates the issuer2s obligations under the
debt instruments e'g' what will happen if the issuer fails to meet various tests of financial health or fails to repay either
the interest or the principal on the debt when it becomes due)
.dministered by an +indenture trustee+ (usually a trust company) on behalf of the bondholders and the indenture
trustee (not the individual bondholders) enters into the trust indenture with the issuer and, in the event of payment
default by the issuer, indenture trustee can take over the management of the issuer, appoint a receiver, or take other
steps to secure repayment of the debt
herefore critical to survival to ensure that company pays all of its debt claims in a timely manner'
rust indentures are typically sub%ect to specific rules in corporate legislation (e'g', Part ;III of the #anada
1usiness #orporations .ct)'
a) 0ecured versus Dnsecured <ebt
0ecured debt/security interest & debt interests that are secured on some or all of the assets of the issuer
the issuer2s non)payment of interest or principal gives the debtholder a claim over the assets specifically secured
under the instrument creating the debt
on the issuer2s default, the creditor (sub%ect to applicable provincial and federal laws) may enter the issuer2s
premises to sei7e and sell these assets to satisfy payment of the debt
gives the secured creditors priority in the secured assets over any others who claim that the issuer owes them
money
.n issuer can have more than one class of secured creditor, and different classes of creditors may have co)e5ual or
different priorities over the issuer2s assets (banks insist on the highest priority of all those who lend money to a
corporate issuer)
Dnsecured debt & the debtor is legally obliged to repay the debt plus the agreed)upon interest, but the creditor cannot
look to any specific asset or assets of the debtor to secure this repayment
Dnsecured debtholders have! lower priority than the secured debtholders (therefore if nothing left after secured
debtholders (in li5uidation of an issuer) they get nothing); e5ual priority with one another; and a higher priority
claim than any class of shareholder
ypes of unsecured creditors & creditors holding unsecured bonds or debentures, trade creditors, employees, and
anyone else to whom the corporation owes money
#reditors are ,fixed claimants- & unlike holders of e5uity interests (i'e', shareholders), no matter how profitable the
debtor corporation becomes, the debentureholders2 return on their investment remains limited to the amount of
interest and the return of principal promised in the trust indenture and whatever the corporation2s profitability, trade
creditors2 claims are limited to the amount billed to the corporation plus any interest charged on the unpaid debt'
3) Shareholders (Holders of "Equity" Claims)
a) #ommon 0hares
. corporation may raise money by issuing +e5uity+ claims or shares' 4ne type of e5uity claim is the common share'
#ommon shares are distinguished by three important attributes!
(") the claim over the earnings stream,
($) the claim over assets on a winding)up, and
(3) the right to vote'
i) The Claim over the Earnings Stream
9ach common shareholder is entitled to receive a pro rata share of any dividend declared by the corporation on the
common shares but no legal obligation for the corporation to pay any dividends whatsoever (directors may decide to
declare, or not to declare, dividends as they so choose)
Dnder what circumstances may the directors declare a dividendF
(") all fixed claimants (including preferred share claims) have been paid all amounts owing to them or
($) if the corporation has the financial resources to ensure that it can meet all of its obligations to the fixed
claimants'
#orporate law limitations on amount of dividend declared by the directors
#orporations incorporated under the #1#. & a dividend payment may not render the corporation unable to pay its
liabilities as they become due and after the dividend payment, the reali7able value of the corporation2s assets must
exceed the aggregate of its liabilities and stated capital of all classes of shares (residual claim on earnings &
shareholder2s claim to dividends stands last in priority over the earnings stream & the corporation must make
provision for all stakeholders with fixed claims, such as bondholders, preferred shareholders, and employees,
before it can pay the shareholders anything)
<isadvantage of residual claim & there may not be sufficient funds in any given year after all the prior claimants have
been paid to pay shareholders a dividend
.dvantage of residual claim & should profits be great, common shareholders (vs' fixed claimants) become wealthy &
after prior claims are paid, the remaining profits +belong+ to the shareholders (directors may, if they wish, pay all
remaining profits to the shareholders or if no dividends are declared, the value of the shares nonetheless will rise to
reflect the increasing value of the residual assets of the corporation E a capital gain for shareholders)
ii) The Claim over Assets on a Winding-up
. corporation may voluntarily decide to wind up and distribute its assets or the proceeds from the sale of its assets and
the common shareholders would possess a +residual+ claim over the assets or their proceeds (residual claim over
earnings) & all fixed claimants (bondholders, trade creditors, employees owed back wages, and preferred shareholders)
must be paid all amounts owed to them before any amounts may be distributed to the common shareholders but once
paid, the shareholders are entitled to left over
iii) The Right to Vote
he most important right is the right to vote & sh entitled to vote on the election of directors, the appointment of the
corporation2s auditors, and wrt corporate +fundamental changes+ (amalgamations or ma%or sales of assets)'
here may be one or more classes of shareholders whose shares do not entitle them to vote
#orporations are only permitted to issue non)voting shares if at least one class of shareholders has full voting rights
b) Preferred 0hares
. preferred share has some preference over the common shares in relation to the issuer2s earnings and assets upon
winding)up'
Preferred shares are different from common shares b/c represent fixed (vs' residual) e5uity claims'
i) The Claim over the Earnings Stream
Preferred shareholders are usually entitled to a stated +preferred+ dividend per annum (must be paid before any
dividend can be paid to the common shareholders)'
<irectors have no obligation to declare any dividends to the preferred shareholders, even when the preferred shares
appear, on their face, to entitle holders to a stated annual dividend'
:ay also have participation rights & entitle holders to a right to participate, with the common shareholders, in any
further dividends or distribution of residual value on a winding)up (these participating shares represent residual, rather
than fixed, claims)
<irectors are not legally obliged to pay dividends to preferred shareholders, even when the shares carry a stated
dividend rate but if a preferred dividend is not paid in a given year and the preferred shares are cumulative then any
missed/accrued dividend(s), or arrears of dividends, plus the dividend for the current year must be made good before
any dividend can be paid to holders of lower ranking shares, such as common shares' If the shares are non)cumulative,
directors must pay only the current year2s dividend before dividend for common shareholders (but the issuance of non)
cumulative preferred shares is 5uite rare)
ii) The Claim over Assets on a Winding-up
Preferred shareholders typically have a fixed claim over the assets of the corporation on a winding)up, which must be
paid before the common shareholders receive any distribution of the corporation2s assets'
he amount of the preferred shareholders2 claims on a winding)up is very often the amount paid for the shares when
they were first issued, plus any accrued, but unpaid, dividends'
iii) No Voting Rights
Preferred shareholders are not usually given an express entitlement to vote for directors or in respect of fundamental
corporate changes'
1ut federal and provincial corporate laws fre5uently provide right to vote on certain fundamental corporate changes to
ensure that common shareholders do not use their voting power to engage in opportunistic redistribution of corporate
entitlements in their favour at the expense of the preferred shareholders'
Chere non)voting shares have a residual right to share in an issuer2s earnings and in its assets on winding)up, such
shares may be listed on the 09 only if they are protected by so)called +coat)tail+ provisions, which ensure that a
bidder for the issuer2s voting shares cannot pay a premium to the voting shareholders in which the non)voting e5uity
shareholders are not entitled to participate'
iv) Other Common Features
6edeemable & sub%ect to repurchase at the instance of the corporation at a specified price that is usually in excess of the
issue price'
6etractable & the holder may insist that the corporation repurchase the shares at a prespecified price (often made
contingent on the occurrence of an event)
If the shares are neither retractable nor redeemable, then, unlike debt, they are part of the +permanent+ capital of the
corporation and are never retired'
4) Risk and Return of Different Types of Securities
o a financial economist, the two most important attributes of a security are its risk and its expected return'
6isk is important because most people are risk averse (i'e' risk is a cost)
1ecause people are risk averse, investors must be compensated for bearing risk'
he greater the degree of risk associated with an investment instrument, the higher the expected return must be to
induce investors to purchase the instrument'
he expected return E percentage return on the purchase price'
4nce the expected dollar value of the return on any investment instrument has been determined, the expected
percentage return on that instrument can be increased only by the issuer lowering the selling price' herefore riskier
instruments tend to have lower prices in the marketplace/re5uire higher interest rates, higher dividend rates and/or
expected capital gains'
his inverse correlation between risk and price/positive correlation between risk and expected return is the
foundation of modern financial theory
<ifferent types of securities have 5uite different risk/return characteristics!
Debt securities have lower expected return than shares because debt investments never yield more than the
promised interest payments and return of principal but they have the lowest degree of risk (especially secured debt)
& why!
o Gighest priority in respect of both the earnings stream and the assets on a winding)up & corporation makes
contractual promises to pay interest in each period and to return the principal when the debt matures
o <ebtholders may sue the company if it defaults
o <efault may result in effective control of the corporation being transferred to the debtholders (they appoint a
+receiver+ to run the corporation until the debt is paid)
o <efault may also result in bankruptcy whereby common shareholders lose entitlement to appoint the directors,
the business brought to an end, and the corporation2s assets may be li5uidated & here the debtholders have first
priority over the assets of the corporation
Preferred shares & riskier than debt securities
o 6epresent fixed claims but no guarantee that the corporation will pay dividends in any given period
o If dividends are not declared, preferred shareholders cannot sue to force payment and are not typically entitled
to take over the management of the corporation & no re5uirement that the corporation ever make good the
missed dividends (only if the preferred shares are cumulative and the directors wish to pay a dividend on the
common shares, will the directors need to pay the arrears of dividends on the preferred shares)
o 1ecause of this added risk, preferred shares must have a higher after)tax expected return than debt to attract
investors' Preferred shareholders expect their total return, which is a combination of dividends paid plus
capital appreciation, to be higher than the return expected by debtholders'
Common shares & most risky type of security because they represent a residual claim on both an issuer2s earnings
and assets & investors only purchase if their expected return (in the form of dividends plus capital appreciation) is
greater than that of either the issuer2s debt or preferred shares (the riskiness of the corporation2s business and the
terms of issuance of the common shares determine how much higher that expected return needs to be to attract
investment)
5) Hybrid Securities
#ommon/preferred shares not statutorily defined terms and corporate legislation has few constraints on the types of
securities that may be issued by a corporation
. corporation may issue hybrid shares that have characteristics of both preferred and common shares (or even debt)like
features) & if at least one class of shares is entitled to vote, at least one class is entitled to receive dividends, and at least
one class is entitled to receive any remaining property upon dissolution, no single class of shares needs to entitle its
holders to all three of these fundamental rights!
s' $A(3) #1#. & where a corporation has only one class of shares, the rights of the holders thereof are e5ual in all
respects and include the rights
o (a) to vote at any meeting of shareholders of the corporation,
o (b) to receive any dividend declared by the corporation and
o (c) to receive the remaining property of the corporation on dissolution
s' $A(A) #1#. & a corporation may issue more than one class of shares, and, if this is done, the rights set out in
subsection (3) shall be attached to at least one class of shares but all such rights are not re5uired to be attached to
one class
#ommon law restrictions on the types of securities that may be issued
<istinctions b/w debt security and an e5uity claim
he directors are under no obligation to pay dividends therefore not possible to create a common share on which
dividends must be paid, or debt that constitutes a residual claim on earnings
o #? problems overcome by issuing a package of securities with different attributes e'g' a convertible bond &
bond that may, at the instance of the holder, be converted at any time into a fixed number of common shares &
fixed interest payments must be paid on the bond, but if the share price appreciates, it may be worthwhile for
the holder to convert the bond into common shares, thus becoming a residual claimant)
6) A Corporation's Share Capital: A Hypothetical Illustration
0hare structure of .1# #orp', a corporation incorporated under the #1#. & .1# #orp'2s authori7ed capital consists of
an unlimited number of #lass . shares, an unlimited number of #lass 1 shares, an unlimited number of #lass # shares,
and an unlimited number of #lass < shares'
he different classes of shares have rights as follows!
#lass . 0hares & hybrid shares called non)voting common shares & entitle their holders to a residual claim and
resemble common shares but they are non)voting and entitle holders to a preferential dividend therefore like
preferred shares as well (also typically have a trivial dividend preference over the voting common shares, given to
attract purchasers' Dnder 40# 6ule HI)H>", these shares are considered restricted shares, that is, e5uity shares
other than common shares)
o <o not vote for directors
o #annot receive dividends until the #lass < and # shareholders are paid their preferential dividends
o :ust be paid a dividend of J>'>H per annum before any dividends may be declared on the #lass 1 shares
o 0hare rateably with #lass 1 shareholders in any further dividend
o Gave a residual claim on assets ranking e5ually with the #lass 1 shareholders2 claim
#lass 1 0hares & typical common shares that entitle their holders to all three of the fundamental rights of s' $A(3)
#1#.
o ;ote for directors
o #annot receive dividends until the #lass ., #, and < shareholders have received their preferential dividends
o 0hare rateably with #lass . shareholders in any dividend declared after the #lass <, #, and . preferential
dividends have been paid
o Gave a residual claim on earnings and assets ranking e5ually with the #lass . shareholders
#lass # 0hares & classic preferred shares
o <o not vote for directors
o #annot receive a dividend until the #lass < shareholders have been paid their preferential dividend
o 6eceive a preferential dividend of JH'>> per share before the #lass . or 1 shareholders may be paid a
dividend
o Gave no residual claim on assets or earnings
#lass < 0hares & classic preferred shares but have a dividend preference even over the other class of preferred
shares
o <o not vote for directors
o 6eceive a preferential dividend of JH'>> per share before the #lass ., 1, or # shareholders may be paid a
dividend
o Gave no residual claim on assets or earnings
Restricted-voting shares & shares that have partial voting rights (e'g' one vote for every ten shares held), but are
otherwise participating shares
7) Options
a) 4ptions .re 0ecurities
.n option is a security & an instrument that gives the holder the right to buy or sell an underlying interest (often
common shares of the issuer) in respect of a named issuer at an agreed price, on or before an agreed date, but does not
obligate the holder to do so
b) 4ptions Issued by a #orporation
Right & a common example of an option that entitle holders to buy the issuer2s own securities
/ives the holder the option to buy an additional share, or a fraction of an additional share, of a stated issuer at a
stated price, on or before a stated date'
9'g' a right issued on " Kanuary $>>" with the right to buy one share of the corporation, on or before "H *ebruary
$>>$ at a price of JH> (the underlying interest of the option is the corporation2s common shares, and the +exercise
price+ is JH>)
6ights issued to the existing shareholders of the corporation with an exercise price %ust below the existing market
price and issued as an alternative financing techni5ue to a straightforward issuance of shares'
he purchase of rights gives the holders leveraged positions in the corporation (an option to buy shares is always
more risky than holding the shares themselves because option prices vary pronouncedly with changes in the
underlying share price)
Warrant & essentially the same but may give the holder the right to exercise it over a longer period of time and it will
often be attached to the issuance of some other type of security, such as a bond'
c) In)the):oney, 4ut)of)the):oney, and .t)the):oney 4ptions
In the money options& the option, if exercised today, would yield a profit
Out of the money options & money)losing proposition (but can still have value, as long as there is time remaining
before they expire, because the price of the corporation2s shares may increase during the life of the option with the
result that the options will be in the money)
At the money options & right is issued with an exercise price that is e5ual to the market price for the shares
d) 4ptions Issued by Persons 4ther than the #orporation
0hare options need not be issued by the corporation that is the issuer of the underlying shares'
Put and call options & when other persons issue options whose underlying interest is a security issued by a publicly
traded corporation
Call option on a corporation2s shares may be created by an option +writer+ (i'e', a seller)' he option writer sells the
option to a purchaser for a price known as the option premium' he call option entitles the purchaser, if it so wishes, to
force the writer to sell an outstanding share of a third)party corporation at a specified price (the exercise price) on or
before a specified date' he corporation that originally issued this optioned share takes no part whatsoever in this
transaction' 4nce issued, call options may be traded in the secondary market'
9'g' the price of an .1# #orp' common share is J$H on " :arch $>>"' he writer (e'g' investment banking firm)
may create a call option with an exercise price of J3> to be exercised by the holder (if the holder wants to) on or
before " Kune $>>"' he purchaser of the call option hopes that the price of .1# #orp'2s common shares will rise
to more than J3> before " Kune' If it does not, the option will expire and be worthless' he writer of the option
hopes that the price of .1#2s common shares will not rise to more than J3> on or before " Kune (the writer and the
purchaser of the option are making contrary +bets+ on the future value of .1# stock)'
Put option on corporate shares also may be created by an option writer; however, the purchaser of the option ac5uires
the right to re5uire the writer to purchase a corporate share from her at a stated price on or before a certain date'
9'g' .1# #orp' & share price on " :arch is J$H and the writer of a put option sells the purchaser a put option,
entitling the option purchaser to force the writer, on or before " Kune $>>", to buy from the purchaser a share of
.1# #orp' at a price of J$> (at the time of issuance, the put option is +out of the money+)' If it expired on the date
of issuance, its value would be 7ero' he purchaser hopes that the price of .1# will drop to an amount below J on
or before " Kune'$> If it drops to J"H, the purchaser can enter the market, buy a share of .1# at J"H, immediately
exercise the put option, and resell that same share to the writer for J$>, for a JH profit'
e) 4ptions :ay Gave a ;ariety of Dnderlying Interests
.n option can be written against any underlying interest, financial or otherwise, whose price is sub%ect to variation'
9'g' options can be written against a stock index such as the 0LP/0= I>, the price of a precious metal, the price of an
agricultural commodity, or an index of fine art values'
f) 4ptions Issued as a #ompensation <evice
#orporations issue call or other options as compensation for the services of senior executives and/or directors
(managers) & useful compensation device because they give the managers more +leverage+ than simply holding shares'
In order to hold shares in the corporation, the manager must invest money' Chen options are granted, no investment
takes place' he manager eventually profits to the extent that the share price rises above the exercise price of the
options'
hought to provide managers with incentive to increase the value of the companies they manage
#ritics & see them as a subterfuge for transferring corporate value from shareholders to managers'
M) *utures
*utures (exchange)traded) and forwards (over)the)counter, or 4#) are contracts to sell a specified asset on a stated
date in the future at a stated price
?ike option contracts, futures contracts are written against a wide variety of underlying interests (most common E
currencies, commodities, indexes, and interest rates)
9'g' a contract on " :arch $>>", with underlying interest of A? of milk, sale price of J">, and settlement date of " Kune
$>>" & purchaser agrees to buy, and the seller agrees to sell, A? of milk on " Kune for J"> (although sale will not take
place until" Kune, both parties are contractually committed to complete the transaction when that date arrives)
Dsed as a risk management tool e'g' farmers often sell futures contracts to purchasers of the commodities they produce,
even before the crop or the animals have been raised & transfers the risk of price fluctuations in the underlying interest
to the purchasers
*utures contracts are +securities+ but commodity futures contracts that are publicly traded on a commodity futures
exchange are excluded from the definition of +security+ because they are separately regulated under special legislation
dealing with commodities futures administered by the securities regulators'
9) Derivative Securities
he value of a +derivative security+ depends on (or +derives+ from) the value of another security, financial asset, or
other reference value, which (as noted above) is referred to as the underlying interest' 6ights and warrants, as discussed
above, are, thus, types of derivative securities, as are put and call options'
he term +derivative security+ is also used to refer to futures and forward contracts' In fact, every derivative security,
no matter how complex, can be characteri7ed as either an option contract, a futures (or forward) contract, or a
(fre5uently elaborate) combination of the two' he term derivative security is an umbrella term used to refer to a vast
range of different types of financial instruments whose values vary with the underlying interests
<erivative securities have exploded in popularity in the last decade, mainly as a result of an increased demand to hedge
risk in volatile currency, interest rate, commodity, and stock markets' .lthough not all derivative instruments are
+securities+ within the meaning of provincial securities legislation, the securities legislation of some provinces
nonetheless gives the regulators the power to regulate such instruments (s' "A3(")3H)'
THE ONTARIO SECURITIES COMMISSION
he 40# is the administrative body responsible for regulating the 4( sec industry
It is an autonomous, self)funding #rown corporation
Its revenues come from the fees it charges in connection with activities sub%ect to the 40. (when an ri distributes sec to
the public or sell sec by way of private placement; when a take)over bid or a going)private transaction is completed;
when sec dealers and advisors want to become/remain registered under the .ct; when an ri files a prospectus, financial
statements, material change reports, or apply for exemptions)
he 40# must have b/w 8 and "A commissioners (s' 3($)), who are appointed by the provincial cabinet for terms of not
more than H years but they may be reappointed (s' 3(A)) and are the 40#Ns board of directors (s' 3'"(")) & the most
senior ranking 40# official is the chair of the 40#
he over 3>> staff carry out the 40#Ns operations (lawyers, accountants, and other professionals)
he 40# is responsible for the administration of the 0ecurities .ct and performs the duties assigned to it under the
40. and other .cts (s' s' 3'$($)) e'g' the 41#. and the #ommodity *utures .ct
40# given broad powers & principle functions!
?icensing sec industry professionals (re5uirement to be licensed is a registration re5uirement)
6eviewing prospectuses in connection with proposed public offerings of sec and issuing receipts for them
Promulgating 6ules, policies and other instruments relating to the regulation of the sec industry
Providing exemptions from the re5uirements of 4( sec law in appropriate cases (where it is not pre%udicial to the
public interest to do so)!
o Power to approve an ownership interest in voting shares of the 09 Inc' in excess of the HO restriction that
otherwise applies and to waive voting restrictions that would otherwise apply to such large shareholders,
permitting a holder of more than HO of such shares to vote those shares that represent a greater than HO
interest (s' $"'""(A))
o Power to extend the time within which a renewal prospectus must be filed for continuously offered sec (s'
I$(H))
o Power to waive compliance with provisions of Part =; of the 40., dealing with prospectus re5uirements re
secondary offerings (distributions of previously issued sec of an issuer by someone other than the issuer itself,
typically control persons) (s' IA($)
o Power to provide exemptions from the 40.Ns registration and prospectus re5uirements (s' BA)
o Power to exempt a ri from the continuous disclosure re5uirements in Part =;III of the 40. and in the related
regulations (s' M>)
o Power to order that an issuer has ceased to be a ri (s' M3)
o Power to deem that an issuer is a ri (s' M3'")
o Power to exempt a person or company from the re5uirements of the take)over and issuer bid provisions (s'
">A)
o Power to relieve a mutual fund or its management company from the prohibitions against making loans to, or
other investments in, certain related parties in ss' """ and ""$ of the 40. (s' ""3)
o Power to revoke or vary a previous decision of the 40# (s' "AA)
o Power to exempt persons or companies from any re5uirement of 4( sec law in cases where there is no
specific exemption procedure (s' "AB)
9nforcing 4( sec laws, including by sitting as a 5uasi)%udicial tribunal in connection with administrative
proceedings commenced pursuant to s' "$B of the .ct
he 40. confers upon the 40# the capacity and rights, powers, and privileges of a natural person (s' 3'$(")) and
affords to the commissioners and staff immunity from any proceedings for any act done in good faith in the
performance or intended performance of any duty or in the exercise or the intended exercise of any power under 4(
sec law, or for any neglect or default in the performance or exercise in good faith of such duty or power (s' "A"("))
The OSC as Administrative Tribunal and the Standard of 1udicial Review
<ecisions of the 40# may be appealed to the 4( <iv' #rt' (s' 8(")), except orders granting exemption from registration
or prospectus re5uirements under s' BA (ss' 8("), BA(3))
.ppeals must be brought within 3> days after the decision
0tandard of %udicial review!
Committee for Equal Treatment of Asbestos Minority Shareholders v. OSC (0##, $>>")
o he 0## upheld the 40#Ns decision not to make an order pursuant to its ,public interest- %urisdiction under s'
"$B
o he 0## held that despite the fact that the 40. had no ,privative- clause shielding 40# decisions, they
should still be accorded a high degree of curial deference b/c of their special expertise, the purpose of the
statute, and the nature of the problem before the 40# & however these factors must be balanced against the
fact that the 40. grants an express right of appeal
o herefore the appropriate standard of review is the intermediate standard of reasonableness & lying b/w the
extreme standards of correctness and patently unreasonable i'e' a reviewing court must uphold a decision that
is within the scope of its expertise, even if the court does not agree with the correctness of the decision,
provided that the decision is found to be reasonable (it is not sufficient to demonstrate that the decision was
not patently unreasonable)
Proposed Merger of OSC and Financial Services Commission of ON
*0#4 regulates provincially chartered insurance companies; mortgage, loan and trust companies, and other deposit)
taking institutions; and pension plans
he rationale of the merger b/w the 40# and the *0#4 is that it would eliminate regulatory duplication and regulatory
gaps & it reflects an increasing integration of financial services firms and the erosion of traditional distinctions b/w
specific types of financial institutions
Institution)based regulation may need to give way in the modern financial services sector to ,functional regulation-
(:erton)
SECURITIES EXCHANGES AND SELF-REGULATORY ORGANIZATIONS (SROs)
In some instances, the sec industry is in a better position to regulate the conduct of market professionals than
government agencies b/c they have an interest in promoting high standards among their members
0ection "(") ,064- & a person or company that represents registrants and is organi7ed for the purpose of regulating the
operations and the standards of practice and business conduct of its members and their representatives with a view to
promoting the protection of investors and the public interest
$ types of 064s in #anada & sec exchanges and dealer organi7ations
(o stock exchange may carry on business in 4( unless it is recogni7ed by the 40# (s' $") and 064s may apply to the
40# for such recognition (s' $"'") & the Investment <ealers .ssociation of #anada (I<.) and the :utual *und <ealers
.ssociation (:*<.) are recogni7ed under s' $"'" (but they are still sub%ect to 40# disciplinary powers)
Exchanges
064 effectively means a dealer organi7ation rather than an exchange but sec exchanges are often referred to as 064s
e'g' (I "A)">" defines ,064- as a self)regulatory organi7ation, a self)regulatory body or an exchange
4nly the 09 is recogni7ed under s' $" & the :arket 6egulation 0ervices Inc' (60 Inc') is its separate regulatory
agency but the 40# still has oversight of the 09 rule proposals
SOURCES OF SECURITIES LAW AND POLICY
0ection "(") ,4( securities law- & the 40., the regulations, and in respect of a person or company, a decision of the
#ommission or a <irector to which the person or company is sub%ect
0ection "(") ,regulation- & the 40. 6egulation and, unless the context otherwise indicates, the 40# 6ules made
under s' "A3 and deemed rules in the 0chedule to the .ct pursuant to s' "A3'"
Sources of Law
1. The Securities Act (OSA)
he 40. is the foundation upon which all of 4( sec regulation is based
he $ purposes of the statute are (s' "'")!
1. To provide protection to investors from unfair, improper or fraudulent practices and
!. To foster fair and efficient capital mar"ets and confidence in capital mar"ets
o hese goals are complementary, rather than in competition with one another & the goal of fostering fair and
efficient capital markets is achieved by vigilant investor protection (e'g' insider trading) but the relentless
pursuit of investor protection could come at the expense of market efficiency (Asbestos Shareholders)
he I fundamental principles to which the 40# is to have regard as it pursues the purposes of the statute are grouped
into 3 categories (s' $'")!
hose that are self)evident & the $ purposes of the .ct must be balanced in specific cases; effective sec regulation
re5uires timely, open and efficient administration
hose that endorse current practice & 3 primary means by which the purposes of the .ct are to be achieved
(mandatory disclosure rules, restrictions on improper practices, and appropriate standards for registered market
participants)
hose that signal a legislative preference for the future direction of sec regulation & endorsement of the
enforcement capabilities of 064s; the promotion of harmoni7ation of regulation; regulatory burdens ought to be
proportionate to the significance of regulatory goals
2. The OSA Regulation
he ?/ in #ouncil (provincial cabinet) has the power to make regulations under the 40. re enumerated matters (ss'
"A3("),($)(a)) and re any other matter advisable for carrying out the purposes of the .ct (s' "A3($)(b))
0ec regulations are unusual b/c they could 5ualify provisions of the statute itself
3. OSC Rules (made under s. 143 including blanket orders and rulings that were deemed rules pursuant to s. 143.1)
. rule is a legislative instrument made by the 40#
6e inconsistencies b/w rules and regulations, the regulation prevails but in other respects, a rule has the same force and
effect as a regulation (s' "A3("3))
A steps involved in the process of making a rule!
1. Notice - the 40# publishes notice of the proposed rule in the 40#1 (s' "A3'$("))
2. Comment period - the 40# must give interested persons 8> days to comment on the proposed rule (s'
"A3'$(A))
3. Republication (if necessary) - if, after the initial publication of the rule, material changes to the rule are
proposed, the amended rule must be published again (s' "A3'$(B)) and interested parties must be provided time to
comment as the #ommission considers appropriate (s' "A3'$(8))
4. Delivery to the Minister - the 40# must deliver to the 4( minister of finance a copy of the rule, notices, a
summary of the representations and other docs received re the proposed rule and any other material information
that the 40# considered (s' "A3'3(")) and the minister has I> days to approve, re%ect or return the rule to the 40#
for further consideration (s' "A3'3(3)) & a rule comes into force "H days after approval is granted (s' "A3'A(")) or, if
the minister takes no steps during that I> day period, the rule comes into force automatically "H days later (s'
"A3'A($))
The granting of rule-making authority (the Ainsley decision) - case arose from a challenge launched by penny stock
brokers against an attempt by the 40# to regulate their business operations with Policy 0tatement "'">
4( #. upheld the 4( #ourt (/en' <iv') decision that the 40# did not have the legislative authority to
promulgate this policy statement b/c many of its provisions consituted legislation and, unlike the 09#, the 40#
had not been granted rule)making power by its governing statute
his decision raised concerns re the legitimacy of 40# Policy 0tatements and that the decision may impair the
40#Ns ability to discharge its statutory public interest mandate
he <aniels ask *orce was struck in response to the decision and came to the conclusion that the 40# should be
granted rule)making authority
Deemed rules - once the 40. was amended to add the rule)making authority, a number of previously issued blanket
orders or rulings became deemed rules (exemptions from some aspects of sec regulation in certain recurring situations &
speedier and more practical than issuing a large number of individual exemptions) but the 40# could not issue any new
blanket rulings after the power was in place (s' "A3'"") b/c the purpose of the power was to provide the same flexibility
as a blanket order but with the additional transparency and procedural protections that accompany rule)making
authority
4. National Instruments and Multilateral Instruments
hese forms of regulation reflect the continuing desire of provincial sec regulators to coordinate and harmoni7e their
regulatory efforts in the new rule)making era
(I & promulgated by the #anadian 0ecurities .dministrators (#0.) and is intended to be legislative in nature but in
order to have effect in a province, it must be adopted as a rule or regulation in that province
:I & those instruments that have effect in some but not all provinces (not all are adopted every province and not every
provincial regulator has rule)making power and therefore they must be adopted as policies)
Other Regulatory Instruments and Communications
1. National and Local (OSC) Policy Statements
he .insley decision did not intend to end the use of policy statements by sec regulators & the 4( #. recogni7ed the
#ommissionNs authority to use non)statutory instruments to fulfill its mandate provided they were not legislative in
nature & however it did hold that policy statements occasionally amount to unauthori7ed legislating by regulators
Policy statements provide public guidance to issuers and market professionals wrt the regulatorsN interpretation and
proposed application of sec laws and wrt the facts and circumstances that would most likely trigger regulatory
intervention (market participants are expected to comply with these statements)
Policy statements are recogni7ed by s' "A3'M, which defines ,policy- as!
a written statement of the #ommission of,
o (a) principles, standards, criteria or factors that relate to a decision or exercise of a discretion by the
#ommission or the <irector under this .ct, the regulations or the rules;
o (b) the manner in which a provision of this .ct, the regulations or the rules is interpreted or applied by the
#ommission or the <irector;
o (c) the practices generally followed by the #ommission or the <irector in the performance of duties and
responsibilities under this .ct; and
o (d) something that is not of a legislative nature
Proposed policies must be published for comment (s' "A3'M($)A)) but they are not re5uired to be submitted to the
minister of finance before they are adopted
$ types of policy statements!
(ational & issued by the #0. for adoption in every province ((Ps are adopted in 4( pursuant to s' "A3'M of the
40.)
?ocal & initiatives of a provincial regulator only (40# Policy 0tatements)
2. Staff Notices and Accounting Communiques
Published statements that are not formally sanctioned by the 40# and are not sub%ect to the notice or comment process
.n instrument is more likely to be considered a policy (as opposed to a staff notice) if!
It reflects crystalli7ed rather than developing views of the 40#
It relates to recurring matters of broad impact
<eals relatively less with strictly administrative or procedural matters
6eflects significant involvement of the 40# rather than only the 40# staff
0taff accounting communi5uPs & assists reporting issuers and the financial community to understand more clearly
staffNs views on specific financial reporting issues (technical accounting matters)
Policy Reformulation Project and Numbering System
4nce the 40# received rule)making power, they had to review all previous policy statements to determine which parts
were legislative and therefore should be made to be rules
he rules and policies were structured in a H digit numbering system based on sub%ect matter classification (p' A$8)
WHAT IS A ~SECURITY?
1) Introduction
he 5uestion of what constitutes a +security+ is central to the application of securities legislation (threshold 5uestion)
even though the securities regulators sometimes assume %urisdiction even when there is no security'
:any re5uirements of securities legislation are triggered when +securities+ are involved, including the following!
he re5uirement that an issuer prepare and distribute a prospectus where there is a distribution of +securities'+ (ss'
"(") ,distribution-, H3)
he re5uirement that an issuer publicly disclose material changes in the life of the company (i'e', comply with
continuous disclosure obligations) depends on whether it has issued securities (and whether these securities are
publicly held, such that the company 5ualifies as a +reporting issuer+) (ss' "(") ,reporting issuer-, BH)
he criminal and civil prohibitions against insider trading are triggered only when someone with material non)
public information trades in securities (ss' BI, "3>)
he application of the take)over bid rules depends on whether there is a take)over bid to ac5uire the securities of an
issuer (s' M8(") ,take)over bid-)
he registration re5uirements of the legislation come into play only when there is activity involving securities (ss'
"(") ,underwriter- and ,advisor-, $H)
2) The Securities Act Definition
Section 1(1) ~security:
(a) any document, instrument or writing commonly known as a security,
(b) any document constituting evidence of title to or interest in the capital, assets, property, profits, earnings or
royalties of any person or company,
(c) any document constituting evidence of an interest in an association of legatees or heirs,
(d) any document constituting evidence of an option, subscription or other interest in or to a security,
(e) any bond, debenture, note or other evidence of indebtedness, share, stock, unit, unit certificate, participation
certificate, certificate of share or interest, preorgani7ation certificate or subscription other than a contract of
insurance issued by an insurance company licensed under the Insurance .ct and an evidence of deposit issued by a
bank listed in 0chedule I or II to the 1ank .ct (#anada), by a credit union or league to which the #redit Dnions
and #aisses Populaires .ct, "88A applies or by a loan corporation or trust corporation registered under the ?oan
and rust #orporations .ct,
(f) any agreement under which the interest of the purchaser is valued for purposes of conversion or surrender by
reference to the value of a proportionate interest in a specified portfolio of assets, except a contract issued by an
insurance company licensed under the Insurance .ct which provides for payment at maturity of an amount not less
than three 5uarters of the premiums paid by the purchaser for a benefit payable at maturity,
(g) any agreement providing that money received will be repaid or treated as a subscription to shares, stock, units
or interests at the option of the recipient or of any person or company,
(h) any certificate of share or interest in a trust, estate or association,
(i) any profit)sharing agreement or certificate,
(%) any certificate of interest in an oil, natural gas or mining lease, claim or royalty voting trust certificate,
(k) any oil or natural gas royalties or leases or fractional or other interest therein,
(l) any collateral trust certificate,
(m) any income or annuity contract not issued by an insurance company,
(n) any investment contract,
(o) any document constituting evidence of an interest in a scholarship or educational plan or trust, and
(p) any commodity futures contract or any commodity futures option that is not traded on a commodity futures
exchange registered with or recogni7ed by the #ommission under the #ommodity *utures .ct or the form of which
is not accepted by the <irector under that .ct,
whether any of the foregoing relate to an issuer or proposed issuer
he definition is not exhaustive (,includes-)! but it is unlikely that any court or securities regulator would have to
venture outside of the list, however, because the various terms are +catchalls,+ designed to cast the net as wide as
possible (the definition of security is so wide that it can be reasonably asserted that only the common sense of securities
regulators and the courts places limits on what will be regulated as a security)
3) A Summary of the Case Law
#ases in which the courts have interpreted the definition of security!
a) 6esult)oriented #ases
he result desired by the %udge tends to drive the reasoning, rather than the reasoning driving the result'
b) Investor Protection
Investor protection & one of the fundamental policies underlying securities legislation (s' "'"(a))'
he legislation seeks to protect investors against fraud and +the imposition of unsubstantial schemes+ (Gawaii) foisted
upon investors by over7ealous promoters'
6esult)oriented & if a court perceives that the purchaser of an interest is a person in need of the protection of the
legislation, it is likely that the interest will be found to be a security and if the purchaser is able to protect her own
interests, or is protected under some other statutory scheme such as the #ondominium .ct, the court is less likely to
find the interest to be a security (s' "(e, f))'
c) 9xpectation of Profit
In general, a security will be found when one person secures the use of the money of another on the promise of profits'
If the recipient of the money creates an expectation of profit over and above the return of the initial value furnished by
the purchaser, the courts tend to find that a security exists'
d) 6isk *actor
. key factor is risk but the investment need not be +speculative+ in character (i'e', a high)risk investment) & some
degree of risk is sufficient'
he riskier the transaction, the more likely it is that the court will find that the transaction involves the sale of a security
(policy of investor protection that drives this result & the more risk the purchaser is exposed to, the more likely it is the
court will find that she or he needs the protections furnished by the legislation)'
e) Purchaser2s <egree of #ontrol
he less ability an +investor+ has to exercise control over the money spent, the more the investor must trust others to
protect the investment (purchaser faces a greater risk and the court is more likely to find the interest to be a security)'
f) Independent ;alue
9ven if the sub%ect matter of the contract has value independent of the success of the enterprise as a whole, the contract
may still be characteri7ed as a security e'g' in some circumstances, a contract for the sale of an interest in real estate has
been characteri7ed as a security'
g) 0ubstance over *orm
.rrangements that many people would not commonly regard as securities are often found to be securities'
.n interest created by a document that specifically denies that it creates a security may still be found, in substance, to
constitute a security'
h) 4verlap in <efinition
he definition of security in the 40. includes +any investment contract'+ his is typically thought to be the widest part
of the definition, and, indeed, more cases have been litigated under this part of the definition than under any other'
Gowever, the courts2 reasoning used to define +investment contract+ can easily be transposed to other parts of the
definition of security, such as parts (b) and (i) of subsection "(") of the 40.' In short, there is considerable overlap in
the nature of the specific enumerations in the definition of security'
i) D'0' #ases
0## has adopted the meaning of investment contract found in the leading D'0' cases therefore D'0' cases may be cited
in #anada, both before the courts and the securities regulators, in arguing whether a particular interest is a security'
%) 9xplicit 9xclusions
he definition of security explicitly excludes a variety of interests, many of which would not commonly be thought of
as securities' 9'g' s' "(")(e) excludes contracts of insurance, as well as evidence of a deposit issued by a bank (e'g', a
bank book), a caisse populaire, a loan corporation or a trust corporation'
$ reasons for these exclusions!
Cithout the exclusions, interests such as a contract of insurance and a bank book would very likely
be found to be securities under at least one of the subparts of the definition
here is no need to sub%ect those who create these forms of +securities+ to the regulation embodied in
the 40. because their activities are regulated under other protective legislation, such as the federal
1ank .ct
he cases have largely focused on the extended definitions and an examination of the +extended+ or broad parts of the
definition gives the greatest insight into what constitutes a security' hus, in what follows, only the
Broadest parts of the specific enumerations found in the definition:
4) Shares and Debt Interests
0ection "(")(e) ,security- & includes any bond, debenture, note or other evidence of indebtedness, share, stock, unit,
unit certificate, participation certificate, certificate of share or interest, preorgani7ation certificate or subscription
herefore shares (including common, preferred, and hybrid shares) are securities, as are bonds and debentures'
0hares and debt instruments in private companies are also securities'
Dnits & interests in trusteed mutual funds, real estate investment trusts, and various forms of tax shelter instruments
(e) is extremely broad & even a promissory note could be included in the phrase note or other evidence of
indebtedness & but would depend on the context of the transaction, and especially on whether the maker of the note
was either able to protect her own interests or was ade5uately protected under another legislative scheme
5) Options
0ection "(")(d) & includes any document constituting evidence of an option, subscription or other interest in or to a
security'
herefore includes exchange)traded options issued by parties other than the issuer (put and call options) traded
through the facilities of the #anadian <erivatives #learing #orporation as well as options issued directly by the
issuer, such as rights and warrants
6) Other Instruments Commonly Known as Securities
0ection "(")(a) & includes any document, instrument or writing commonly known as a security
4verlaps with (d) and (e) in that most people regard common shares, preferred shares, bonds, debentures, and
options as securities
.lthough part (a) of the definition appears to re5uire that the interest in 5uestion be in writing, there is authority
suggesting that this is not, in fact, the case'
#ourts stretch part (a) beyond what most people would commonly recogni7e as securities'
o 9'g' 09# v' #':' Koiner ?easing #orp' & the court found certain leasehold interests to be securities
o 9'g' 09# v' /lenn C' urner 9nterprises, Inc' & the court found that a pyramid sales scheme created an
interest commonly known as a security & ,the court doubts that #ongress intended that in order to 5ualify
under these general categories, a transaction must be commonly known to the man in the street as a security'
:ost securities are rather technical in nature and not likely to be understood except by the legal or financial
community' It is sufficient that an offering be considered as a legal matter to be a security, regardless of the
popular perception of it- i'e' defined the classes of persons whose views must be taken into account in order to
5ualify something as a security under part (a) of the definition & ,the legal or financial community- (not by the
person in the street) b/c of the average person2s limited knowledge of financial instruments and the increasing
complexity of financial transactions ) the last sentence is circular & something is a security if it can be
considered as a legal matter to be a security but it is the court that defines what may be considered, as a legal
matter, to be a security'
7) Interests in Property
0ection "(")(b) & includes any document constituting evidence of title to or interest in the capital, assets, property,
profits, earnings or royalties of any person or company'
itle to or interest in ''' property ''' of any person or company & the possible reach of this part of the definition is clear'
If all that is re5uired is a document constituting evidence of an interest in property, then a bill of sale is a security, a
deed evidencing an interest in land, a mechanic2s lien registered against a property, a mortgage, a vendor2s interest in a
vacuum cleaner bought on credit, and many other common types of interests in property'
#. e$ rel. S%ain v. &ou'hner & nothing more than a simple property interest must be re5uired to create a security
1arbe purchased a half interest in a pair of royal chinchillas from 1oughner' . bill of sale recorded the sale of the
interest to 1arbe, which transferred a property interest and one)half the natural increase of said #hinchillas' .
certificate was issued to 1arbe that certified his ownership in the chinchillas and provided for the care of the
animals and the disposition of the young'
he #rown contended that the certificate constituted a security under what is now s' "(")(b) but at the trial level,
the magistrate held that no security existed because the words +of any person or company+ of (b) re5uired 1arbe to
hold an interest in property belonging to another person, rather than actually owning the property (i'e', the
chinchillas or a half interest in them) himself'
4ntario Gigh #ourt of Kustice reversed this decision, holding that the +property+ in 5uestion need not remain in
another person or company, because the statute does not use the words +of 2another2 person'+
herefore any document evidencing an interest in property is a security (the 4ntario Gigh #ourt of Kustice erred on
this specific point & the definition of security becomes far wider than is necessary or desirable to carry out the
purpose of the statute)' 6eading the statute as if it says +another person+ better comports with the fundamental
concept underlying the meaning of the term +security,+ which is the furnishing of risk capital by one person to
another'
he final outcome in 1oughner is correct b/c the interest (as evidenced by both documents furnished to 1arbe)
could have been characteri7ed as a security under the +investment contract+ part of the definition of security'
.lthough 1arbe nominally purchased only chinchillas, the agreement obligated 1oughner to care for, and
ultimately dispose of, the animals in a manner that both parties hoped would generate a profit to be split between
them' hus, 1arbe was clearly purchasing more than a simple property interest' Ge was led to expect that a profit
over and above his initial stake would arise from his investment' he purchase of the chinchillas plus an interest in
the profits bore little difference in substance from a purchase of shares in the chinchilla ranch'
#. v. (alley & same wide reading by 4( #.
,Qunder this interpretationR almost any agreement becomes a security since nearly every such document affords
evidence of title to, or interest in, some property' 1ut where the meaning of the statute is plain, as it appears to be
here, the #ourt must give effect to it-
Ontario )Securities Commission* v. &ri'adoon Scotch (istributor )Can.* +td. & preferable interpretation
Carehouse receipts were sold to a variety of purchasers' he receipts nominally evidenced only the passing of title
in casks of whiskey' Gowever, each cask remained in the possession of the vendor for the purpose of aging and
eventual sale on behalf of the owner to a whisky blender' his was anticipated to make a profit that would be
distributed to the owners'
.lleged that the warehouse receipts constituted securities within the meaning of part (b) of the definition'
#ourt stated! ,he definition would not include documents of title which are bought and sold for purposes other
than investment, for example, bills of lading and receipts for goods purchased for inventory or consumption
purposes' 0uch an intention on the part of the ?egislature can be inferred from the basic aim or purpose of the
0ecurities .ct, "8II, which is the protection of the investing public through full, true and plain disclosure of all
material facts relating to securities being issued- and without further explanation, the court held that the warehouse
receipts were securities under part (b)'
herefore properly interpreted, part (b) of the definition of security adds nothing to the meaning of +investment
contract+
he warehouse receipts were securities b/c the purchasers were led to believe that a profit would accrue over and
above their initial investments' t is this element o! investing !or pro!it" and not merel# an interest in propert#" that
results in a $hara$teri%ation o! the interest as a se$urit#&
1ecause of the potential for an overly ambitious interpretation by securities regulators and courts, it would perhaps be
best if part (b) were removed from the definition of security'
8) Profit-sharing Agreements
0ection "(")(i) & includes any profit)sharing agreement or certificate'
*ew cases have been litigated under this part of the definition'
In virtually every case in which it is alleged that there is a profit)sharing agreement, it is also alleged that the interest is
a security by virtue of its being an investment contract b/c (") profit sharing is at the heart of the test for an investment
contract and ($) the case law dealing with investment contracts is much more detailed than that dealing with profit)
sharing agreements
herefore little harm would be done by eliminating this part of the definition from the statute'
9) Investment Contracts
a) Introduction
0ection "(")(n) & includes any investment contract
#onsidered to be the broadest part of the definition of security
:ost litigated part of the definition'
he courts2 guidance under this part of the definition is transposable to other parts of the definition of security'
he #anadian tests for determining when an investment contract exists are the same as those adopted in the Dnited
0tates'
b) 09# v' #':' Koiner ?easing #orp'
he first D'0' 0upreme #ourt case interpreting +investment contract+'
SEC v. C.M. ,oiner +easin' Corp.
Facts: <, #':' Koiner ?easing (Koiner), purchased a number of leases of potentially oil)bearing property in exas' hese
leases were conditional on Koiner drilling test wells' o raise the money to conduct the drilling program, Koiner resold some
of its lease rights' *ifty purchasers bought parcels ranging in si7e from $'H to H acres, at prices ranging from JH to J"H per
acre with most purchases totalling no more than J$H' he sales solicitation contained the undertaking that Koiner would drill
test wells to determine the value of the properties'
Issue: Chether the interests constituted securities'
Ratio:
i) The mportan$e o! the Element o! E$onomi$ ndu$ement" or the Creation o! an E'pe$tation o! (ro!it
he court recogni7ed that Koiner was not merely selling leasehold interests' It was selling a hope of profit & ,it is clear
that an economic interest in the well)drilling undertaking was what brought into being the instruments that defendants
were selling and gave to the instruments most of their value and all of their lure-
ii) The Statutor# (oli$# o! nvestor (rote$tion
he court in Koiner held that ,courts will construe the details of an act in conformity with its dominating general
purpose, will read text in the light of context and will interpret the text so far as the meaning of the words fairly permits
so as to carry out in particular cases the general expressed legislative policy' In this case, the legislative policy is one of
investor protection' hus, the .ct must be interpreted to further that policy-
1ut circular & to define an interest as a security, one must look to see if the person ac5uiring that interest is an
investor' 1ut must then ask who is an investor and an investor is a person who buys a security'
6eferences to the investor protection mandate emphasi7e that the interest in 5uestion must have an +investment+
element to it and the investor must be led to expect that a return will accrue over and above her initial stake (the courts
are not timid in interpreting the statute)
iii) Substan$e )overns" Not Form
he defendant in Koiner argued that the interests could not be securities because, under exas law, the lease
assignments conveyed interests in real estate' It was argued, in other words, that something is either an interest in real
estate or a security, but not both' he court re%ected this reasoning, holding that the formal nature of the interest alleged
to be a security is essentially irrelevant' he courts will be guided by substance, rather than form'
Conclusion: hese interests constituted securities within the meaning of the D'0' 0ecurities .ct of "833'
c) he Gowey est
he test for +investment contract+ was further elaborated
SEC v. -.,. .o%ey Co.
Facts: Gowey #o' raised money for the cultivation of citrus crops by selling some of its acreage' Gowever, it was not %ust a
sale of a piece of real estate b/c Gowey #o' urged potential buyers to enter into a service S with Gowey)in)the)Gills, a
subsidiary company that cultivated, harvested, and marketed the citrus crop (they told them that it was not feasible to invest
in citrus groves without a service S)' :ost of the purchasers entered into these Ss' he Ss gave Gowey)in)the)Gills a
leasehold interest with possession' Gowey)in)the)Gills pooled the fruit, sold it, and allocated profits based on the output of
each tract' he purchasers were mostly out)of)state residents who knew nothing about the citrus business'
Issue: Chether the sale of an investment contract was involved in the transaction'
Ratio: he most widely used test for the existence of an investment contract! ,.n investment contract for the purposes of
the 0ecurities .ct means a contract, transaction or scheme, whereby a person invests his money in a common enterprise and
is led to expect profits solely from the efforts of the promoter or a third party- (*oiner)' Problems! what does it means to
have a ,common enterprise-; the use of the word ,solely- i'e' what if the investor also engages in efforts, however minimal,
to produce a profitF
Four part test for the purchase of security (vs. commodity) - for unusual forms of investments
"' Payment of money by investor
$' 9xpectation of profit
3' *rom common enterprise
A' Profit made solely through efforts of others
4ther relevant points!
i) The Chara$ter o! the +u#ers
he buyers2 inability to protect themselves was an important element' he court stressed that most of the buyers
were out)of)state residents who knew nothing about the citrus business and these buyers were in need of the ,full
and fair disclosure- that would be furnished by compliance with the 0ecurities .ct'
ii) ,egree o! Ris-
Gowey argued that no security existed because the investment was not speculative or promotional in character (i'e'
it was not high risk) but the court held that only some risk is needed to create an investment contract'
iii) rrelevan$e o! the E'isten$e o! Value ndependent o! the Su$$ess o! the Enterprise
Gowey argued that the land sales were not securities because the land had value independent of the success of the
enterprise as a whole but the court held that substance triumphs over form, and an interest may be a security even
though it has value independent of the enterprise as a whole'
Analysis: he test was met! the buyers were ,attracted solely by the prospects of a return on their investment- (interested in
simply profits) b/c they did not have access to the land except when permitted and they had no desire to occupy or develop
it themselves' here was an expectation of profit & the investors provide the capital and share in the earnings' here was a
common enterprise in that they all bought fractions of an orange grove managed, controlled and operated by third parties'
he sale of an investment contract was involved in the transaction, triggering the registration re5uirement of the 0ecurities
.ct of "833'
Conclusion: he combination of the land sales contract, the deed giving title to land, and the service contract was a
security'
d) he Gawaii est
4ther commonly used test of what interests constitute investment contracts'
.a%aii v. .a%aii Mar"et Center /nc. (0upreme #ourt of Gawaii)
Facts: he Gawaii :arket #enter (G:#) operated a retail store' o raise money to carry on business, G:# recruited
founder members, who were either founder distributors or founder supervisors' . distributor purchased JB> worth of
merchandise for J3$>' . supervisor purchased J"A> worth of merchandise for JM$>' 1oth distributors and supervisors
received purchase authori7ation cards that were distributed to potential shoppers' 4nly those with such cards were allowed
to purchase merchandise at the store' *ounder members could make money in two ways! (") if people to whom they had
distributed purchase authori7ation cards bought merchandise, the members received a commission and ($) by signing up
others as founder members' G:# argued that the Gowey test re5uired purchasers to be ,led to expect profits solely from
the efforts of the promoter or a third party-' Gowever, founder members could generate profits through their own efforts,
and therefore did not rely solely on the efforts of a third party'
Issue: Chether the interests were investment S and therefore securities'
Ratio: <ifferent four part test (risk capital test & put at risk and rely on others to minimi7e and remove that risk) for the
existence of an investment S!
Payment of funds by investor & an offeree furnishes initial value to an offeror
6isk of loss & a portion of this initial value is sub%ected to the risks of the enterprise (flipside of expectation of profits
and broader) & people here at risk b/c depending on competence of others so wouldnNt lose money therefore narrows
risk element (results)oriented process) & if security, there is redress for investor
Investment not sub%ect to investorNs control & the offeree does not receive the right to exercise practical and actual
control over the managerial decisions of the enterprise & even though some effort was still shared b/w them and owners
(watering down & even a partial effort)
9xpectation of a benefit when invest money & the furnishing of the initial value is induced by the offeror2s promises or
representations which give rise to a reasonable understanding that a valuable benefit of some kind, over and above the
initial value, will accrue to the offeree as a result of the operation of the enterprise
Analysis: he Gawaii test makes states that not all of the ,initial value- needs to be sub%ected to the risks of the enterprise
(but still consistent with Gowey)' It also sidesteps the problem created by Gowey2s re5uirement that the purchaser be led to
expect profits ,solely- from the efforts of a third party, by re5uiring only that the purchaser have no ,practical and actual
control- over management decisions (focuses on the policy of affording broad protection to investors even if they only
participate to a limited degree in the operation of the business)'
Conclusion: he interests were securities'
e) #anadian #ases
0acific Coast Coin E$chan'e of Canada v. Ontario )Securities Commission*
Facts: Pacific #oast #oin 9xchange (P#) sold silver on margin (i'e', on credit & put up O and P# would give loan for rest)'
P# did not intend to actually deliver the silver (they kept less than was necessary to make delivery to all buyers)' I'e' P#
sold a contractual right to receive silver' he buyer ac5uired the option to demand actual delivery of the silver on giving P#
forty)eight hours2 notice or the buyer could demand a notional sale of her silver (most customers did this), in which case the
buyer would receive (or pay) the difference between the price of silver when the contract was entered into and the price of
silver when the contract was li5uidated' Chen a contract was closed out, P# would collect interest on the loaned portion of
the purchase price, commissions, and storage charges' P# was exposed to risk b/c if the price of silver rose, they would be
liable to pay any buyer who chose to li5uidate the contract the difference between the contract price and the price of silver
at the time of li5uidation, or to enter the market, purchase the re5uired 5uantity of silver, and deliver it to the buyer' If the
price of silver rose dramatically, P# might be unable to meet all of its buyers2 claims and, therefore, become insolvent'
herefore P# purchased silver futures (in a futures contract, the buyer agrees to pay a fixed price for a stated 5uantity of a
good for delivery on a stated date in the future), which protected P# against a rise in the price of silver' If the price of silver
rose, P# would still be able to take delivery of the specified 5uantity of silver at the fixed futures contract price' . futures
contract may typically be resold to a third party, who then assumes the obligation to pay the price and receive the goods on
the stated date' hus, if the market price of silver rose, P# could at any time li5uidate the futures contract by selling it at a
premium to a third party (the premium reflecting the rise in the price of silver)' P#2s exposure to the risk of changes in silver
prices was therefore hedged (i'e' they held offsetting risks) & if the price of silver rose, P# would lose money on the
contracts it had made to sell silver to its purchasers, but it would make money on its futures contracts' P# distributed
promotional brochures that emphasi7ed the value of silver not only as an investment, but also as a protection against
inflation, which they predicted along with the possible return of a ma%or depression' P# said were not obligated to
repurchase but ,never failed to- resell in the past (S)' P# did not compile and distribute a prospectus to its buyers' .s a
conse5uence, the 4( regulators issued a cease trade order, banning further trading activity by P# until such time as a
prospectus was filed and distributed' P# argued that the contracts it sold did not constitute securities within the meaning of
the 4( legislation (and therefore the prospectus re5uirement did not apply because it attaches only to interests that are
securities)'
Issue: Chether the interests sold by P# constituted investment contracts (and therefore securities)'
Ratio: he 0## purported to adopt the Gowey test but applying the Gowey test literally would likely have resulted in the
finding that there was no security' he buyers were not led to expect profits solely from the efforts of P# b/c the price of
silver in international markets, over which P# had no control, was the key factor in the buyer2s return' herefore the 0##
accepted a modification of the word solely in the Gowey test, stating that to give a strict interpretation to the word solely
would not serve the purpose of the legislation' ~Solely: whether the efforts made by those other than the investor are
the undeniably significant ones, those essential managerial efforts which affect the failure or success of the
enterprise. he 0## also refined the meaning of ,common enterprise-! an enterprise in which the fortunes of the investor
are interwoven with and dependent upon the efforts and success of those seeking the investment or of third parties; the
commonality necessary for an investment contract is that between the investor and the promoter (there is no need for the
enterprise to be common to the investors between themselves)'
he 0## made a number of other rulings re what constitutes an investment contract!
In determining whether an interest is a security, D'0' cases on point are relevant because the policy behind the
legislation in the two countries is exactly the same
he definitions in the 40. are not mutually exclusive, but rather are catchalls to be given their widest meaning
0ecurities legislation is remedial legislation to be construed broadly in the context of the economic realities to
which it is addressed (purposive approach)! if the particular set of legal rights and obligations under review was
found to be a security, the investing public would be protected through full, true and plain disclosure of all material
facts in a prospectus' Investors would also en%oy statutory rights to claim for rescission or damages if the
prospectus contained a misrepresentation, and the offering could be made only through persons duly registered as
dealers or salespersons under the relevant statute
0ubstance, not form, governs the interpretation of what is a security
he policy of securities legislation is full and fair disclosure wrt those instruments commonly known as securities
Analysis: here was investment of money here' here was also a common relationship/interest in deriving profit in coins &
they were investing collectively in a single enterprise (low test)! ,such an enterprise exists when it is undertaken for the
benefit of the supplier of capital (the investor) and of those who solicit the capital (the promoter)' In this relationship, the
investor2s role is limited to the advancement of money, the managerial control over the success of the enterprise being that
of the promoter; therein lies the community-' here was also riskiness and control b/c investors were dependant on P# to
make any money in $ ways (") expertise in administering funds & must deal with funds appropriately in order to be able to
pay out in end E broad dependence b/c always one is always dependant in S for the S to be performed and ($) deliver the
silver and act proper in silver market generally so there is something in the end therefore maintenance of solvency and
expertise in silver market & they need to decide what futures Ss it needs to enter into which is risky and there is dependence
to maintain control i'e' the court held that the essential managerial efforts were made by P#! the result of the investment was
dependent upon the 5uality of the expertise brought to the administration of the funds obtained by appellant from its
customers i'e' if P# did not properly invest the pooled deposit, the purchaser would obtain no return on his investment
regardless of the prevailing value of silver (the key to the success of the venture is the efforts of the promoter alone)' 1ut
P# werenNt setting price of silver (no greater than retail stores) and nowhere in their literature to induce to buy coins do they
say they will advise/give expertise to investors (donNt suggest they are acting in trustee/fiduciary)' 1ut individual assumed
and relied on fact that P# were experts (element of reasonableness)' P# said never promised expertise but bragged about
their activities in silver market in the past and made clear to investors that no other exchange would purchase/make good
(no alternative if didnNt sell back to P# & dependency) therefore selling them a commodity (P# argues)'
Conclusion: he Gowey test applied and the interests were investment contracts (the Gawaii risk capital test would lead to
the same result)'
Commentary:
Dissent (Chief 1ustice Laskin) & the interests were not securities' he source of the buyers2 risk was not the 5uality of
the management brought to the pro%ect by P#, but the market risk inherent in the price of silver' he only difference
between buying from P# and buying silver in the spot market was a concern over P#2s solvency' ?askin #'K' would
have held that a concern over the solvency of the enterprise is not enough to render the interests securities' .ll that
distinguished the scheme in 5uestion from a purchase of silver in the spot market was solvency risk' .nd, if solvency
risk is enough to render an interest a security, it is difficult to know when to stop finding that particular interests are
securities (every commercial S to buy and sell involves a dependence that the other side will be solvent and able to
fulfill their side)' he degree of risk in these interests that would be deemed securities would likely be small, and
re5uiring a prospectus/exemption would be too costly relative to the benefit to be obtained'
In the Pacific #oast case, the sums of money involved and the risk taken by the purchasers were highly significant and
therefore there is a greater need for the application of the securities legislation' .lso, P# attempted to induce investors
to part with their money by making exaggerated and inflammatory, if not simply irresponsible, claims about the future
of the financial markets'
Policy underlying the legislation: investor protection' he more a court or administrator perceives that capital
contributors need protection, the more likely it is to find the interest to be a security' he amount of money
involved, the degree of risk taken, and the likelihood that contributors of capital will be taken advantage of by
promoters of the scheme all play a role in this regard' he net benefit to be achieved by applying the regulatory
apparatus (i'e', the benefit less the cost) will also likely be a factor' Chile a court will rarely, if ever, make explicit
reference to all, or indeed any, of these factors, it is beyond doubt that they will operate sub rosa, whether
consciously or unconsciously' Predicting whether an interest will be considered a security thus involves two levels
of analysis' 4ne is an avowedly legal analysis, which will be played out in the context of the tests that the courts
have enunciated for the meaning of the term security' he other analysis takes place within the legal subtext, which
includes those things that influence a %udge to make a particular finding, but which are not explicitly referred to in
the %udgment'
o ,. last word' .t the invitation of the parties, I have examined the facts in the sole light of the Gowey and
Gawaii tests' ?ike the <ivisional #ourt, however, I would be inclined to take a broader approach' It is clearly
legislative policy to replace the harshness of caveat emptor in security related transactions and #ourts should
seek to attain that goal even if tests carefully formulated in prior cases prove ineffective and must continually
be broadened in scope' It is the policy and not the subse5uently formulated %udicial test that is decisive-
#e Sunfour Estates 1.2.
Facts: 0unfour 9states (';' (0unfour) was a corporation that owned land in .ruba, a small island off the coast of
;ene7uela' ?ocal authorities approved the land for development' 0unfour wanted to sell undivided, co)tenancy interests in
the land to various purchasers who would get the benefit of the planning approvals' he interests were to be sold in units of
J">,>>>' he plan re5uired each purchaser to sign a co)tenancy agreement, pursuant to which the owners were collectively
entitled to select a management committee' he management committee, in turn, would select a manager (possibly 0unfour)
to develop the property' Dnder the co)tenancy agreement, the owners were allowed to sell their interests, but only with the
permission of a ma%ority of the other owners' 0unfour encountered difficulty in selling these interests to residents of 4ntario
because there was no prospectus exemption in the 40. that allowed 0unfour to sell the interests free of the prospectus
re5uirement' 0unfour applied to the 40# for a discretionary ruling (s' BA) to permit the interests to be sold without
compiling, filing, and distributing a prospectus' In negotiations with 40# staff prior to the hearing, 0unfour agreed to make
certain concessions to secure the support of staff at the hearing' 0unfour agreed to change the co)tenancy agreement so that
the property would be held only for resale' In the alternative, the property could be developed, but only with the approval of
all the owners' *urther, 0unfour agreed that units would be sold for J$>,>>> each'
Issue: Chether the interests were securities'
Ratio: he 40# adopted the definition of investment contract reflected in the D'0' cases' . sale of real estate may
constitute a sale of a security if the buyer depends heavily on the +efforts and financial stability of the promoter'+ Gowever,
the changes in the co)tenancy agreement gave the buyers some measure of control over the pro%ect' hus, the #ommission
was persuaded that any risk inherent in the purchase of the units arose not from the efforts and stability of the promoter, but
rather ,the success of the venture will depend on real estate values in .ruba, and nobody has much control over that ''' Qhe
buyersR are 5uite free to consult their own real estate agents in .ruba or otherwise if they want information or help in
determining whether or when they should sell-'
Analysis:
0unfour could easily have found that the interests were securities' he co)tenancy agreement contained +shotgun+
clauses +which give an owner the right, on notice, to purchase another owner2s interest or alternatively to be bought out
by that owner at the same price'+ .n owner who refused to agree to develop the property would, almost certainly, be
effectively forced out by an offer (or offers) from other owners under the shotgun clause' Perhaps more important, as a
matter of business, the lure of the venture for prospective buyers lay not in holding undeveloped land for capital
appreciation, but in developing the property for a profit' he normal expectation would be that all buyers would in fact
agree to develop the property' 4nce this is done, each buyer is part of a collective enterprise over which he or she
exercises little practical control, save to have his or her vote counted in determining the identity of the management
committee' In net, one would have thought that if the risk assumed by the buyers in Pacific #oast was sufficient to
render the interest a security, then so the risk in 0unfour ought to have made the interest a security' In each case, risk
external to the enterprise was a significant component of the risk facing the buyers' In fact, in 0unfour, the internal
component of risk appears to have been at least as great as that in Pacific #oast'
.lso of interest in 0unfour is the fact that both the 40# staff and the commissioners who decided the case were more
willing to find that the interest was not a security when the minimum investment was raised to J$>,>>>' here is little,
if anything, in the %urisprudence that makes the minimum investment a relevant factor; however, it is easy to see why it
is relevant having regard to the legal subtext' he extent to which investors are thought to be in need of the protection
of the 40. is an important factor in the determination of whether a particular interest is a security' he 40# staff2s
thinking was undoubtedly that raising the minimum investment would likely prevent less affluent buyers from
investing, leaving only relatively well)heeled buyers with a comparatively greater ability to protect their own interests'
Conclusion: he interests were not securities and therefore the scheme re5uired no exemption from the prospectus
re5uirement'
Commentary:
Dntil very recent changes to the private placement rules in 4ntario, one of the most important exemptions from the
prospectus re5uirement available under the 40. was found in clause B$(")(d)' his exemption permitted a distribution
of securities without a prospectus where each purchaser of the securities invested at least J"H>,>>>' he assumption
underlying this exemption was that those who could afford to purchase J"H>,>>> worth of securities would have the
resources to protect their own interests' .lthough this logic has been 5uestioned, it functioned for years as the basis for
this commonly relied)upon prospectus exemption'
his demonstrates the close kinship between the prospectus exemptions and the determination of what constitutes a
security' . finding that a particular interest is not a security accomplishes the same result (so far as the prospectus
re5uirement is concerned) as an exemption from the prospectus re5uirement' . regulator who does not think that it is
necessary to apply the prospectus re5uirement might either grant a prospectus exemption or find that an interest is not a
security' In strict legal theory, the considerations that are used to determine whether an exemption ought to be granted
are different from those used to determine whether something is a security' In practice, however, there is inevitably a
considerable amount of overlap'
&eer v. To%n'ate +td. (4( #rt /en' <iv', "88H)
Facts: he plaintiffs in 1eer argued, among other things, that certain agreements to purchase luxury condominiums (entered
into at the peak of the residential real estate market in early "8M8) were securities distributed by the developer in
contravention of the 40. and were, therefore, void'
Ratio: he court re%ected the characteri7ation of these contracts as securities, noting that the purchasers were buying a
+tangible asset,+ not a security' he developer2s role in the pro%ect was not, in the court2s view, +the kind of third party effort
envisaged by Gowey,+ but rather +the inherent value of the units is far more dependent upon market trends and prevailing
economic conditions over which the promoter has no control'+
10) Reprise
he 40. contains a long and comprehensive definition of security & the broadest parts of this definition, such as
+interests in property,+ +profit)sharing agreements,+ and +investment contracts,+ are wide enough to embrace virtually
any scheme in which one person entrusts money to another'
4nly the common sense of the securities regulators and the courts draws a boundary between those instruments that
will be characteri7ed as securities and those that will not, which is ultimately guided by the fundamental underlying
policy of the 40. ) investor protection (if an ad%udicator is of the view that a particular scheme re5uires the protection
of the legislation, it is very likely that they will characteri7e the interest as a security' If that protection is not thought to
be re5uired, the interest is not likely to be characteri7ed as a security)' 1ut in some situations the interest will be
characteri7ed as a security even though a buyer may not need the protection of the 40.' 9'g' common shares are
securities under parts (a) and (e) of the 40. definition (and maybe others)' herefore no court or regulator would fail
to characteri7e a common share interest as a security, even if the buyers were perfectly capable of protecting their own
interests'
Therefore an interest is a security if it clearly falls under one of the specific enumerations in the definition. If
it does not, it might, nevertheless, be characterized as a security under one of the broad, open-ended parts of
the definition, and policy considerations will govern.
0ome instruments that are securities are exempted from the coverage of the securities legislation because they are
covered under other legislative schemes (e'g' a bank account is likely a security, but is exempted from the application
of securities laws because bank deposits are protected by the comprehensive scheme of regulation contained in the
1ank .ct)
11) What if There Is No "Security:" Does the OSA Apply?
he application of various provisions of the 40. turn on whether there is a security' In our view, this is entirely
appropriate' he 40. was meant to deal with securities, not with consumer protection'
0ecurities regulation covers five ma%or areas! primary market offerings, secondary market trading, activities of market
professionals, insider trading, and take)over bids' It is implicit that a condition precedent to the operation of the 40. is
the presence of a security'
his is clearly true in relation to primary market offerings (e'g' 0unfour)' If what is being offered for sale is not a
security, the prospectus re5uirement has no application'
he presence of a security is also a condition precedent for the regulation of secondary trading' 9'g' only reporting
issuers are sub%ect to the continuous disclosure re5uirements of the 40. and reporting issuers are those companies
that have issued securities to the public'
he class of persons who must register under the 40. is limited to those who are engaged in trading (s' $H(")),
which involves the trading of a security'
he application of the take)over bid (s' M8(")) and insider)trading provisions (ss' BI(", $), "3A) depends on the
presence of a security'
he securities regulators also have %urisdiction even in cases that do not involve a security & arises from one of eight
+public interest+ powers & empowers the 40# to make a variety of orders +if in its opinion it is in the public interest to
make the order or orders'+ (s' "$B("))
. case in which one of the public interest powers was applied despite the absence of a security is
#e Albino
Facts: 6io .lgom set up an incentive plan for its #94, .lbino, under which .lbino was notionally issued a certain number
of shares (units of phantom stock) of 6.' .lbino held an option to designate a date upon which the actual price of the
company2s stock would be compared to the price of the stock when the phantom stock units were issued' he difference was
to be awarded to .lbino in cash' .lbino allegedly possessed confidential information that would, when made public, impact
negatively on the company2s stock price (material change to the detriment of 6.)' .lbino delayed public disclosure of this
information until after he was able to exercise his phantom stock options, allegedly in order to enhance the value of the
phantom stock units' 40# staff asked the 40# to find that .lbino had engaged in insider trading'
Issue: Chether ,phantom stock units- constitute securities (not buying/selling security, %ust getting a price difference)'
Ratio:
#ommissioner 1lain concluded that the insider)trading provisions had no application because the phantom stock units
did not constitute securities'
#ommissioner 0alter would have found that the units were securities because they were derivatives'
#ommissioner Gansen declined to decide the issue of whether the phantom stock units were securities, although her
reasons suggest that had she decided the issue, she would have sided with #ommissioner 1lain'
hus, only one of three commissioners was prepared to find that the interest in 5uestion was a security'
Gansen and 0alter took the view that the 40# had the %urisdiction to make an order under s' "$B denying .lbino
trading exemptions in 4ntario (denies the benefit of the registration (s' 3A), prospectus (ss' B", B$) and take)over bid (s'
8$) exemptions)' hey held that the jurisdictional test for the issuance of a public interest order is not whether
there is a security, but whether the transaction exhibits a significant connection to the capital markets of
Ontario.
Analysis: Chether the phantom stocks constituted securities!
Blain:
Phantom stock plans, such as the Incentive Plan, cannot be said to be a document, instrument or writing commonly
known as a security
hey are not documents constituting evidence of title to or interest in the capital, assets, property, profits, earnings or
royalties of any person or company b/c under the Incentive Plan, while the amount to be paid by 6io .lgom is not
known until encashment, it does nevertheless represent a debt in the sense of being an obligation of 6io .lgom to pay
an amount ascertainable upon encashment' he fact that the amount to be paid is determined from the market price does
not provide, a sufficient nexus with the capital market to say that the situation is different from the other type of
compensation arrangement referred to above' his is simply the yard stick to determine 6io .lgom2s money obligation
under the Incentive Plan and is basically no percentage of profits or sales
he Incentive Plan is not a security under the general section itself (the non)exhaustive +security includes+) b/c ,if the
?egislature, in an area as managed and controlled as security trading, has deliberately chosen not to define a term
which, admittedly, embraces different kinds of transactions, of which some are innocent, and prefers to rest on
generality, I see no reason of policy why #ourts should be oversolicitous in resolving doubt in enlargement of the scope
of the statutory control- ((a$i!i$ Coast)'
Gowever, 1lain did hold that .lbinoNs conduct was reprehensible! ,the conduct of .lbino cannot be condoned' It seems
clearTthat he manipulated the time of the disclosureTto his own advantage so that this news was not made public
until the window had opened for encashment of award units under the Incentive Plan-
Salter: /iven the clear and close relationship between 6io .lgom common shares and 6io .lgom award units, the latter is
properly seen as a derivative of the former, should be classified as a security and so regulated'
Conclusion: he phantom stock units did not constitute securities'
Commentary: 1road view of 40#Ns %urisdiction but supported & the regulators and courts take the view that the public
interest powers may be invoked in the absence of a breach of any feature of the 40., rules, regulations, policy statements,
notices, documents, or expressed views of the 40#'
3uebec )Sa Ma4este du Chef* v. Ontario Securities Commission (4( #.)
Ratio: #onstitutional issue of when the public interest powers may be invoked & not even a transactional nexus to 4ntario is
re5uired to trigger 4ntario2s constitutional %urisdiction' .ll that is re5uired to invoke the public interest powers, as a matter
of constitutional law, is that the transaction have an effect on 4ntario shareholders sufficient to pre%udice the public interest'
his reasoning was subse5uently endorsed by the 0upreme #ourt of #anada in a subse5uent case arising from the same set
of facts'
.lthough the correctness of this decision may be 5uestioned, it nonetheless represents the current state of the law'
#ombining .lbino and .sbestos, it appears that the public interest sanctions in the OSA may be invoked even
where there is no security, and even where the transaction in question takes place outside the jurisdiction, so
long as the transaction has a prejudicial impact on Ontario security holders.
12) Derivative Securities
<erivative securities usually consist of some combination of options and futures contracts'
.n option contract is a contract that gives the holder a right to buy or to sell an underlying asset or interest that
typically can be exercised either on or before a certain future date'
9'g' a +put+ option allows the holder to insist that another person purchase the optioned securities from the holder
at a certain price (the +strike+ or +exercise+ price) on or before a certain date'
.nother commonly used option is a +right,+ which gives the holder the option of purchasing the securities of a
particular corporation (directly from that corporation) on or before a certain date'
. futures contract obligates one party to the contract to sell and the other party to buy a stated 5uantity of a good on a
future date for a stated price'
he name +derivative+ security originates from the fact that the value of the instrument is derivative of the value of
something else, which is generally called the +underlying interest'+
9'g' in the case of a silver futures contract, the underlying interest is silver' he value of the futures contract at any
point in time depends on the price of silver when the time comes for delivery' hose who trade in silver futures
contracts make forecasts of the future price of silver and ad%ust what they are willing to pay for the futures contract
accordingly'
0ome derivative instruments are clearly securities within the meaning of the securities legislation & put options and
rights are both instruments commonly known as securities (s' "(")(a)); a right also confers an option to purchase other
securities, which again 5ualifies it as a security under the 40. (s' "(")(d)); a call option is also clearly a security (s'
"(")(a, d))'
Put and call options constitute +exchange traded+ derivative securities & typically traded over the #anadian <erivatives
#learing #orporation and are sub%ect to regulation by both the securities regulators (ss' BI, "3A) and the exchange over
which they trade (no controversy b/c clearly securities and those who buy and sell them are unsophisticated retail
traders)
#ontroversy & +over)the)counter+ (4#) derivative securities & privately negotiated contracts that are typically entered
into between sophisticated parties such as financial institutions (banks, trust companies, insurance companies, pension
funds, and mutual funds), securities dealers, large corporations, utilities, and governments (although for the sake of
convenience, the International 0waps and <erivatives .ssociation (I0<.) has formulated standardi7ed documentation
for trades in 4# derivatives, the terms of 4# derivative transactions remain sub%ect to individual negotiation)'
<erivative contracts are most fre5uently entered into to hedge risk'
9'g' a corporation situated in #anada, but selling most of its product in the D'0', is sub%ect to exchange rate risk' If
all its sales contracts re5uire payment in D'0' dollars, the value of these contracts falls if the D'0' dollar falls
relative to the #anadian dollar' he company may wish to hedge this risk by buying derivative products whose
underlying interest is the value of the #anadian dollar vis)a)vis the D'0' dollar, so that if the value of the D'0'
dollar falls relative to the #anadian dollar, the value of the derivatives contract rises'
. swap contract is the most common form of 4# derivative (but 5uestions about whether such interests constitute
securities) & e'g' (in practice, swaps are commonly entered into with financial intermediaries, rather than between two
end)users) #ompany . has outstanding debt obligations with fixed interest payments' #ompany 1 has outstanding debt
obligations with interest payments that float with the prime rate' 9ach contractually +swaps+ its interest obligation with
the other' Dnder this arrangement, each company will continue to pay the interest due on its own debt obligations;
however, each is obliged to pay to the other any difference between its own interest obligation and the other2s'
9'g' company . and company 1 are both obliged to pay their creditors J",>>> in interest per period when they
enter the swap' Interest rates then fall such that in the next period, company 1 must pay its creditors only JH>> in
interest while company ., with fixed interest payments, remains obliged to pay J",>>>' #ompany . pays its own
creditors the J",>>> that it owes them, but is contractually entitled to collect JH>> from company 1' his is
because, in the swap, company . agreed that it would notionally pay company 12s creditors, and company 1
agreed that it would notionally pay company .2s creditors' In each period, a +netting+ or settling)up occurs between
the two companies that puts each company in the same position it would have been in had the two companies
actually paid the interest on each other2s debt'
Is there a security in this transactionF Chen the definition was formulated, few derivatives existed, and many
derivatives, such as swaps, were unknown'
Policy of the statute ) the protection of investors & often impossible to determine who is the vendor of the
+security,+ and who is the +investor,+ in order to determine who needs the protection of the 40.' .s noted above,
the parties to a swap arrangement are typically financial institutions, corporations, and governments' .ll of these
are sophisticated parties that generally do not re5uire the protections furnished by securities legislation'
40# proposals for regulating 4# derivatives & seek to regulate transactions in derivatives on the basis of whether the
parties to such transactions are in fact sophisticated traders capable of protecting their own interests or whether parties
are in need of protection (e'g' where both parties to the transaction are +5ualified parties,+ neither the prospectus,
registration re5uirements, nor any other part of the legislation apply under the draft proposal) & reflect a purposive
approach to securities regulation (begin with the purpose of securities regulation ) the protection of investors ) and
attempt to construct a regulatory structure that serves that overriding purpose)' 1ut the proposal does not clearly
resolve the issue of whether derivative instruments, such as swaps, are securities' he introduction to the proposal notes
that amendments made to the 40. in "88A (which gave the 40# the power to make rules) conferred upon the 40# the
power to make rules! 6egulating or varying this .ct in respect of derivatives, including,
i' providing exemptions from any re5uirement of this .ct
ii' prescribing disclosure re5uirements and re5uiring or prohibiting the use of particular forms or types of offering
documents or other documents
iii' prescribing re5uirements that apply to mutual funds, non)redeemable investment funds, commodity pools or
other issuers (s' "AI(")3H)
he 40#Ns proposal suggests! ,he passing of Qthe above provisionR permits the #ommission to implement a
regulatory regime for 4# derivatives that it considers appropriate, without regard for artificial distinctions as to
whether particular derivatives transactions constitute trades in securities-
he provision in 5uestion is drafted very broadly and appears to give the 40# carte blanche in regulating instruments
that may be regarded +derivatives'+ he drafting is defective in at least two ways, however' *irst, the 40. does not
define +derivatives'+ It is left to the 40# to determine what it shall regulate as derivative instruments' his cedes an
overly broad discretion to the 40#' 0econd, and perhaps more serious, as noted earlier in this chapter, all the key
provisions in the legislation apply only to instruments that are +securities'+ hus, the application of existing securities
law re5uirements to derivatives is left in doubt' /iven the ever)increasing importance of derivative transactions to the
economy, this uncertainty should be clarified by further legislative amendment'
WHAT IS A TRADE?
0ecurities law is primarily transaction based i'e' it focuses on specific commercial transactions (the most fundamental
being a ,trade- in sec
Section 1(1) ~trade:
(a) any sale or disposition of a sec for valuable consideration, whether the terms of payment be on margin,
installment or otherwise, but does not include a purchase of a sec or, except as provided in clause (d), a transfer,
pledge or encumbrance of sec for the purpose of giving collateral for a debt made in good faith,
(b) any participation as a trader in any transaction in a sec through the facilities of any stock exchange or 5uotation
and trade reporting system,
(c) any receipt by a registrant of an order to buy or sell a sec,
(d) any transfer, pledge or encumbrancing of sec of an issuer from the holdings of any person or company or
combination of persons or companies described in clause (c) of the definition of ,distribution- for the purpose of
giving collateral for a debt made in good faith, and
(e) any act, advertisement, solicitation, conduct or negotiation directly or indirectly in furtherance of any of the
foregoing
(a) ~Any Sale or Disposition for Valuable Consideration
<efinition is not exhaustive (,includes-)
Indicates that the 40. regulates sellers of sec, not purchasers
9xempts gifts or other gratuitous dispositions & this is b/c of the investor protection rationale of the legislation (if the
sec are given rather than sold, there is little or no danger that the donor will take advantage of the donee)
,;aluable consideration- can take many forms therefore an issue or transfer of sec could constitute a trade even in
cases where the recipient does not appear to be paying for the sec at the time of the transaction
(a and d) Definition of Trade Excludes Most Share Pledges
0ec such as shares are assets that can be used by owners as collateral for debt obligations & a common method of
granting a security interest in a share or other corporate sec is a pledge
. pledge involves the transfer of the sec to the lender and when the loan is repaid the sec are returned to the borrower'
If the loan is not repaid, the lender is entitled to reali7e on its security
he 40. did not want to restrict the ability of sec holders to use the e5uity in their sec as loan collateral therefore
pledges are excluded from the definition of a trade (s' "(") ,trade- (a))
$ exceptions!
"' he debt owed by the borrower to the lender must have been incurred ,in good faith- i'e' people cannot attempt
to avoid the application of the 40. by disguising a sale transaction as a secured)lending transaction
$' . pledge constitutes a trade if the grantor is a control person (s' "(") ,trade- (d))
o ,#ontrol person- is not defined in the .ct
o ,#ontrol person distribution- (6ule "A)H>")
o ,#ontrol person- (s' "(") ,distribution- (c))
o /enerally speaking & holder of a significant block of voting shares of an issuer
he 40. treats control persons as though they were the issuers of the sec b/c it is assumed generally
that the people who control corporations or who have the power to materially influence control have
special access to corporate information that is not available to smaller, public investors
40. is not intended to make it impossible or unduly burdensome for control persons to pledge or
otherwise encumber their sec but they are kept within the definition of trade to ensure that they are
sub%ect to the .ctNs rules governing the use of material non)disclosed information
(b and c) Participation as a Trader: Receipt of an Order by a Registrant
rading includes more than simply selling sec!
(b) any participation as a trader in any transaction in a sec through the facilities of any stock exchange or 5uotation
and trade reporting system
(c) any receipt by a registrant of an order to buy or sell a sec
,6egistrant- & sec market professional who must register with the sec regulators before they may ply their trade
(generally only play a facilitative role in consummating a purchase or sale of sec)
. registrantNs activities are defined as trades b/c of the policy rationale of the legislation & in order to ade5uately protect
buyers of sec, it is insufficient to regulate only the actual sellers & market professionals who advise sellers participate in
negotiating and structuring the terms of the sale and the activities of professional traders can have a critical impact on
the functioning of the capital markets & protection of buyers, and of the markets generally, re5uires that market
professionals be regulated
(e) Acts in Furtherance of a Trade
:ost important part of the definition & (e) any act, advertisement, solicitation, conduct or negotiation directly or
indirectly in furtherance of any of the other activities constituting a trade
0oliciting a purchase prior to an actual sale is a trade (ss' $H(")(c), IH($), IM) e'g' as soon as a prospective seller phones
another person with a view to selling sec, the prospective seller engages in trading, whether or not the phone call results
in a sale
Policy rationale of the legislation & the legislation is not merely reactive but it also allows the regulators to step in to
prevent harm before it occurs
Trades That Are Not Distributions
he regulation of primary market activity attaches only to a trade that constitutes a distribution of sec but a trade that is
not a distribution is still sub%ect to regulation & any person engaged in trading must register with the sec regulators,
either as a dealer or an advisor unless an exemption from registration applies
6egistration re5uirements ensure that professionals engaged in sec market activities attain minimum standards of
integrity, competence, and financial soundness
WHAT IS A DISTRIBUTION?
Section 1(1) ~distribution:
(a) a trade in sec of an issuer that have not been previously issued,
(b) a trade by or on behalf of an issuer in previously issued sec of that issuer that have been redeemed or purchased
by or donated to that issuer,
(c) a trade in previously issued sec of an issuer from the holdings of any person, company or combination of
persons or companies holding a sufficient number of any sec of that issuer to affect materially the control of that
issuer, but any holding of any person, company or combination of persons or companies holding more than $>O of
the outstanding voting sec of an issuer shall, in the absence of evidence to the contrary, be deemed to affect
materially the control of that issuer,
(d) a trade, by or on behalf of an underwriter in sec which were ac5uired by that underwriter, acting as underwriter,
prior to the "H
th
day of 0eptember, "8B8 if those sec continued on that date to be owned by or for that underwriter,
so acting,
(e) a trade by or on behalf of an underwriter in sec which were ac5uired by that underwriter, acting as underwriter,
within "M months after the "H
th
day of 0eptember, "8B8 if the trade took place during that "M months, and
(f) any trade that is a distribution under the regulations,
and on and after the "H
th
day of :arch "8M", includes a distribution as referred to in ss' B$(A,H,I,B) and also
includes any transaction or series of transactions involving a purchase and sale or a repurchase and resale in the
course of or incidental to a distribution
Policy of 40. underlies the meaning of distribution & protecting members of the investing public by ensuring that
buyers receive full disclosure of all material facts relating to a given sec before purchasing that sec
<istributions are trades in sec in which the information asymmetry b/w buyer and seller is likely to be at its greatest,
with buyers having the greatest risk of being taken advantage of
If a trade is a distribution, the issuer is re5uired to assemble, publicly file and distribute to all buyers a prospectus (s'
H3)
. prospectus is highly detailed and expensive to prepare and its purpose is to ensure that those who are asked to
contribute capital to the corporation have sufficient information with which to make an informed investment
decision
~Distribution Includes Trades Effected in 3 Circumstances:
1. (a and b) Trades by Issuers
.ny sale by an issuer is a distribution to which the prospectus re5uirement applies (ss' "("), H3) b/c issuers almost
always have better information about the true value of the sec they sell than do the buyers
2. (c) Trades by Control Persons
.nyone who holds a sufficient number of sec to ,affect materially the control of that issuer- (i'e' a control person) is
assumed potentially to have privileged access to information concerning the issuer of the sec
herefore a sale by a control person is deemed to be a distribution to which the prospectus re5uirement attaches
Cho is in a position to materially affect the control of the issuerF
<oes not re5uire legal/de %ure control & when a person or group of persons acting together hold or exercise voting
control over shares entitled to elect a ma%ority of directors (i'e' H>'"O of shares of a corporation)
<oes not re5uire practical/de facto control & may arise with holdings of less than H>O of the shares b/c an ordinary
resolution is one that is passed by the ma%ority of the shareholders who actually vote rather than all shareholders
(#1#. s' $(") ,ordinary resolution-) & not all shareholders exercise their right to vote and therefore a
shareholder/group of shareholders can be confident of securing the passage of an ordinary resolution (and therefore
elect all the directors) by holding shares with only "H)$>O of the total votes (the number of shares re5uired for any
single blockholder to attain practical control will therefore depend on how many shareholders typically vote as
well as whether there are any other shareholders holding large share positions who might use their votes in
opposition to that blockholder)
4ne might materially affect the control of an issuer without being able to exercise either legal or practical control &
a blockholder with HO of the common shares but lacking legal or practical control may have sufficient power to
exert influence over management on important issues
here are exemptions from the prospectus re5uirement for certain control)block distributions
3. Sales of Restricted Sec Held by Exempt Purchasers
Preventing a ~backdoor underwriting
6egulating primary market issuances of sec re5uires protection against the danger of a backdoor underwriting
through the use of a prospectus exemption
The ~closed system
In a closed system any trade in sec that 5ualifies as a distribution re5uires a prospectus
he system is closed b/c there are a limited number of ways of escaping the prospectus re5uirement
he 40. and related rules prescribe specific exemptions from the prospectus re5uirement and issuances of sec
under these exemptions are ,exempt market transactions- and the buyers of these sec are ,exempt purchasers-
(exempt purchasers only where the protection afforded by a prospectus is not needed e'g' when the buyer is
sufficiently sophisticated to be able to protect her own interests when buying sec)
9xempt purchasers are sub%ect to the prospectus re5uirement when they seek to resell the sec to others unless (")
they are selling to another exempt purchaser or ($) they hold the sec for a statutorily defined length of time (the
restricted or hold period) before attempting to resell
WHAT IS A REPORTING ISSUER?
4nly reporting issuers are sub%ect to the 40.Ns continuous disclosure rules
0ection "(") ,reporting issuer- means an issuer!
(a) that has issued voting sec on or after the "
st
day of :ay, "8IB in respect of which a prospectus was filed and a
receipt therefore obtained under a predecessor of this .ct or in respect of which a sec exchange take)over bid
circular was filed under a predecessor of this .ct,
(b) that has filed a prospectus and has obtained a receipt for it under this .ct,
(b'") that has filed a sec exchange take)over bid circular under this .ct before <ecember "A, "888,
(c) any of whose sec have been at any time since the "H
th
day of 0eptember, "8B8 listed and posted for trading on
any stock exchange in 4( recogni7ed by the #ommission, regardless of when such listing and posting for trading
commenced,
(d) to which the 1#. applies and which, for the purposes of that .ct, is offering its sec to the public,
(e) that is the company whose existence continues following the exchange of sec of a company by or for the
account of such company with another company or the holders of the sec of that other company in connection with,
o (i) a statutory amalgamation or arrangement, or
o (ii) a statutory procedure under which one company takes title to the assets of the other company that in turn
loses its existence by operation of law, or under which the existing companies merge into a new company,
where one of the amalgamating or merged companies or the continuing company has been a reporting issuer for at
least "$ months, or
(f) that the #ommission has deemed to be a reporting issuer under s' M3'"
he most common way in which an issuer of sec becomes a reporting issuer is through (b) the filing of a prospectus and
obtaining of a receipt for it
4nce an issuer is a reporting issuer, it is sub%ect to all of the periodic and timely disclosure obligations until the issuer
applies to the 40# and is granted an order deeming that it has ,ceased to be a reporting issuer- (s' M3) but if the
reporting issuer has "H or more sec holders the order must not be pre%udicial to the public interest
he concept of the ,reporting issuer- is fundamental to a ,closed system- & those issuers that choose to access 4(Ns
public markets oblige themselves to ensure that current information about their businesses is readily available to the
investing public (so that investors buying or selling sec of such issuers in the secondary markets are better able to make
informed trading decisions); also the fact that a body of information about issuers exists, and is regularly updated,
facilitates the development of more streamlined procedures for additional public financings such as the short form,
shelf, and P69P procedures
0ection M3'"
Provides the 40# with the authority to deem an issuer to be a reporting issuer where it would not be pre%udicial to
the public interest to do so
9nsures that companies with publicly traded shares (especially companies that have completed public offerings in
other #anadian %urisdictions) may ac5uire the benefits and be sub%ect to the obligations of reporting issuers in 4(
THE PROSPECTUS PROCESS
Chen an issuer makes a public offering of its sec, it must prepare a prospectus (a lengthy, detailed disclosure document
containing information about the company issuing the sec)
he purpose of a prospectus is to provide prospective investors with all the information they need to make informed
investment decisions (although due to their length and complexity they are virtually inaccessible to anyone other than
financial analysts and their lawyers)
1asic re5uirement to prepare a preliminary and final prospectus and files and obtains a receipt (s' H3) & can take weeks)
months and about "/$ prospectuses not read in)depth (full reviews for issuer who has never issued before)
Pre)filing stage & determined will issue and obtained underwriter, brings in legal council, organi7ational staff for
bringing up/creating financial statements, other administrative tasks, who on 14< will sign (makes sure everything that
needs to be in prospectus is there)
Preliminary prepared and commented on and get receipt for it & allows to move into next stage
Seep record of who gets a preliminary b/c if change, must provide them with the changes
Process of negotiation re changes
Caiting period & issuer and underwriter can properly market of securities (solicit investors & large institutions or retail
investors) e'g' roadshows, internet
Formal due-diligen$e session & review P one last time to make sure nothing has been missed or misstated, determine
the price (not too early b/c market conditions can change)
Pre)closing stage & receipt print final prospectus and cooling off period for investors ($ day window after receiving
prospectus when investor can review and get out)
Post)closing stage & out of distribution (completed) & must update if been a material change and liability for misrep
begin (limitation period begins to run)
0ection I$ & no longer than "$ months before new prospectus
The Cost of Assembling a Prospectus
.verage costs incurred by an issuer for a multi)province offering of about J$>: are about JA>> >>>!
#ost of hiring lawyers, underwriters, accountants, and in some cases other professionals e'g' mining
engineers/appraisers, to assemble the prospectus or to contribute expert reports to be included in the prospectus
#osts of a ,roadshow-, which is the promotional tour undertaken by the issuer and its investment bankers to sell
the offering to the public
#ost of printing the prospectus
#ost of translating it into *rench, if the offering is to be make in @uebec
he listing fees re5uired by stock exchanges
DnderwriterNs compensation & O of the total value of the offering (about A)BO of the offering price)
#osts are not strictly proportional to the si7e of the issue & costs of assembling are relatively fixed; underwriting fees
tend to rise as the offering gets smaller; it is more difficult and more costly for small issuers to assemble the
information re5uired
The Prospectus Process
. private placement of sec via one of the exemptions greatly reduces the costs of financing and the legal and other
costs associated with assembling and filing a prospectus but the number of potential buyers is not as large as a public
offering
A fundamental types of prospectus offerings!
?ong)form prospectus
0hort)form prospectus (formerly known as prompt offering prospectus or P4P)
0helf prospectus
Post)receipt pricing prospectus (P69P)
PRIMARY AND SECONDARY OFFERINGS
here are $ types of distribution that re5uire the use of a prospectus! a primary offering and a secondary offering
Primary offering & a distribution of sec by the issuer of those sec
0econdary offering & a sale of previously issued sec of an issuer, not by the issuer itself, but by a control person (i'e' a
person defined in s' "(") ,distribution- (c))
. control person may sell sec without a prospectus in reliance on an exemption but when an exemption is not
available or where the selling sec holder wishes to obtain the benefits of selling freely tradeable shares, a
prospectus is re5uired
he issuer, its directors, and its officers still need to furnish the same information and certificates even though the
sec are being sold by a holder and not by the issuer itself and the issuer, its directors and officers are exposed to the
same liabilities as in the case of a primary offering by the issuer itself
he issuer, its directors and its officers are exposed to the same liabilities as in the case of a primary offering by the
issuer itself
he <irector has authority under the 40. to order the issuer to provide the necessary information and material (s'
IA(")) and to waive compliance with certain provisions where the issuer has not participated, provided that all
reasonable efforts have been made to comply with the relevant sec laws and that such a waiver is not otherwise
likely to pre%udice any person or company (s' IA($))
THE UNDERWRITER`S ROLE
.n underwriter is an investment banking firm that sells an issuerNs sec in a public offering
.n underwriter has extensive expertise including assessing market demand for an issuerNs sec; setting the terms of the
offering (e'g' the nature of the sec offered); providing advice wrt changes to the business, management, or ownership
structure to make the offering more attractive; and pricing and marketing the offering
:arketing function & the underwriter will have developed contacts over a period of years with potential buyers of the
issuerNs sec including institutional and retail buyers
Types of Underwritings
Best Efforts
he underwriter acts as a sales agent, promising to use reasonable efforts to sell as much of the issue as it is able
he S b/w the issuer and the underwriter is called an .gency .greement (as opposed to an Dnderwriting .greement)
he underwriter collects a commission on only those sec that it actually sells to third)party purchasers
Firm Commitment
he underwriter agrees to purchase the entire issue of sec
If the underwriter is unable to resell the sec to its clients it cannot return the unsold sec to the issuer
he underwriting agreement typically states that the underwriters purchase the sec from the issuer at the issue price (i'e'
the same price at which they are sold to purchasers pursuant to the prospectus) and then receive from the issuer an
underwriting fee based on a O of that price (but in effect, the underwriterNs compensation is the difference b/w the price
at which it buys the sec and the price at which it resells them to the public) & the underwriter may get a separate che5ue
from the issuer or the underwriter may deduct the fee in calculating the amount that must be paid to the issuer to
purchase the offered sec
he prospectus specifies the price of the sec and the underwriters must sell them in the distribution at that price even
though it may be a ,hot issue- (perceived by investors to be attractively priced and therefore expected to make
significant gains in the secondary market) (I<. 1y)law (o' $8)
*irm)commitment underwriting!
Issuer approaches the underwriter to assist in an issuance of sec
he underwriter assembles a team of employees and/or outside consultants with expertise
he underwriter plays a key role in assembling the preliminary and final prospectuses, determining the terms of the
offering, and pricing the offering
Dnderwriter is retained and paid by issuer but indirectly represents the interests of the ultimate purchasers of the sec
(balancing of roles) especially wrt public debt offerings where they have to seek from the issuer the same kinds of
assurances, security and covenants that a lender normally seeks from a borrower, notwithstanding that the underwriters
do not expect to hold a significant part of the issuerNs debt once the distribution is complete
Bought Deal
he bought deal is a subcategory of the firm)commitment underwriting
he bought deal is a transaction pursuant to an agreement under which an underwriter, as principal, agrees to purchase
sec from an issuer or selling sec holder with a view to a distribution of such sec pursuant to the P4P system or
comparable system in any #anadian province and such agreement is entered into prior to or at the same time as with the
filing of the preliminary short)form prospectus (I<. 1y)law $8'"3)
he distinction b/w the bought deal and the marketed deal is that the underwriterNs contractual obligation to purchase
the issuerNs sec occurs earlier in the process
In a traditional marketed deal, the underwriter is under no obligation to purchase sec from the issuer until the
underwriting agreement is signed (usually %ust before the final prospectus id filed and receipted
In a bought deal, the underwriting agreement is signed earlier at the time of the preliminary prospectus & it
therefore imposes additional risk upon underwriting firms and is sub%ect to different pre)marketing rules
. bought deal is only possible in the context of short)form prospectuses (i'e' where the prospectus can be filed 5uickly)
Structure of an Underwriting Agreement
Issuer`s Corporate Representations and Warranties
he issuer typically provides an extensive series of representations and warranties relating to its legal status and the due
authori7ation and issuance of the sec to be sold
Issuer`s Transaction Obligations
he issuer agrees to take certain steps (e'g' completing the prospectus and providing amendments) to facilitate the
successful filing of the prospectus and the subse5uent completion of the offering
he issuer also pays the underwriterNs fees
he issuer observes a ,black)out- period during which the issuer agrees not to issuer any other sec of the same type as
those to be sold under the prospectus
Underwriter`s Transaction Obligations (and ~Market-out and ~Disaster-out Clauses in Firm Commitment
Underwriting)
he underwriterNs primary obligation in a *#D is to purchase the sec from the issuer at the time of closing, sub%ect to a
,market)out- clause and/or a ,disaster)out- clause
:arket)out provision & permits the underwriter to terminate their obligations if the state of the financial markets is such
that the underwriters, acting reasonably, determine that the sec cannot be marketed profitably
<isaster)out provision & permits underwriters to terminate their obligations if a significant event affects financial
markets or the issuerNs business
he distinction b/w these $ provisions is important in the context of margin re5uirements (O of the price of the
proposed trade as security for a loan)!
Dnderwriting agreement has only a disaster)out clause & margin re5uirement for the sec is H>O of the normal
margin from the date of commitment until the settlement date/expiry of clause
Dnderwriting agreement has a market)out clause & no margin re5uirements wrt the underwritten sec until the
expiry of the clause or the settlement date
Dnderwriting agreement has neither clause & normal margin is re5uired from the date of the commitment (but the
re5uirement may be reduced where a chartered bank has provided an underwriting loan facility)
,0tate of the financial markets- & phrase refers only to the financial market for the particular issuerNs shares (as
opposed to the financial markets in general, which would re5uire a demonstration of some general downturn) b/c the
clause is only intended to afford protection to the placee in reference to the specific shares to be place (Retrieve
Resour$es & however the facts were unusual in this case)
Prospectus Filing and Securities Sale Closing Conditions
he agreement specifies the steps to be taken and the documents to be delivered at the time of filing the final
prospectus and at the time of the actual closing of the transaction, when the sec are delivered to the underwriters against
the payment by the underwriters of the sale proceeds
Issuer`s Indemnity of the Underwriters
/iven by the issuer in favour of the underwriters, their agents and employees for any losses that may be incurred by
them on the issuerNs account
BASIC STAGES OF A PUBLIC OFFERING
. public offering consists of H stages!
Initial discussions/negotiations b/w the issuer and underwriter
<rafting and filing of the preliminary prospectus
<rafting and filing of the final prospectus
#losing of the transaction for the purchase and sale of the offered sec
9nd of the distribution
WHAT CAN BE DONE BEFORE THE PRELIMINARY PROSPECTUS IS FILED?
Limits on Testing the Waters
he law allows very little testing of the waters before filing a preliminary prospectusto determine market demand b/c of
the definitions of ,trade- and distribution-
,trade- & any act, advertisement, solicitation, conduct or negotiation directly or indirectly in furtherance of a sale
by the issuer and the testing of waters to determine market demand is thought to be a an act in furtherance of a sale
4nce the act is a trade, (") the registration re5uirement comes into play (s' $H) and ($) b/c the trade relates to a primary
market issuance of the issuerNs sec, it is also a distribution and every non)exempt distribution re5uires a prospectus (s'
H3)
here must be sensible limits placed on the definition of trade b/c if read literally, then the act of the issuer
approaching the underwriter with a view to making a an offer of sec would be forbidden until a preliminary
prospectus is filed but this is not common practice b/c from a policy perspective, there is no reason why issuers
should not be able to do this (the number of people involved is small and insider trading by members of the
underwriting team would severely damage the underwriterNs reputation) and underwriters could not perform their
role if the 40. were interpreted this way
6ationale for forbidding issuers and their agents from testing the waters!
Insider trading & an issue of new sec by a firm that is already a ri very often affects the price at which the issuerNs
outstanding sec trade (common shares usually drop in price by about " or $O on the announcement of a new issue)
and testing the waters would re5uire the communication of privileged information to a select few (i'e' those
canvassed to determine market demand will know that the issuer expects to make a public offering of sec), who
could potentially misuse the information to sell their existing holdings of the issuerNs sec to avoid a loss
o Gowever, this is not a concern in the case of a private company going public (and therefore the law re testing
the waters should draw a distinction) b/c (") there is no public market for the firmNs sec and therefore insider
traders cannot anonymously insider trade; ($) the persons canvassed are not likely existing shareholders and
therefore there would not be any unlawful selling and (3) the price impact of an initial public offering on the
issuerNs outstanding shares is likely to be different than in the case of a follow)on offering b/c the creation of a
trading market for an issuerNs shares should have a positive, rather than a negative, effect
Prevention of abuse & enables sec regulators to step in at an early stage to prevent wrongdoing (e'g' high)pressure
sales tactics or other exploitation of prospective investors who received inade5uate information about the sec
(however this sort of abuse is minimal b/c testing the market involves information gathering, not high)pressured
sales tactics, although there is the danger of pumping up the market by misrepresenting the prospectus)
o :arket grooming/pre)offering contact with media & regulators are concerned about statements made by issuers
around the time of a public offering that could be seen as attempts to hype the issuing firm in general or the
specific sec to be offered (e'g' Cambior & 40# <irector reprimanded an underwriter and $ leading law firms
for failing to prevent an issuer from placing advertisements in 3 newspapers shortly after filing a preliminary
prospectus)
o 1ut not all media communications could or should be forbidden b/c ongoing disclosure of material
information is also a re5uirement of sec law for public companies
o Pre)offering communication guidance is provided in D.P $)"3, 40# 0taff (otices AB)B>" and AB)B>3, which
state that (") the only marketing material that may be distributed during the waiting period is material that
complies with s' IH($)(a) and that such restrictions also apply prior to the filing of the preliminary prospectus;
($) in the case of media reports (which may be initiated by %ournalists and not by the issuer itself) it is still the
responsibility of the issuer to take appropriate precautions to ensure that media coverage which can reasonably
be considered to be in furtherance of a distribution of sec does not occur after a decision has been made to file
a preliminary prospectus or during the waiting period; (3) posting of new information on a website during a
period of distribution may be construed as advertising
Bought Deal
4ne exception to the general rule against testing the waters
. bought deal begins with a an underwriter approaching/responding to a re5uest from an issuer that is eligible to use
the short)form prospectus rules
In a firm)commitment underwriting the underwriter proposes purchasing a large block of the issuerNs sec
he S is signed even before the filing of a preliminary prospectus with a view to filing it within $ days
he underwriter is allowed to solicit ,expressions of interest- from potential purchasers during the $ day window b/w
the signing of the underwriting agreement and the issuance of a receipt for the preliminary prospectus ((I AA)">" s'
"A'")
his rule facilitates bought)deal offerings by allowing the underwriter to reduce the risk of the offering to a more
manageable level by canvassing potential purchasers
THE PRELIMINARY PROSPECTUS AND THE WAITING PERIOD
.mendment and #ooling 4ff Period
s' HB
material change after receipt but before bought securities (something in business or operating of issuer and significant
effect on value of issuerNs securities) & amendment must be filed
material adverse change & amendment re5uired to be delivered (keep track of who got the preliminary prospectus)
s' B"
<ealer (underwriter) & everyone gets a $ days cooling off period after bought securities
.ny purchaser in cooling off period when amendment being filed, has to get a copy of that amendment and cooling off
period begins again after that amendment is filed
9xamples
"' <ay ", receive prospectus; <ay $, agree to buy; <ay H, amendment filed; <ay I, want out
#ooling off period had expired before amendment was filed
$' <ay ", agree to buy; <ay A, get prospectus; <ay H, amendment filed; <ay M, amendment delivered; <ay 8, want out
.gree to buy but cooling off period doesnNt begin to run until receive prospectus and within cooling off period when
amendment is filed and begins again when reaches you
3' <ay " receive prospectus; <ay A, agree to buy
(o cooling off period (had two days with the prospectus to change your mind)
What is a Preliminary Prospectus?
Preliminary prospectus is a draft of the final prospectus that must be delivered in connection with a public offering of
sec (s' H3("))
It must substantially comply with the rules governing final prospectuses (s' HA)
Caiting period & begins once the issuer files the preliminary prospectus with sec regulators and obtains a receipt
therefor (ss' HH, IH) and ends upon the issuance of a receipt for a final prospectus
.lthough the 40# does not review every preliminary prospectus filed, the draft prospectus allows the regulators to
examine whether it complies with the re5uirements and issue comment letters to the issuer, who must respond in an
effort to resolve any regulatory concerns and make any necessary amendments
Length of the Waiting Period
he waiting period must be at least "> days so that (") the regulators have an ade5uate opportunity to vet the
prospectus; ($) prospective purchasers can study the merits of the sec issue; and (3) underwriters can test the market
0hort)form and shelf prospectuses and :K<0 offerings & the rules provide for clearance by regulators in fewer than ">
days b/c issuers who are eligible for these are large issuers that are well)known to the market and are likely to have
sophisticated accounting, legal, and information systems in place (and therefore re5uire minimal review)
0mall companies issuing sec for the first time in public markets & waiting period can be months b/c such issuers
fre5uently have unsophisticated accounting, legal, and information systems, making it difficult to assemble the re5uired
information to the standard of the sec regulators
Activities Permitted during the Waiting Period
It is unlawful to sell sec
It is permissible for the underwriters to distribute copies of the preliminary prospectus (s' IH($)(b))
It is permissible to solicit expressions of interest from prospective purchasers, provided that the underwriter delivers a
copy of the preliminary prospectus to the prospective purchasers (s' IH($)(c))
It is permissible to distribute certain limited notices and advertisements, provided any such communication indicates
how a copy of the preliminary prospectus may be obtained (s' IH($)(a))
Burden of Disclosure Requirements
he cost of issuing sec in public markets are relatively fixed therefore the burden of mandatory disclosure re5uirements
tend to fall more heavily on small issuers
he greatest cost to small issuers is not the direct cost of regulatory compliance, but the opportunity cost & they have
less support staff (accounting, legal and information system employees) to help assemble the information and therefore
senior management focus is diverted away from the business and into the prospectus process
Preliminary Prospectus Contains Most of What the Final Prospectus Will Contain
he preliminary prospectus has all of the information that the final prospectus has, but the preliminary prospectus may
omit the auditorNs reports as well as information re the price of the offering (s' HA(",$))
It may omit the auditorNs reports b/c of the fact that the waiting period can be unpredictable and by the time of the
issuance of the final receipt the issuer may have to update the financial information
It may omit the price of the offering b/c market receptivity may change b/w the time of filing the preliminary and final
prospectuses
CONTENT OF A PROSPECTUS
he final and preliminary prospectuses must comply with regulatory re5uirements!
1. The OSA
The overriding duty of full, true, and plain disclosure & overarching re5uirement over the specific rules that the
prospectus supply ,full, true and plain disclosure of all material facts relating to the sec issued or proposed to be
distributed- (s' HI("))
No half-truths - the definition of ,misrepresentation- (s' "(")) is important re what is to be included
,misrepresentation- & (a) an untrue statement of a material fact or (b) an omission to state a material fact that is
re5uired to be stated or that is necessary to make a statement not misleading in the light of the circumstances in
which it was made
o (b) makes half)truths or e5uivocations (statements that are literally true but are misleading) into
misrepresentations
The certificate requirements
he issuer must include a certificate signed by (s' HM("))!
o #94,
o #*4,
o 4n behalf of the 14<, by any $ directors of the issuer, other than the #94 and #*4, duly authori7ed to sign,
o .ny promoter of the issuer,
.ny underwriter in a kual relationship with the issuer must also supply a separate certificate, which must state that
to the best of their knowledge, information and belief, the prospectus constitutes full, true and plain disclosure of
all material facts relating to the sec offered (s' H8("))
o he underwriterNs certificate is separate b/c the issuer has direct access to all pertinent information, while the
underwriter has only secondary access (i'e' the underwriters can only ascertain the truth of matters by
5uestioning the issuerNs officers and employees)
.ll those who sign a certificate and the issuerNs directors, whether or not they sign, are potentially civilly liable for
any misrepresentation in the prospectus (in order to induce care in assembling the prospectus on the part of the
directors of the issuer and those who sign the certificates
2. Requirements in the regulations, rules, and forms
he prospectus must comply with 4( sec law (s' HI(")), which includes the 40., the 40. 6egulation, the 40# rules
and decisions of the 40# or the <irector
Prospectus re5uirements found in (I AH)">", 6ule A")H>" (which states that a prospectus must be prepared in
accordance with A")H>"*" (s' "'")) and #PA")H>"
3. Decision of the OSC or the Director
4( sec law includes any decision by the 40# or the <irector therefore strictly on an ad hoc basis and applying to a
particular issuance of sec, the 40# or the <irector may re5uire that additional information be disclosed in the
prospectus
4. Policy Statements
Policy statements may not prescribe the content of a prospectus in 4( (regulators have a rule)making authority in 4(,
s' "A3'M(")(d))
5. Amending the Prospectus
4nce a preliminary prospectus is filed and a receipt has been issued for it, if a material adverse change occurs before a
receipt for the final prospectus is obtained the issuer must file an amendment as soon as practicable or within "> days
(s' HB("))
4nce the final prospectus has been filed any amendments must be made after any material change, whether beneficial
or adverse, that occurs prior to the completion of the distribution, as soon as practicable or within "> days (s' HB("))
#ompletion of the distribution & (") the 40# can determine whether a distribution has been concluded (s' BA($))
and ($) a distribution of sec can continue beyond the closing of the transaction (i'e' the time at which the sec are
issued, the sale proceeds paid and the underwriters receive their fees) b/c the closing of the underwritten offering
only indicates that the underwriter has satisfied its contractual obligation to purchase the sec from the issuer & the
sales of the sec by the underwriter to purchasers may continue and the issuer has no control over/knowledge of the
status of those sales efforts therefore underwriting agreements usually include a covenant on the part of the
underwriters to complete the distribution as expeditiously as possible and to notify the issuer when in the
underwriterNs opinion the distribution is complete
o Important b/c (") the ongoing disclosure obligation to amend the prospectus continues until the distribution is
completed and ($) during the distribution period the issuer, underwriters and others are not permitted to
purchase or to bid for sec of the same class and series as those being distributed (in order to preven market
prices from being artificially manipulated)
. cause of action could be based on financial forecasts contained in a prospectus if, although reasonable at the time
they were made, they became misleading b/w the time the issuer filed the final prospectus and the time of the sale of
the sec to investors (.err v& ,anier /eather)
REVIEW OF THE PROSPECTUS
Select Review of Prospectuses
he 40# eventually determined that sub%ecting every prospectus to the same intense review was not an efficient use of
their resources and therefore there is now ,selective review-
3 different standards of review for prospectuses!
*ull review & detailed review
Issue)oriented review & (for prospectuses and other filed documents) limited to a specific issue or issues &
regulators screen those filed and determine the appropriate level of review to apply and look at sub%ective and
ob%ective components intended to identify the issuers whose prospectuses are most likely to raise matters that
would benefit from the review process e'g' those filed in connection with initial public offerings
(o review
Issuer review & for other periodic disclosure documents such as .I*s and financial statements
Mutual Reliance Review System - National Policy 43-201
Crt to a public offering in #anada, issuers must file a prospectus in every province or territory in which sec are to be
sold but the use of electronic filing systems has made it easier complete the (up to "3) filing packages and to coordinate
and respond to multiple regulators (it has also increased the cooperation and coordination of provincial sec regulators)
:660 (for prospectuses and .I*s) & a prospectus filer designates one sec regulatory authority as its principal regulator
(sub%ect to an appropriate %urisdictional nexus (s' 3'$)), which reviews the filed documents and has virtually all of the
contact with the filer (regulators in non)principal %urisdictions also may review the documents and convey their
concerns to the principal regulator or they can opt out of the :660 system and deal with the filer directly)
Chen all comments are resolved, the prospectus filer receives an :660 decision document from the principal
regulator (like a receipt issued by every participating sec regulator)
OBLIGATION TO DELIVER PROSPECTUS
4nce the final prospectus has been filed with the sec regulators and a receipt has been obtained, the sec may lawfully be
sold
. dealer is re5uired to deliver a prospectus to anyone who subscribes for or places an order for the offered sec either
before any sale agreement is entered into or within $ days thereafter (s' B"("))
*ailure to deliver a prospectus constitutes a violation of the .ct and any purchaser who should have received a
prospectus has a statutory right of action against the offending dealer for rescission of the purchase S or damages (s'
"33, limitation period & s' "3M)
*ailing to file with regulator and failure to deliver (penal offences that have fines/%ail term; administrative sanctions &
compliance orders, reprimanding; civil suit power of investors)
6e5uirement to deliver to a potential buyer (s' B") & criminal sanction under s' "$$(")(c) not fulfilling the re5uirements
of the statute, s' "$B(") H,I,8 administrative order (including fines & usurping power of the court), s' "33 statutory right
to civil suit
*ailure to file with regulator & criminal s' "$$, administrative order under s' "$B for compliance as well as reprimand
for failure to comply or fine for failure to comply but no civil for failure to file (general #? argument that when you
entered into S to purchase securities who failed to regulate that is against public policy and should be void
PURCHASER`S WITHDRAWAL RIGHTS
#ooling off period & purchasers of sec in a public offering have $ business days after receiving the prospectus or any
prospectus amendment to withdraw from any purchase agreement by providing written notice (s' B"($))
he right is absolute and does not re5uire the purchaser to prove/allege that any misrepresentation or deficiency in the
prospectus
6ationale! (") like similar provision in consumer protection law, the withdrawal right is intended to act as an antidote to
high)pressure sales techni5ues and ($) it helps ensure that purchasers have at least the opportunity to review the detailed
information in the prospectus before committing to purchase the sec offered
UNDERWRITING CONFLICTS - NI 33-105
General Policy Rationale (#P "'$)
"' wo basic ob%ectives of sec law are! (") to ensure that investors purchase sec at a price determined through a
process unaffected by conflicts of interest, and ($) to ensure that investors receive full, true and plain disclosure of
all material facts re the issuer and the sec offered & these ob%ectives are best achieved if the issuer and the
underwriters deal with each other as independent parties
$' o protect the integrity of the underwriting process when there is a relationship b/w the issuer/selling sec holder
and the underwriter (i'e' not independent re a distribution/potential conflict of interest)
3 relationships of concern re conflicts of interest (Part $'"("))!
"' Chen the under%riter is the issuer5sellin' sec holder of a distribution of sec & represents the highest degree of
conflict
$' Chen the underwriter is acting for a related issuer in a distribution of sec & created as a result of cross)
ownership b/w the underwriter and the issuer/selling sec holder (common ownership E non)armNs length E conflict
of interest)
o ,related issuer- & the issuer is an influential sec holder of the underwriter (or vice versa) or if each of them are
related issuers to a third person or business entity
,influential sec holder- & a person/company or professional group that (") owns or controls $>O of the
voting or e5uity sec of the issuer or ($) owns or controls ">O of the voting or e5uity sec of the issuer
together and is entitled to nominate $>O of the directors of the issuer or has officers, directors or
shareholders that constitute $>O of the directors of the issuer (or vice versa i'e' the issuer is entitled to the
same re the person/company)
3' Chen the underwriter is acting for a connected issuer in a distribution of sec
o ,connected issuer- & the issuer/selling sec holder has a relationship with the underwriter that would cause a
reasonable investor to 5uestion whether they are independent of each other for the distribution e'g'!
o (") debtor)creditor relationship & depends on the si7e of the debt, the materiality of the amount of the debt to
each party, the terms of the debt, whether the lending agreement is in good standing, and whether the proceeds
of the issue are being used for repayment of the debt
o ($) cross)ownership of a material number of preference shares & depends on the terms of the preference shares
(i'e' whether they are term preferred shares, redeemable at the option of the holder or represent relatively
permanent capital of the issuer/selling secholder) and the materiality of the shareholding to the parties
o (3) other business relationships that would be material!
(i) where an issuer was a %oint venture partner with a person that owed money to a related party of the
underwriter (and the %oint venture party needs funds to satisfy its obligations and those funds would be
provided by the issuer following the distribution)
(ii) where an issuerNs supplier was a related party of an underwriter (especially if the financial position of
the issuer could put the supply arrangement in %eopardy)
(iii) franchise relationships & if the issuer was a franchisor that needed funds to support its franchisees and
the underwriter was a related party of creditors of the franchisees
General requirements:
1. disclosure obligation
o for all 3 non)independent underwriter relationships
o Part $'"(")) re5uires that the distribution be made under a prospectus (or other document that contains the
information in .ppendix #, which re5uires full disclosure of the relationship b/w the underwriter and
issuer/selling sec holder)
2. independent underwriter obligation
o for relationships involving (") underwriters as issuer/selling secholders or ($) underwriters acting for related
issuers
o Part $'"($,3) re5uires, in addition to the disclosure re5uirement, that at least one independent underwriter
participates in the underwriting
o 9xemption (Part 3'$) & intended for international offerings of ma%or issuers
GENERAL PROSPECTUS REQUIREMENTS - OSC RULE 41-501
6ead in connection with s. 56 - full true and plain disclosure of all material facts and no misrepresentations
material fact (s. 1): when used in relation to securities issued or proposed to be issued, means a fact that would
reasonably be expected to have a significant effect on the market price or value of the securities
no 5ualifier as in change & above and beyond that which is internal to business, e'g' information about shareholders
what reasonable investor would think is important (investor decision)making generally)
price and value (intrinsic value of the issuer even if doesnNt affect market price) & different if depressed market
2 certificates in prospectus that make representations on behalf of issuer and underwriter & ss' HM and H8 & failsafe for
underwriter (best of knowledge, information and belief & due diligence and defence for liability claims by investors)
Issuer - ,the foregoing constitutes full, true and plain disclosure of all material facts relating to the sec offered by
this prospectus-
Underwriter - ,to the best of our knowledge, information and belief, the foregoing constitutes full, true and plain
disclosure of all material facts relating to the sec offered by this prospectus-
Disclaimer clause A")">" (p' B8A) & ,no securities regulatory authority has expressed an opinion about these sec and it
is an offence to claim otherwise- & %ust b/c got receipt, doesnNt say anything about the value of the securities (%ust
ensures the form meets re5uirements and full, true, plain disclosure) but they do play a gatekeeping role with s' I" & if
investment so unlikely to generate return, residual discretion to refuse receipts & if considered in the public interest to
do so!
($) & attempt to narrow circumstances of ,public interest- & response to examples of investors losing money &
extreme circumstances; something approaching fraudulent activity & prevent as opposed to suing after the fact
o (a) if contains a misrepresentation, regulator says to change it and if wonNt then wonNt give them a receipt
o (b) unconscionable consideration paid (only extreme examples have resulted in refusing receipt and not
disclosed in prospectus)
o (c) admit that proceeds of issuing will not be enough to accomplish the purpose
o (d) if key executives of issuer are in bad financial position and therefore canNt make capable decisions
(bankrupt, close to bankruptcy, holding company that is about to sei7e operations b/c of mismanagement
decisions)
o (e) past conduct of issuer & reasonable belief that wouldnNt be conducted with integrity and best interests of its
security holders & e'g' ricor
o (f) escrow & used to prevent principle from pre)selling interest in business (not %ust creating market for shares
and then removing expertise as soon as offering has taken place) & regulators want them to have capital at risk
after the offering
Re Tricor Holdings Co. (1988, OSC)
Facts: ricor2s history! incorporated in "8B" as *allinger then changed its name to 0ogevex Inc' and again in "8BI to ricor
in "8MA' ricor carried on the business of harvesting, processing and marketing peat moss' In "8MA, ricor sold all of the
assets related to its peat moss operations for JI,AH>,>>>' he president of ricor is Ian Sott and his predecessor was
:ichael Sott, an elder brother, who was president at the time of the "8M" rights offering and until approximately the time of
the sale of the peat moss business in "8MA' :ichael and Ian Sott are sons of Irving Sott, a convicted felon' Irving Sott
controlled ricor when it was *allinger' 4ne issue re the "8M" rights offering was whether or not Irving Sott still controlled
ricor'
Issue: Chether <irectorNs decision to refuse to issue a receipt for a prospectus under (now s' I"($)(e) & past conduct of the
issuer or officer, director, etc') was correct'
Ratio: 0ecurities laws are intended primarily to protect the public from fraud and the manipulation of markets' he scheme
of the 4ntario statute and regulations, in item $I of the prospectus form and the accompanying instructions, clearly places
the onus upon an issuer of securities to establish the identity of the persons whose beneficial shareholdings put them in a
position of control' If the <irector believes the persons so identified to be unacceptable, he must establish reasonable
grounds for his belief' 0uch grounds are to be found in the past conduct of such persons' Chere the issuer is unable to
identify the beneficial owners, the #ommission has said that generally a receipt should not be issued for a prospectus if the
issuer is unable to identify the individual, if any, who controls a principal security holder of that issuer' Issuers are therefore
advised that they should organi7e themselves in a manner which will enable them to obtain and disclose information
concerning principal security holders' If, however, the issuer has exercised reasonable efforts to obtain the information
concerning the principal security holder and has been unable to do so, the #ommission may, in appropriate circumstances,
issue a receipt for the prospectus and may exercise its powers to deny access to 4ntario capital markets to the principal
security holder which has not disclosed the re5uired information'
Analysis:
o see the boys set up in business is a laudable paternal desire and one that is not confined to men who are honest and
of good repute' Ian Sott became president of ricor in "8MA, a post which he still holds' In view of his youth and lack
of experience the only reasonable conclusion is that Irving Sott put his son in as president of ricor, and that is
consistent with Ian Sott2s presence in Kanus and 4nyx' It follows that Irving Sott continues to control ricor' It is
unnecessary to establish the identity of the beneficial owners of particular blocks of shares or to prove the particular
agreements or understandings upon which they may be voted' he ability to put one2s son in as president of a company
is one of the more compelling indicia of corporate control'
he circumstances in s' I"($)(e) go to a ,belief that the business of the issuer will not be conducted with integrity and
in the best interests of its sec holders- and there was nothing in the evidence to show that the actual businesses of ricor
have not been conducted with integrity' <oes it follow that clause I>($)(e) is not applicableF
o hold this would reflect a narrow view of the legislation and would be inconsistent with prior #ommission
decisions and the decisions of the courts' 1ut if clause I>($)(e), narrowly construed, did not strictly apply the
<irector would still be obliged to consider the public interest test under subsection I>(")' 4nce he concludes, as we
have concluded, that Irving Sott controls ricor the public interest in excluding persons such as Sott from the
securities markets would lead him to refuse a receipt'
he ricor filing did not contemplate a distribution of securities but was a +shelf prospectus+ filed to give ricor the
status of a reporting issuer under the .ct' 0hould the <irector therefore take a different view of the matterF
(o! reporting issuer status, maintained in good standing for certain periods of time, permits the resale without a
prospectus of securities originally distributed under the private placement and other exemptions from the
prospectus re5uirements of the .ct' . marketing of ricor securities a year or eighteen months in the future would
be ob%ectionable on the same grounds as apply to a present distribution, and those same grounds support our
maintaining the "8M" cease trading order in full force and effect'
Conclusion: Irving Sott was in control of ricor and therefore the <irectorNs decision to refuse the receipt was correct and
the application for revocation of the cease trading order was denied'
Commentary:
6eliability of information used to refuse receipt uncertain & circumstantial evidence was enough'
<issent! accepted evidence of son that legitimate corporation and doesnNt talk to father about ricor and doesnNt know
that father owner b/c shares'
Prospectus Form - 41-501F1
Summary of Prospectus (Item 3)
?ikely the only part of the prospectus that retail investors look at
General Development of the Business (Item 5)
H'" & general development of the business for the last 3 financial years (ma%or events or conditions); describe the
principle products or services being produced or distributed; changes in the business of the issuer that are expected
to occur during the current financial year
H'$ & disclose any significant ac5uisition (or proposed) and dispositions and include! the nature of the assets being
ac5uired/disposed, the date of the ac5uisition/disposition, the consideration to be paid, any material obligations that
must be complied with to keep the ac5uisition/disposition in good standing, the effect of the ac5uisition/disposition
on the operating results and financial position of the issuer, any valuation opinion to support the value of the
consideration, and whether the transaction is with an insider/associate/affiliate of the insider
H'3 & discuss any trend, commitment, event or uncertainty that is known to management and is reasonably expected
to have a material effect on the issuerNs business, financial condition or results of operations and provide forward)
looking information based on the issuerNs expectations
Narrative Description of the Business (Item 6)
<escribe business of the issuer & stated business ob%ectives (using the proceeds), milestones (significant events for
stated business ob%ective to occur), principal products or services, operations (concerning production and sales),
competitive conditions, lending (investment policies and restrictions)
(ature and results of bankruptcy in last 3 years
(ature and results of reorgani7ation in last 3 years
Use of Proceeds (Item 7) - estimated proceeds and principal purposes
Description of the Sec Distributed (Item 10) - description and all material attributes and characteristics (e'g' dividend
rights; voting rights; rights upon dissolution or winding up; pre)emptive rights; conversion or exchange rights;
redemption, retraction, purchase for cancellation or surrender provisions; material restrictions; etc')
Principle Shareholders and Selling Secholders (Item 15) - name, number of sec owned of the class being distributed
(before and after distribution)
Directors and Officers (Item 16) - name, address, occupation, sec holding, any corporate cease trade orders or
bankruptcies, penalties or sanctions, conflicts of interest with the issuer
Executive Compensation (Item 17) - description and any intention to materially change the compensation
how much paid to key executives and directors (how much get in terms of stock options) & 5uestions of corporate
governance & want to give incentive by aligning executivesN interests with shareholders but not to extent that acting
in own self)interest (pension arrangements as a way of rewarding b/c no more stock options)
Indebtedness of Directors and Executive Officers (Item 18)
Plan of Distribution (Item 19) - name of underwriters, nature of underwriterNs obligation, disclosure of market out
Risk Factors (Item 20) - material risks that a reasonable investor would consider relevant to an investment in the sec
and would likely influence their decision to purchase the sec e'g' cash flow or li5uidity problems, risk inherent in the
business, etc'
9nough in order not to be liable for misrepresentations but not so much that scare off investors
Legal Proceedings (Item 22) - those to which the issuer is a party or issuer knows to be contemplated
material legal proceedings & information that would cause a reasonable investor to have a concern over potential
liability for any legal claims outstanding and benchmark & instruction
Interest of Management and Others in Material Transactions (Item 23) - whether any material transactions
(threshold important) management has entered into & disclose any material interest in transactions (materially affect
corporation & dilute assets of corporation and purposes of issuing)
Relationship b/w Issuer/Selling Secholder and Underwriter (Item 24) - if the issuer is a connected issuer of an
underwriter of the distribution or if the issuer is also an underwriter then must comply with (I 33)">H
Other material facts (Item 29) - any material facts necessary in order for the prospectus to contain full, true and plain
disclosure of all material facts relating to the sec
FUTURE-ORIENTED FINANCIAL INFORMATION (FOFI)
. firmNs internal business forecasts and pro%ections & the view of the companyNs future held by those best e5uipped to
formulate such a view (managers)
Problem & tension b/w making an attractive investment and liability for misrepresentation (forward)looking statements
can lead to speculative bubbles inflated by lavish and unfounded promises of future financial gains)
Gistorical information too & main thing an investor looks at is financial statements and assumptions under which
prepared (notes)
3 years of financial information & includes and income statement (picture of operations & revenue minus expenses),
statement of retained earnings (how much profit retained in business vs' paying out as dividends), statement of
cash flow (operations, investing, or financing), balance sheet (assets on one side and liability and sh e5uity on the
other side)
*inancial statements must be prepared in accordance with /..P and /..0 and must be audited & auditors donNt
guarantee every figure is completely true but provide assurance are free of material misstatements (look for
evidence that support figures used to compile statements and principles used to generate figures and estimates
made by management where have to re future) present fairly in all material respects the financial position of the
company
6egulators used to prohibit forward looking information in prospectus but that is what investors are most interested in
therefore softened approach (rules in :<L., .I*) and (P AM states what they think about it (no rule yet) & all you can
do is provide guidance (not bound)
NP 48 - FOFI
~FOFI - means future)oriented financial information which is information about prospective results of operations,
financial position or changes in financial position, based on assumptions about future economic conditions and courses
of action; presented as either a forecast or a pro%ection
Issuers can decide whether to put it in if in best interest of investors and regulator guidance & history of doing it before
(reasonable history of operations)
#onse5uences of putting in & s' HI; only policy (not bound) but if fail to comply can delay receipt
*4*I divided into $ categories & can have either! (1) forecasts & less speculative b/c based on assumptions all of which
reflect the issuerNs %udgment as to the most probable set of economic conditions and (2) projections & may incorporate
hypotheses, which are assumptions that assume a set of economic conditions or courses of actions that are consistent
with the issuerNs intended courts of action and represent plausible circumstances (as opposed to the most probable
outcomes) and b/c they are more speculative they are sub%ect to greater restrictions!
FOFI must be in the form of a forecast unless the issuer has operated for less than $A months (assumed that operating
history does not have sufficient data or operating experience to provide meaningful *4*I without incorporating certain
hypotheses)
Chen a pro%ection is published in a document it must be accompanied by a bold note warning the reader that actual
results could vary materially from pro%ected results (H'")
.ll *4*I must be prepared in accordance with the #I#. handbook and may not extend more than $ years into the
future (any longer is thought to be unreasonable) (3'$("), A'$)
3 significant requirements:
update *4*I if changes occur that have a material effect & material change in prospectus that is related to *4*I
(file a material change report) (Part B)
compare *4*I to actual results each time the issuer files its financial statements (I'")
ensure that the issuerNs outside auditors are involved in its preparation and deliver an un5ualified auditorNs report
(Part 8)
. misrepresentation arising from *4*I can constitute a statement of material fact even though it is forward)looking
(.err v& ,anier /eather)
What is material (broader than definition of material change) & matter of %udgment in context of! overall financial
position of the issuer and significance of an item to investors (material if it is probable that its omission from the
financial information would influence or change a decision) e'g' measures of materiality & gross revenues, expenses, net
income, shareholdersN e5uity and total assets
broadened definition of material change in order to give investors more information than otherwise re5uired b/c in
their best interest & 5uestions of legality of what regulators are doing (would have to be revised if became a rule)
MODIFICATIONS TO THE PROSPECTUS REQUIREMENT
ALTERNATIVE DISTRIBUTION METHODS
Direct Purchase Plans and Use of the Internet
Issuers are permitted to institute direct purchase plans that are exempt from the registration re5uirement therefore
issuers can sell sec in certain circumstances directly to investors rather than through a registered sec dealer (6ule 3$)
H>")
Purchasers must receive a prospectus relating to the plan and a disclosure statement that states that the investor is
making the purchase without the advice of an investment professional
Internet)related sec issues & e'g' messages can be instantly transmitted to a global audience therefore traditional border)
bound sec regulation is difficult & therefore (P AB)$>" (interpretation of sec provisions e'g' s' IB in the context of an
internet offering)!
.nyone who posts on the internet a document that offers trades of sec that is accessible to people in a local
%urisdiction will be considered to be trading in sec in that %urisdiction unless the document has a disclaimer and the
seller takes reasonable precautions not to sell or offer sec to anyone in that %urisdiction
hose who distribute sec by way of an internet)accessible prospectus must record the names and addresses of all
recipients of a preliminary prospectus even where they merely view it by electronic means
Sales to Secholders Holding Small Blocks of Sec
(I 3$)">" allows for the sale of sec of stock exchange)listed companies to secholders holding small blocks of sec to
take place in certain cases without the participation of a registrant
MULTI1URISDICTIONAL DISCLOSURE SYSTEM (NI 71-101, CP 71-101, Rule 71-801)
0ec regulation in #anada and the D0 are not substantially different and it may be more efficient in cross)border
transactions if disclosure documents prepared for one %urisdiction could be used for the other (and regulatory review in
one would obviate the need for it in the other)
o be eligible to use the :K<0 system to access #anadian markets, D0 issuer must be a of significant si7e and have
had a significant reporting history & 3 basic re5uirements!
Investment Grade Debt or Preferred Shares - the issuer must have been a ri not in default under the D0 09.
for at least "$ months; the issuer must not be an investment company or a commodity pool issuer; the sec issued
must be either non)convertible or not convertible for at least " year; if the sec are convertible into e5uity sec they
must have a public float of at least JBH: (D0) prior to the filing of the :K<0 prospectus
Rights Issue - the issuer must have a 3I month 09. reporting history but must not be an investment company or a
commodity pool issuer; the issuer must have a class of its sec listed on the (U09, the .09 or the (asda5 for at
least "$ months; the rights must satisfy certain re5uirements wrt their terms, exercise and transferability
MUTUAL FUNDS
:utual fund & a type of pooled investment vehicle that is organi7ed as a corporation or trust; individual investors buy
sec issued by the mutual fund in the form of shares or mutual fund units; the mutual fund uses the money ac5uired from
the sale of their sec to purchase sec issued by other businesses; the defining characteristic of a mutual fund is that the
value of the mutual fundNs investments is reflected in the value of the mutual fund shares or units held by the fundNs
investors
#losed)ended funds & sells a specific number of shares or units and invests the proceeds from the sale of those units and
unitholders who no longer wish to invest in the mutual fund must dispose of their investment by selling their units to
other investors and the mutual fund itself will not redeem or repurchase outstanding units
4pen)ended funds & offer their shares or units to the public continuously pursuant to special sec)offering rules and the
shares or units sold by opened)end funds entitle the holder to redeem at any time on relatively short notice and holders
who no longer wish to invest in it need not find another investor who is willing to buy their units b/c the mutual fund
itself will buy back the units at a price based upon the net asset value of the fund
The Benefits of Mutual Funds
Persons investing small amounts can gain the benefits of portfolio diversification without high transaction costs
Cealthy investors investing in small amounts can get professional portfolio management on a personal basis
:oney market funds can bypass financial intermediaries and earn higher returns on their shorter)term savings
Regulatory Concerns Raised by Mutual Funds
Investor disclosure needs & mutual funds often sold to the least sophisticated investors who need clear and plain
financial disclosure
#alculation of fundNs net asset value & important when investors redeem their units for cash based on their share of the
(.;
<isclosure of potential investment risk & b/c some purchase them as a substitute for insured fixed)income investments
:eaningful comparison of funds & investors may select based on the fundNs historical performance
:anagement 9xpense 6atio (the mutual fundNs pre)tax expenses expressed as a O of a fundNs average (.;) & returns
depend on level of fees charged to the fund & calculation must be accurate for comparisons
<uties of mutual fund managers & trustees/directors are re5uired to act in the best interests of their investors, not the
company that created the fund but conflicts may arise
9ffect of sales commissions don mutual fund managers & incentives of sales people may not be aligned with the
ob%ectives of the customers
Dse of high)risk investment strategies & competition means pressure for high short)term returns and the use of highly
leveraged products
:a%or regulatory instruments!
(I M")">" (and #P) & prospectus re5uirements for mutual fund distributions
o M")">" *" & form of mutual fund simplified prospectus
o M")">" *$ & contents of a mutual fund .I*
(I M")">$ (and #P) & regulation of mutual funds themselves (investment restrictions, conflict of interest, method
of mutual fund sales, calculation of (.;, calculation of :96, sales communications, and prohibited
representations)
(I M")">H (and #P) & regulate mutual fund sales practices
#0. #oncept Proposal M")A>$ & five pillar proposal & registration for managers, mutual fund governance, product
regulation, disclosure and investor rights and regulatory presence; creation of a governance agency to oversee
management
ALTERNATIVE FORMS OF THE PROSPECTUS
1. Short-Form Prospectus (Prompt-Offering Prospectus - POP System)
Requirements - NI 44-101
Rationale - for larger issuers about whom a lot of information is already publicly available and widely disseminated, it
doesnNt make sense to re5uire repetition of that information in a prospectus or to submit the prospectus to the same
lengthy review process
4ffering process is expedited, regulatory resources are more efficiently used and the cost of raising capital is somewhat
reduced
Shorter Review Period:
he advantage of the short)form prospectus is that offerings can be completed more 5uickly due to the shorter
length of time re5uired by sec regulators to review them
(P A3)$>" & re filings under the :660 system, the principle regulator will use its best efforts to issue a comment
letter on a preliminary short)form prospectus within 3 working days of the issuance of the preliminary :660
decision document (like a receipt) & this is opposed to the "> days for a long form prospectus
Eligible Issuer Rules
Type of Issuer Rules Rationale
Basic Issuer minimum "$ month ri
a current .I*
a market value of outstanding
sec of at least JBH:
Issuers are eligible only if
information is available to the public
and has been widely disseminated
therefore there are min si7e
thresholds and min public)reporting
periods
Substantial Issuer issuer must be a ri (but no
minimum reporting history)
a current .I*
a market value of outstanding
sec of at least J3>>:
*or the larger issuers the min public)
reporting periods are relaxed b/c it is
assumed that financial analysts
follow larger companies most
closely' *or issuers outside
%urisdiction e'g' D0 companies but
already have large depth of value to
outstanding securities in market
Issuer of Investment Grade Non-
Convertible Sec
"$ month ri
a current .I*
non)convertible sec that have
received an approved rating
from an approved rating
organi7ation
:in si7e re5uirements are dispensed
with re certain debt issues & smaller
issuers may be eligible if they issue
investment grade debt sec (i'e' debt
instruments such as bonds,
debentures or notes that have a min
credit rating from a ma%or credit)
rating agency b/c purchasers are
more interested in the interest rate
and the issuerNs creditworthiness)'
Proxy for financial well)being
(rating agencies comfortable with
the financial status of issuer)
Issuer of Guaranteed Non-
Convertible Debt/Preferred
Share/Cash Settled Derivatives
an entity other than the issuer
must guarantee the issuance
the guarantor satisfies the
minimum reporting or
minimum si7e re5uirements
if the guarantor has a market
capitali7ation of less than
JBH: the sec being sold must
be investment grade and the
guarantor must also have
outstanding investment grade
non)convertible sec
(on)convertible preferred shares are
treated the same as debt b/c they
usually carry a fixed dividend and do
not entitle their holders to any return
on their capital above their initial
investment
Issuer of Guaranteed,
Convertible, Debt/Preferred
Shares
issuance must be guaranteed
by an entity other than the
issuer
the sec are convertible into
sec of that guarantor (not into
other sec of the issuer of the
convertible sec itself)
guarantor must satisfy
eligibility criteria in $ or 3
Chere the issuer doesnNt satisfy the
eligibility criteria but the issue is
fully guaranteed by another entity
that does, the rules recogni7e that the
same policy considerations ought to
apply
Securitization Special Purpose
Vehicle
a current .I*
asset)backed sec that have
received an approved rating
from an approved rating
organi7ation
.sset)backed sec & securiti7ation is a
type of financing in which one entity
(originator) transfers financial assets
to a second entity (special purpose
vehicle) and the purchaser issues sec
to finance the purchase of assets &
purchaser usually created for the
deal therefore isnNt a re but the
techni5ue is so common that they are
allowed to issue investment grade
sec by way of the P4P system
AIF and Short-Form Prospectus Forms
:ust be filed in order for investors to have access to prospectus)level disclosure about the issuers
:ust be filed each year and then when the issuer is ready to sell sec it may use the P4P system
he short)form prospectus focuses on the sec being sold and doesnNt include general information about the company
b/c it is in the .I* which is incorporated by reference into the prospectus & significance is that investor has access to
both and liability will flow for issuer for any misrepresentations in .I* and the 0*P
2. Shelf Prospectus 44-102
<isclosure document that is prepared, filed and put away for up to $H months until the issuer decides to distribute some
or all of them
.t the time of the sale the issuer prepares a brief supplement with specific information about the sec being sold that was
not available at the time the base shelf prospectus prepared & this information is incorporated by reference in the base
shelf prospectus
his procedure is faster b/c the supplements are not sub%ect to any prior review by the regulators and can usually be
filed on the same day that they are first delivered to purchasers (AA)">$ I'A($)(a))
Eligibility Criteria:
4nly issuers eligible to use the short)form prospectus system are eligible to use the shelf system ((I AA)">" and
AA)">$ both apply to them)
Issuers must satisfy the criteria twice & at the time the shelf prospectus is filed and at the time that the sec are
actually sold
Shelf Prospectus Can Relate to More than One Type of Sec - a shelf prospectus can be filed relating to any number
and type of sec but must stipulate the total value of the sec based upon the amount the issuer reasonably expects to sell
within $H months following the filing of the prospectus (AA)">$, s' H'A)
3. Post-Receipt Pricing (PREP) Prospectus (NI 44-103)
0imilar to the shelf system b/c $ step filing process & (") a base document that doesnNt include certain deal)specific
information is filed and cleared with regulators and ($) at the time of the actual sale a supplementing document which is
not precleared with regulators is used
<ifferent than the shelf system b/c (") P69P available to all issuers (not only those who are eligible for the short)form
prospectus (#P "'$), ($) the base P69P has a shorter shelf life than a shelf prospectus (expires 8> days after receipt
obtained unless supplement P69P is filed; and unless a supplement prospectus has been filed within $> days after the
filing of the base P69P the receipt also expires #P s' 3'H)
Capital Pool Companies (CPC) of the TSE VX
.lternative to initial public offerings
Gelps smaller companies access the capital markets earlier in their development
0helf prospectus system for %unior issuers
Institutionali7ed system of reverse take)overs (importing assets into shell company)
*ile #P# prospectus which says you will complete 5ualifying transaction (begin to operate business) & allows business
venture to get capital up front that will get business running
hreshold re5uirement (p' 8$$) & have to have some kind of agreement (will start to do business within "M months)
Indicate steps and ac5uired assets that will be needed
/reater risk for an investor than issuer filing a ?*P
6e5uirements & p' 8$3
INTEGRATED DISCLOSURE SYSTEM PROPOSAL
Initiative to change sec regulation from a transaction-based to an issuer-based regime and streamline the
offering process
Purpose - to give issuers more timely and flexible access to primary market capital while maintaining the re5uirement
of prospectus)5uality disclosure (therefore enhance the ability of investors to make informed investment decisions
using more useful and reliable information from sec issuers
Eligibility requirements - ri status in all #anadian %urisdictions, continuous disclosure compliance, current base
disclosure document (a current .I* or for initial entry a ?*P/0*P and a copy of all material incorporated by reference),
listing on a market and not an excluded class (special purpose issuer, issuer with no assets, no business in operation and
no specific business plan, mutual fund, etc')
Issuers would file an extensive issuer)based disclosure document annually and update the information with periodic and
timely disclosure filings' Chen the issuer wanted to access the capital markets, it could do so on a fairly expeditious
basis by producing a disclosure document that focuses on the terms of the sec being issued and by relying on the
previously filed issuer)based documents which would be incorporated by reference in the offering document to provide
investors with information about the issuer
I<0 proposes that the .I* should include additional items not re5uired under the current system
he I<0 would be available to more issuers than the current 0*P system
@uarterly periodic disclosure would be in the form of a @I* and timely disclosure would be made by way of
supplementary information forms (0I*) rather than material change reports (0I* would be broader)
he @I* and 0I* would be accompanied by certificates of senior officers and directors, certifying that the documents
constitute full, true and plain disclosure
#ertification re5uirements for misrepresentations but no opportunity to sue (s' "33 doesnNt apply to these new
documents & only prospectuses)
0till want to keep opportunity to refuse receipt for prospectus on s' I" grounds and want to shift regulation to
continuous documents as opposed to prospectuses (contradictory)
6eview by regulators would be more limited and therefore faster and more comprehensive, ongoing disclosure would
alleviate many concerns and therefore relax certain restrictions
STATUTORY CIVIL LIABILITY FOR PROSPECTUS MISREPRESENTATIONS (s. 130)
Civil liability - full, true and plain disclosure of all material facts
s. 130 & where a prospectus together with any amendment to the prospectus contains a misrepresentation, a purchaser
who purchases a security offered thereby during the period of distribution or distribution to the public shall be deemed
to have relied on such misrepresentation if it was a misrepresentation at the time of purchase and has a right of action
for damages or, where the purchaser purchased the security from the issuer or the underwriter of the securities, the
purchaser may elect to exercise a right of rescission against such person, company or underwriter, in which case the
purchaser shall have no right of action for damages against such person, company or underwriter
s' "3> is available to investors for prospectus misrepresentations in addition to common law actions such as fraudulent
or negligent misrepresentation
s' "3> meant to provide a remedy even in cases where prospectus misrepresentations were not made with an intent to
defraud and to relieve investors of proving actual reliance upon any such offending statements
:akes life easier for investors when suing for misrepresentations
3 issues a P will have to address!
actually bought the securities offered under the prospectus,
misrepresentation made during period of distribution (e'g' what about purchasers in the secondary market but still
during the distribution period & possible for those second stage purchasers to be covered b/c purchase made in
period and likely that they were relying on the prospectus but who is the remedy against b/c havenNt bought from
issuer or underwriter directly but proximity in time & policy)
there was a misrep in the prospectus
o :isrepresentation (s' ") & untrue statement of untrue material fact (positive acts) or omission of providing all
information that would make other information accurate
.ssumes purchasers relied on the misrepresentation & s' "3> deems investors to rely and removes burden of proving
reliance
Who is liable to compensate investors:
issuer (in the case of a primary offering),
selling secholder (in the case of a secondary offering),
each underwriter who is re5uired to sign a certificate attached to the prospectus under s' H8,
each director of the issuer who was a director at the time the prospectus (or amendment) was filed even if the
director didnNt sign the issuerNs prospectus certificate,
every person or company who gave consent in connection with reports, opinions, or statements included in the
prospectus (engineers, lawyers, accountants) but only wrt the specific reports, opinions, or statements made by
them
every person or company who signed the prospectus or an amendment which typically includes the issuerNs #94,
#*4, and any promoter (s' HM) if they are not already sub%ect to liability
Remedies Available
6escission & < in an action for rescission would be the issuer, underwriters and selling security holders (depends
on the underwriting arrangement & if firm commitment then underwriter vs' if best efforts then issuer/selling
security holder)
<amages & <s same as rescission as well as directors, #94, #*4 and experts
o #ap on damages to price of offering (s' "3>(8)) e'g' canNt say if I hadnNt put in this then I would have invested
in another (and now more profitable) investment
o s' "3>(B) & obligation to pay can be reduced if show no cause resulting from misrepresentation e'g' distribution
occurred at same time as rest of market was going down (but determined by court in hindsight once there was
a misrep therefore hard to show it was not caused by the misrep)
?imitation periods (s' "3M)
o 6escission & "M> days
o 4ther than rescission & earlier of "M> days after discovery or 3 years
herefore limitation period may decide what remedy will be chosen
o 1ut #? as well & negligent misrepresentation or fraud
s' "3>(M) %oint and several liability but (I) & avoid deep pocket exploitation (underwriter large investment banker)
(ever had a full trial under s' "3>
Extent of Liability - 3 limitations on amount of damages a plaintiff can recover!
he amount recoverable cannot exceed the offer price of the sec (s' "3>(8))
If a defendant can prove that the damages claimed exceed the ,depreciation in value of the offered sec as a result of
the misrepresentation relied upon- the defendant is not liable for any such excess (s' "3>(B))
Chere an underwriter is a defendant, the underwriterNs max liability is the portion of the offering price
underwritten by that underwriter (s' "3>(I))
Defences available to the issuer and the selling secholder
defendant must prove that the plaintiff purchased the sec with knowledge of the misrepresentation (s' "3>($)) & no
amount of care, good faith or due diligence will protect them from liability
<epreciation not caused by misrepresentation & s' "3>($, B) & onus of proof is on the < and is a high barrier to
meet (shifts risk of failure to make ade5uate disclosure rather than making investor show that they lost money)
o Rationale for strict liability - where the prospectus contains a misrepresentation that adversely affects the
value of the purchased sec the loss should fall on the seller, not the buyer
Defences available to other defendants (s. 130(3,4,5))
Non-expertised portions of the prospectus:
o <efendant didnNt have knowledge of or didnNt consent to the filing of the prospectus (s' "3>(3)(a))
o <efendant, upon learning of the misrepresentation withdrew any consent previously given (s' "3>(3)(b))
o .ny official statement in the prospectus (found later to be false) fairly reflected the official statement, the
defendant believed it to be true, and the defendant had no reasonable grounds for believing otherwise (s'
"3>(3)(e))
o <ue diligence & the defendant did not, in fact, believe there had been a representation and conducted a
reasonable investigation as to provide reasonable grounds for a belief that there had been no misrepresentation
(s' "3>(H))
6e grounds for a belief are reasonable or whether an investigation has been reasonable, the standard is that
re5uired of a prudent person in the circumstances of the particular case (s' "3$)
Expertised portions of the prospectus (disclosure of statements or opinions of experts):
o (on est factum defence & information in the prospectus inaccurately reflected the information that the expert
actually said and the expert will not be liable if they can demonstrate their mistaken belief, based on
reasonable grounds and after reasonable investigation (there!ore unli-el# to pass this part b0$ the# 1ould have
had to read the relevant portions o! the material), that the information in the prospectus fairly represented the
original information provided or that after becoming aware of the mistake, they promptly gave notice of the
error to the 40# and generally (s' "3>(3)(d))
o Chere the expertNs information is accurately reproduced but is itself the source of error s' "3> offers the expert
a due diligence defence (s' "3>(A))
Expertised portions of the prospectus (non-expert defendants):
o <efence if they didnNt believe and had no reasonable grounds to believe that there was a misrepresentation (s'
"3>(3)(c)) & donNt have to prove a reasonable investigation to verify the accuracy of the expertNs information
Unavailability of rescission - when sec are purchased from an underwriter in connection with a public offering, the
rescission right in s' "3> may be exercised only against the underwriter and not the issuer b/c the investor purchases the
sec from the underwriter, not the issuer (.err v& ,anier /eather) but this would not apply in the case of a best efforts or
an agency transaction
Due Diligence
#hecklist & create paper)trail to prove that they were conducting reasonable investigations e'g' p' $AA)$A8 sample
of a due diligence checklist & kinds of issues and information collected and examined in order to put a prospectus
together
0tatutory standard of reasonableness s' "3$ & prudent person (not the standard of a prudent director) in the
circumstances of the particular case (element of sub%ectivity & taking it into account includes what the < brings to
the case & background experiences and 5ualifications & cases do an individual assessment of each <)
?ow degree of use & some say issuers adhere to a high standard and there is nothing to sue about but some say if
small enough, not profitable to sue
#lass actions increasing but issues usually resolved in settlements (minimi7e reputation costs)
Escott v. Barchris Construction (1968)
Facts: 1archris constructed and e5uipped bowling alleys' 4ver)optimistic of staying power of popularity (made too many
and no one bought) therefore issued debt securities/debentures and prepared a registration statement (D0 prospectus)'
Gowever the prospectus didnNt disclose the loans to senior officials with proceeds' he Ss were unenforceable b/c it took
so long to build that the customers werenNt interested anymore' I'e' they didnNt disclose contingent liabilities to third parties
(accounts receivable & had to pay even if customers didnNt pay)' <irectors, etc' didnNt argue that there was a
misrepresentation but that the whole document was an expert document b/c prepared by their lawyers (werenNt involved in
preparation to say they were liable) and statute doesnNt speak to what an expert portion of document is'
Issue: .ttempted to define the level of << re5uired by various parties in the prospectus
Ratio: 9ven if it was prepared by people thought to be experts, issuer and 14< are ultimately responsible and %ust b/c
delegate to lawyers, doesnNt mean you arenNt principle person to deal with re liability' here could be expert portions (case
by case basis) but by definition the prospectus not an expert document as a whole' #easonable due dili'ence seems to
indicate an obli'ation to conduct independent investi'ation to verify stmts made by the issuer to ensure the 0 constitutes
full, true and plain disclosure.
Analysis: Gow go about analy7ing role of different people & different standards for individuals depending on level of
involvement in preparing pros and depending on background 5ualifications that they bring to the task' #ategories of <s &
inside directors and officers (directors who also perform work for issuer & #94, #*4, others who on 14< b/c of their
management knowledge about the issuer); lawyer)director; outside directors (on 14< but not in full)time capacity
associated with issuer & use for prestige or business background); underwriters & closely connected to preparation of
prospectus; experts (auditors always experts re financial statements)
Inside directors & directors who are also full)time management of the issuer will have difficult time & intimate
knowledge of operating history, current business plan & hard to show they had a reasonable belief that there was no
misrepresentation (not reasonable by reason of their position)
#*4 did not do reasonable investigation and was in position to know and must have known of misrepresentations; did
not conduct reasonable investigation; could not try and blame lawyer
#94 aware of relevant facts
President L ;P (founders) despite limited expertise L education & whether or not you understood was irrelevant you
should have known & wonNt take into account education (offset by presumption of ongoing detailed information about
the business of the issuer) ,must have known what was going on- and no investigation of facts that went into
prospectus
Uoung in)house counsel/director & even though didnNt participate in mgmt & since he made no reasonable
investigation no DDD
didnNt participate in management but kept record of the corporate minutes & court said he probably didnNt know b/c
of recent history with issuer but as a lawyer should have known obligations under the statute (had capacity to make
more of an investigation even though no ongoing information about the issuer)
4utside <irectors obliged to do independent investigation E no <<<
relative lack of day to day involvement with the issuer & extent of reasonable investigations important (vs' belief &
show grounds of no belief) & undertake independent verification of material in prospectus by management of
company (more than listening to presentation but ask 5uestions and if necessary go out and independently
investigate claims in the prospectus & busy and not able to devote time to examining prospectuses & if anything that
triggers concern think about resigning from board or take independent action re investigating but research says that
almost never happens & concern for corporate governance in #anada)
Dnderwriters liable, cannot %ust rely on the company & policy purpose of making the u/wNs liable is to protect the
investors, if allowed to rely on mgmt then no extra protection for the public
important role b/c of the trust that the legislation puts on them to act as gatekeeper/independent oversight role & in
1, treated adversely b/c didnNt do independent verification re statements in the prospectus and the whole point of
the underwriter is that they donNt take at face value what management says and if they arenNt then no reason for
them
.ccountant relied on others & should have known including expertised portion
auditor as expert similar to underwriter & relied on b/c of their expert status and not enough to accept at face value
what management says b/c then not performing oversight role (not sufficient to merely ask 5uestions & that may be
ok for outside directors) and policy & independent Ps but reality is they have interest in being competent therefore
concentrate on specific security issues (issuers may only issue once in a lifetime) but sometimes have conflict b/c
have ongoing relationship with issuer
Policy securities legislation is designed to be proactive by catching mistakes before they hit the market, by holding as
many ppl liable as possible (%oint L several) E make them more careful'
9verything is %udged in GI(<0I/G & if in hindsight we think you have been careful then the <efence of << will be
available'
YBM Magnex International (2002)
Facts: .ttention focused on disclosure of risk by U1: to investors who purchased in the distribution' Investigation by D0
authorities and found out by principles being refused visas back from eastern 9urope therefore set up 0pecial #ommittee'
6efusal of visas; articles in 9uropean press that linked U1: principles to organi7ed crime; associated firm received large
payments and their purpose wasnNt explained in prospectus & severed ties with firm before prospectus therefore issue as to
whether they had to disclose the purpose behind those payments' 9xistence of customers & consulting firm was given list
and some of those customers didnNt exist (information re ma%or suppliers/customers needs to be accurate)'
Issue: Chether the prospectus constituted full, true and plain disclosure'
Ratio: he test for materiality in the .ct is ob%ective and is one of market impact' .n investor wants to know facts that
would reasonably be expected to significantly affect the market price or value of the securities' he investor is an economic
being and materiality must be viewed from the perspective of the trading markets, that is, the buying, selling or holding of
securities' The reasonable investor test/substantial likelihood test (0# Industries, Inc' v' (orthway) and is used for
historic information like past financial results or completed business transactions this test frames the materiality
assessment' Chen facts point to a future event, the courts apply the probability/magnitude test, which analyses the
current value of information as it effects the price of securities discounted by the chances of it occurring (6e 0heridan, 6e
<onnini)
Adequacy of 0rospectus (ocument
.rgued they only knew about risks and there is no obligation to disclose risk (%ust facts)
40# disagreed & risks are facts and any contingent event is a fact
U1: was sub%ect to a set of risks specific to itself and these risks were not disclosed
(efences
9xamined 14< as a whole and then role of specific members of the 14< and whether should have done better wrt
their 5ualifications (discharge responsibility/diligent enough)
Role of the BOD:
/ave weight to attempt to respond to deficiencies & 0pecial #ommittee, engaged management consulting firm,
alerted legal counsel (and relied on him) to take special care in the writing up of key elements of prospectus (issue
re specific deficiencies and way counsel did %ob and sanctioned him specifically but nothing in .ct that said
regulators are estopped from sanctioning lawyers and law society has role but regulators can enforce against
market participants) but 0pecial #ommittee main actor had conflict of interest b/c underwriter & regulators
conclude that disclosure was deficient
:itchell & divided loyalty and when 0# got information from investigations that was adverse, forwarding first to
underwriter before the 14< therefore conflict of interest affected his %udgment adversely
<avies and 0chmidt & different conclusions based on how involved and background experience (< & no shortage of
experience therefore should have been more diligent and more aware and argument of distance dismissed b/c
irresponsibility not an excuse; 0 & real estate agent argument that was involved but lacking in knowledge or
experience so no one told him anything therefore met his due diligence defence & ,0chmidt, unlike :itchell and
<avies, did not have any information that other <irectors did not have or did not share with the 1oard' Gis belief
in the legitimacy of the business and no managerial improprieties was not unreasonable' Ge admittedly gave more
weight to these factors than to other risks that U1: might face' Ge clearly could have done more on the 0pecial
#ommittee and he should have' (evertheless, he had no knowledge of any facts not known to the <irectors
generally and to :itchell and <avies more specifically- & therefore the due diligence defence was available to
him)
Peterson & lawyer and director b/c of prestige factor & regulatorNs disappointed re amount of disclosure and as a
lawyer should have known that :itchell was in a position of conflict of interest (key roles in 0pecial #ommittee
and underwriter) & available but %ust barely & meets legal test but disappointed
Underwriters - pointing to their due diligence but regulators said didnNt do enough to respond to problem that :itchell
was in a conflict of interest position and should have got an independent assessment of 0pecial #ommittee b/c :itchell
canNt make ob%ective opinion about it (underwriters role supposed to ensure integrity of prospectus and they have
the deep pockets therefore they will be the ones to be sued rather than the company itself)
/riffiths & experience as investment banker should have understood need to do more independent investigation of
material in prospectus
Section 1!6 Orders
#ease trading order of U1:, prohibiting some directors from acting as directors of any issuer, costs & now they can
fine people but cap of J":
Conclusion: he prospectus didnNt constitute full, true and plain disclosure'
CONTINUOUS DISCLOSURE
Integrated disclosure & shift away from emphasis of initial time of transaction and more emphasis on continuing
disclosure obligations (moving from a system of transaction)based disclosure to a system of integrated or issuer)based
disclosure)
Dnderlying rationales (legal and economic) for continuous information & why when not issuer that is getting the profit
Important for people who purchase sec in the secondary market b/c they donNt receive a copy of the prospectus that
was produced by the company when the sec were first distributed to the public, which constituted full, true and
plain disclosure of all material facts relating to the sec being sold (s' HI) at the time
#ost shifting/spreading & issuer should bear the cost when investors decide to trade or not in the secondary market
4ngoing accountability b/c even though money goes to issuer at point of time but they have ongoing use of those
proceeds
6ights attached to securities e'g' voting & need information to make a useful right to have (corporate law
obligations and not securities law matter)
Public confidence & if no disclosure re5uired, you wonNt get a vibrant secondary market (if people donNt think they
can sell after the fact then they wonNt buy in the first place)
Providing information (good and current) helps determine the value of the securities & efficient market & price of
securities incorporate all the relevant information about those securities therefore fits with legal fairness and
economic efficiency ob%ectives & promotes e5uality of opportunity b/w people with inside information and other
investors
.rguments against ongoing disclosure
#ost argument & economists say not efficient to make mandatory b/c increase costs without effective benefit on
other side (let people ask for the information that they want and issuers will disclose voluntary b/c need people
interested in stock and attract capital and leaving alone will result in balance b/w relevant disclosure and cost)
shifting) & over)regulation & market less efficient b/c too many onerous re5uirements for a few bad issuers
(especially since investors donNt even look at prospectuses) therefore analysts should bear the cost and disseminate
the information
$ types of continuous disclosure obligations for ri! (") regular or periodic disclosure of annual and 5uarterly financial
statements, annual reports, and information circulars in connection with soliciting proxies for shareholdersN meetings
and ($) timely disclosure of material business developments when they occur
Categories of Continuous Disclosure Obligations
"' Periodic <isclosure (.nnual *0, Interim *0, .I*, :<(., management proxy circular (more of a corporate issue))
$' imely disclosure re5uirements & section BH & any material change
(" and $ triggered by becoming 6I & once receipt for prospectus)
3' Insider 6eporting & s' ">B (disclose trading of securities of issuer of which you are an insider)
A' 9arly Carning <isclosure 6e5uirements & disclose that you have accumulated a significant block of stock in issuer (tied
to take)over bid rule that everyone must know when happening)
(3 and A imposed not on issuer but on those who meet their re5uirements)
PERIODIC DISCLOSURE REQUIREMENTS
Financial Statements 51-102 Part 4
Annual !inan$ial statements
. ri must file comparative (information about year %ust ended and compare statements with the previous year) annual
*0 within 8> days of most recent financial year (A'$)
0tatements include income statement, statement of retained earning, cash flow statement, balance sheet and notes to the
financial statements (A'")
:ust be approved by 14< before statements are filed (direct attention of 14< to accuracy of statements before filed
with regulators) (A'H)
:ust be in accordance with /..P (s' BM(")) & common to use non)/..P measurements (use both) E difficult for
investors to compare /..P with non)/..P and across issuers
:ust disclose when do this
#I#. sets up /..P & expertise but not a public body therefore isnNt easy to lobby for change of what constitutes
/..P
:ust be accompanied by an auditorNs report (A'"($))
<elivery A'I & used to have to deliver to security holders but now must send a re5uest form to security holders to
re5uest copies of the financial statements and the :<L. that accompany them (investors donNt read them therefore not
useful to deliver vs' filing with regulators to endure their accuracy)
nterim !inan$ial statements 2 3&4 and 3&3
he 5uarterly statements must provide year to date information in all statements and specific information for the
particular 5uarter in the income and cash flow statements
0ame format of information as annual & the statements must include a balance sheet for the most recently completed
financial year; and an income statement, a statement of retained earnings, and a cash flow statement, covering the
corresponding period in the previous financial year
. lot can happen in year & 5uarterly financial statements (3, I, 8 month period file interim financial statements & AH day
deadline after the 5uarter)
#omparative & compare 5uarter that you are providing the statement with the e5uivalent from previous year
Cho approves them (A'H(3)) & 14< can delegate to audit committee (subcommittee of the board) & make life more
manageable for 14< (delegate a 5uarterly obligation) but impose a rigorous enough obligation that they have been
examined carefully before goes to investors
9arlier versions re5uired interim must be audited (want to know that assumptions have been examined) but when
went out for comment debate & compromise therefore if not audited that fact has to be disclosed A'3(3)(a) E best
practice model & leaving up to issuers to decide whether audited but re5uires disclosure therefore they would have
them audited b/c it would be best practice)
<elivery same as annual & provide a re5uest form so that investor can take initiative to re5uest statements
Regulator# revie1 o! FS
If take action for inaccuracies it is b/c have had complaints form investors, analysts (stock price tanked) E reactive
:ore proactive & regulators re5uest modifications to provide more accurate information for investors therefore
instituted risk)assessment review (like that done with prospectuses & initial screening of whether should get a full or
issue)oriented review & focus on part of document e'g' risk factor information) & concerned about things like executive
compensation, recognition of revenue, way they amorti7e costs over time
6isk assessment model (0taff (otice "")B"8 p' A">, A"H) certain issues in *0 will trigger attention! whether
issuer/industry having financial difficulty, whether issuer recently restated previous years financial results, whether
issuer changes policy and rationale not apparent, auditor report includes 5ualified opinion (unable to say anything about
*0 b/c not enough information about assumptions to get to numbers or not able to get independent verification of
information given by issuer)
0tate of the art conclusions that they have done e'g' supp' p' 3I" 0( H")B"$ & review of disclosure documents for .pril
$>>$):arch $>>3 & ways they have found deficiencies in prospectus and ongoing disclosure & send message re what is
expected for issuers and demonstrate they are doing something
*eatures of *0 that are unacceptable (p' 3IA) & in 8O of reviews, issuers didnNt provide disclosure materials at all
or so deficient they were made to re)file
:ore specific deficiencies & revenue recognition big deal e'g' (") declare as revenue that which should not be
considered as such e'g' issuers selling at a particular price originally with price agreements & sell at one price and
then later reduce the price to new customers & agreements give original customers credits i'e' contingent obligation
to drop price; ($) getting revenue in that they claim (gross/net) & issuers can be intermediaries b/w manufacturers
and retailers to public & sending out again 5uickly and getting commission off of difference in price but say
revenue is entire amount getting from retailer when going directly back to manufacturer
6egulator dialogue with issuers to enhance disclosure (p' 3IA) & executive compensation and non)/..P earnings
measures (earnings before discounting claims e'g' tax, interest, etc') & allow investors to make reasonable comparisons
A!ter the !a$t en!or$ement o! !inan$ial statements
Chen they donNt catch issuers giving sub)standard information to the public & sanctions (5uasi)criminal, civil
shareholder suits and regulator order of compliance from court, s' "$B regulators take administrative enforcement
orders & most useful part of section is that give reg %urisdiction/power to act if they think it is in the public interest to do
so & usurp power of courts e'g' power of reg to extract an administrative penalty fine of up to J": not very different
from courtNs criminal power to fine & should have to have the criminal standard of proof vs' long time of court system
and lack of securities knowledge of %udges & regulatory expertise vs' criminal sanctioning abilities)
Re Sheridan (material change/timely disclosure and I*0)
Facts: :ining pro%ects & getting ready to mine and ministry of environment concerned (well)known to security regulators
and : of 9) and wanted an in%unction of operations b/c didnNt have sewage)works approval' #o didnNt disclose application
by : of 9 in I*0 and regulators assess from enforcement point of view'
Issue: Chether co should provide information in I*0 about the application made by : of 9 (serious affect on short to
medium term profitability)'
Ratio: Chat constitute /..P in I*0 (discussion in #I#. handbook) ,I*0 should contain information concerning
subse5uent events and concerning other matters, not previously reported to shareholders as part of the annual financial
statements, such as changes in contingencies or commitments- e'g' changes in contingencies and commitments and notes of
*0 & must disclose in note to I*0 that there was an in%unction being sought which if successful would stop commercial
exploitation of mining opportunity' #o responded by saying mining co donNt put notes in their *0' 6egulators responded by
saying & not an excuse to say complying with industry standards when they donNt comply with #I#. (i'e' not answer to say
other issuers do not comply)'
Probability/magnitude test & the existence of materiality in cases of contingent or speculative developments depends
at any given time upon a balancing of both the indicated probability that the event will occur and the anticipated
magnitude of the event in light of the totality of the company activity!
:ateriality is reached when some unspecified minimum threshold of both probability and magnitude is
reached' 4nly when there is some probability of the event2s occurrence and some magnitude to the event can it be
expected that a reasonable investor would consider the disclosure a factor in making an investment
decision' :ateriality is indicated when there are high probabilities the event will occur and high magnitudes of the
event2s impact on the registrant& /nstead of balancin' the t%o a'ainst each other, the materiality analyst %ill
%ei'h both of them separately and then discount the potential ma'nitude by the probability of non7occurrence.
<espite problematic that no notes and didnNt even consider that disclosure should be made & not enough information for
assessment re whether would have had significant effect on profitability & no sanctioning decision against co or 0 & %ust
send message to similarly situated issuers re contingencies that should go into I*0 (increase 5uality of interim
statements b/c annual statements are audited) & weak deterrent
Re Livent Inc.
Facts: rading in shares of ?ivent were cease traded by the #ommission due to a failure to file the financial statements
re5uired by the 40.' .llegations! that ?ivent made statements in its interim and audited annual financial statements that, in
a material respect were misleading or untrue or did not state a fact that was re5uired to be stated or that was necessary to
make the statements not mislead; that <rabinsky (director, #94), /ottlieb (director, President, member of audit committee),
opol (director) and 9ckstein (;ice President) authori7ed, permitted or ac5uiesced in ?ivent making those statements in
?ivent2s interim and audited annual financial statements' hree types of misconduct!
Improper recording of financial information in the books and records of ?ivent & $ sets of books used with " disclosed
and " for internal purposes with more accurate accounts of transactions & sales of production rights to different agents,
etc'
Improper recognition of revenue& claims made on income of co but side deals E contingencies that result in revenue not
benefiting the issuer & promising re)ac5uiring assets that it was selling in the event that buyers didnNt make expected
profits
Payment of false invoices ) improper payments and falsifying invoices such that principles siphoning money out of co
and werenNt disclosing
Ratio: he conduct of ?ivent was contrary to the public interest' he issue was never resolved as enforcement action b/c
taken up in criminal context (fraud) & smoke and mirrors (not exercising powers and sanctioning people)'
AIF and MD&A
@ualitative information about issuer that made available to investors and ex of trend towards soft information
disclosure (vs' *0 & hard information numbers)
Policy & more context to understand issuers activities and prospects & never possible to have too much information to
even the playing field to stand in shoes of management (:<L.) but only compounding problem by giving more and
more information and issuers hiding the ball through too much information (E transparencyF)
9ligibility & public float test (market capitali7ation of JBH: & important in 0*P & senior issuers) & general, ongoing
re5uirement for issuers regardless of whether using P4P
9xemption from .I*s for venture issuers (not on larger exchanges)
AA)">" - governs process (0*P and current .I* on file)
AIF 51-102 Part 6
.ll 6I that are not venture issuers (not listed on 09 or large D0 exchanges) (I'")
8> day deadline from end of year to file (I'$)
he .I* is a lengthy and detailed, prospectus)like document that is intended to provide background information that is
essential to a proper understanding of the nature of an issuer and its operations and prospects (AA)">"*")
It was originally only re5uired for issuers using the P4P system but is now mandatory for some larger issuers whether
they are using the P4P system or not
he disclosure provisions in the prospectus and .I* re5uire summary financial information as well as general
background information about the issuer and its business i'e' the story of the business & information that would be of
interest to owners or potential purchasers of the issuerNs sec
Dpdating this company)level information helps investors in the secondary markets make informed trading decisions
and provides a foundational document for the P4P system, expediting the process of issuing new sec
51-102F2 (p. 135 what goes in)
What is an AIF
Dpdated every year whether or not making a distribution and emphasis of forward)looking information but not to
point of *4*I (forecasts or pro%ections) and information limited by re5uirement of materiality & tell market what
is material (Part "(a))
<efinition used is consistent with #I#. handbook (describes all principles of how put *0 together) therefore for
purposes of .I*s and :<L. use materiality concept from #I#. and not 40. & discrepancies b/w standards in
legislation and in rule & test is reasonable investor (ob%ective) but no guidance as to what the %udgment of a
reasonable investor would be (Part "(e))
Content of AIF (Part 2) - similar to prospectus b/c meant to be an update of prospectus)level disclosure; segmented
information (business of issuer as defined in #I#. handbook)
1usiness of issuer (Item H ($,3,A)) & acknowledgement of social responsibility more important than in the past
and this reflects how know what reasonable investor is & changes in accordance with items put in .I* & once in
there come to expect what information should have and shapes what can be considered as influencing investor
decision)making & cause and effect & benchmark for which information disclosure is changing
o 0tandard for disclosure is whether influence 6I but if along with that thy impose re5uirements, that has
feedback effect on what investors will consider in their decision)making (accounts for changes in
definition of 6I)
Item ">'$ & new and important b/c re5uires disclosure any time directors, etc' have been the sub%ect of cease
trade orders, penalties or sanction by the regulators & feedback mechanism (no continuous manipulation of
market b/c people donNt know about the issuerNs past)
MD&A 51-102
#loser link to *0 than .I*
*inancial statements are static and speak only to an issuerNs financial history but investors want to know how the issuer
is likely to perform going forward, which re5uires sub%ective inferences to be drawn from the financial statements &
provides current financial results, position and future prospects (soft or predictive information)
:anagement discussion and analysis of financial condition and results & rationale & financial statements alone do not
provide an investor with the sub%ective insights about an issuerNs business that managers possess
H")">$ *" & :<L. is a narrative explanation of how company performed during the period covered by the financial
statements and of the companyNs financial condition and future prospects (helping investors understand *0) (Part "(a));
provide forward)looking information but no detailed forecast of future financial information (Part "(g))
(ature of information organi7ed around 3 themes!
?i5uidity
#apital resources
6esults of operations
#onsidered more important than .I* b/c delivery obligation different (no re5uirement in .I*s)
Interim :<L. (for interim *0 as well as annual *0)
.pproval re5uirements & approved by 14< and if interim this can be delegated to audit committee (H'H)
40# issued recent notice re ade5uacy of :<L. disclosure & :<L. omit information, disclose too much immaterial
information, disclose good but not bad news and no forward looking information therefore issuers need work
Outstanding Share Data (51-102 5.4)
6i re5uired to provide disclosure about their outstanding voting or e5uity sec in or as supplement to their annual and
interim financial statements ((I I$)">$)
he disclosure is share information prepared as of the latest practicable date (i'e' should be brought down to a date as
close as possible to the date of actual filing of the financial statements & merely filing share information current as of
the last date in the accounting period to which the financial statements relate is not sufficient)
PERIODIC DISCLOSURE REFORM PROPOSALS
Canadian Rules Will Demand More From CEOs, CFOs and Audit Committees (Torys Article)
3 draft rules which, if adopted, most public issuers in #anada will have to provide #94 and #*4 certifications and
comply with audit committee rules that are substantially similar to comparable provisions of the D'0' 0arbanes)4xley
.ct of $>>$ (0)4x), and 09# and D'0' stock market re5uirements' In addition, public issuers will only be permitted to
appoint auditors who are in good standing with the #anadian Public .ccountability 1oard; they would be the first of
several investor confidence initiatives to be undertaken in #anada'
"' Personal certification by #94s and #*4s of .nnual and Interim *ilings ) apply to all reporting issuers, other than
investment funds'
:isrepresentations and *air Presentation & four times a year, the #94 and #*4 will have to personally certify that,
to their knowledge, their companyNs annual or interim filings (the .I*, annual or interim financial statements, and
annual or interim :<L., together with documents incorporated by reference) 5i) do not contain a
misrepresentation; and 5ii) fairly present in all material respects the companyNs financial condition, results of
operations and cash flows as of and for the periods presented in the filing'
<isclosure #ontrols and Internal #ontrols & A times a year issuers have to provide reasonable assurances that
material information re5uired to be disclosed by the company is made known to the #94 and #*4 and is disclosed
within the time periods re5uired by #anadian securities laws; issuers will also have to design internal controls that
provide reasonable assurances that their financial statements are fairly presented in accordance with /..P'
.nnually, the #94 and #*4 will be re5uired to evaluate the effectiveness of the disclosure controls and the
internal controls, and present their conclusions in the annual :<L.'
$' he 6ole and #omposition of .udit #ommittees & a fundamental premise of good governance is that the external
auditors report to a body that is independent of management' .uditors are, in theory, responsible to the board and audit
committee, acting in the best interests of the shareholders' he threat that the auditors will be beholden to management
is addressed in this draft ruleVby re5uiring independence, financial literacy and a direct reporting relationship between
the audit committee and the external auditors'
(umber and independence of audit committee members ) ?arge issuers will be re5uired to have at least three
directors on their audit committee, all of whom will have to be independent' ;enture issuers will not be sub%ect to
this re5uirement, although corporate law may re5uire them to have an audit committee comprised of a ma%ority of
non)management directors' ;enture issuers will be re5uired to disclose in their .I*s the name of each audit
committee member and whether or not the member is independent'
,Independent- & a person have no direct or indirect material relationship with the issuer' . ,material relationship-
is one that could, ,in the view of the issuerNs board of directors, reasonably interfere with the exercise of a
memberNs independent %udgment'- Individuals will lack independence if, in the past three years, they (or in most
cases, immediate family members) were 5a) officers or employees of the issuer (or its parent, subsidiaries or
affiliates); 5b) affiliated with the companyNs auditor; or 5$) an executive officer of another company that had an
executive officer of the issuer on its compensation committee' In addition, anyone who accepts, directly or
indirectly, any consulting, advisory or other fee from the company (other than directorsN fees and committee fees),
or is ,affiliated- with the issuer, will lack independence'
*inancial literacy and financial expert ) .ll members of the audit committee of a large issuer will have to be
financially literate (that is, able to read and understand a set of financial statements of breadth and complexity
similar to the breadth and complexity of the issues expected to be raised by the issuerNs financial statements) but no
re5uirement to have a financial expert
(ew <isclosures ) ?arge issuers will have to disclose in their .I* 5a) the audit committee charter; 5b) the name of
each member of the audit committee, and if they are not independent, the reason; 5$) the identity of any audit
committee financial expert(s) and if there is no such expert, that fact and the reason must be stated; 5d) in some
cases, the 5ualifications of the audit committee financial expert(s); and 5e) whether the issuer has relied on an
exemption from the rule and how that exemption materially affects the audit committeeNs ability to act
independently and satisfy the other re5uirements of the rule' he management proxy circular must include a cross
reference to the section of the .I* where these disclosures are made' ;enture issuers are sub%ect to less robust
disclosure re5uirements' 4ther disclosures in the .I* will include 5a) instances where the board did not adopt a
recommendation of the audit committee to nominate or compensate an external auditor; 5b) a description of
specific policies and procedures, if any, for pre)approving non)audit services; and 5$) detailed disclosures of
various fees billed to the issuer by the external auditor, broken down by category'
3' he #anadian Public .ccountability 1oard ) re5uires that financial statements of public issuers be audited by a firm
that is in good standing with the #P.1' .uditors that have restrictions placed on them by the #P.1 or that are
sanctioned by the #P.1 must provide notice to the securities regulators and, in some cases, also to the public issuers
they audit'
OSC`s Power (Re Audit Committees and Other Governance Issues) Warrants Close Scrutiny
4f concern is the ability of the commission to step into governance issues which traditionally have been internal to the
corporation and regulated under federal and provincial corporate statutes'
It is now time for regulators and legislators to think carefully about whether we should have a securities regulator that
makes rules and policies relating to capital markets issues as well as internal corporate governance issues' .lthough it
may be argued that the commission2s mandate to protect investors provides the %ustification for regulating audit
committees, this is debatable and it is certainly a break with the traditional scope of the commission2s power'
his is not simply an issue of blurred line between corporate and securities law here (which has always been gray) & at
issue are the implications for capital market participants, particularly corporate issuers, of the increasing power of
securities regulators'
#orporate issuers are facing compliance with increasingly onerous and possibly inconsistent laws'
In adopting rules regarding composition and function of audit committees, the 40# is moving well beyond the
traditional disclosure)oriented model of securities regulation into terrain that has heretofore been the prerogative of the
legislature' he legislature has sought to ensure that our corporate law takes into account a variety of ob%ectives which
include not only investor protection but also a flexible regime that allows companies to tailor governance models to
their particular needs and circumstances' #orporate issuers are surely losing flexibility in this regard'
Periodic Disclosure Requirements Re Reform
3 initiatives!
#ertification of *0 by #94 and #*4 & meant to concentrate attention of them on whether *0 E fair rep of the
actual financial position of the issuer
(ature of internal audit committee & mandatory to have one and re5uirements for being a member of the
committee (3 from 14< & financial literacy E read and understand *0 and independent E p' A"A 14< members
that have material relationships with the issuer e'g' family relationships, full)time employees of the issuer, being
an exec officer of another co that had an exec officer of the issuer on its compensation committee & assesses and
recommends comp for sr officers)
#anadian Public .ccountability 1oard & only use auditors that are in good standing with this board (overseeing
activities of auditors to ensure that auditors operate in independent way & e'g' not also in management
consulting, accounting, etc' not concerned with other positions they hold in the issuer)
#riticism & putting these re5uirements on issuers E regulators mandating corporate governance standards (internal
procedures & who put on audit committees) and securities regulation is a different enterprise from corporate law and not
the business of securities regulators
If we donNt put these put this in place, we wonNt get foreign investors (not as strict as 0 4x) & 1# doesnNt like it
b/c no evidence of problems re ade5uacy of *0 and auditors and reality is that foreign issuers wonNt be interested
in venture corps (focused on large issuers in 4()
1ut we have the oppression remedy & but shouldnNt we shift the cost to the issuer rather than making the
shareholder sue (but these procedures are costly and may have adverse affect on the shares which also affects the
shareholders anyways)
here are some %urisdictions that donNt have the distinction b/w corporate and securities law (.ustralia)
TIMELY DISCLOSURE REQUIREMENTS
imely disclosure alerts the market to news affecting a ri promptly after the ri becomes aware of it & without it those
investors lucky enough to have special access to such corporate information would have an unfair advantage over
others
3 issues! how soon must new information be publicly disclosedF Gow should new information be publicly disclosedF
Chat information triggers an obligation to make public disclosureF
When a material change occurs in the affairs of a ri, the issuer must disclose the change forthwith (s. 75(1))
despite the 10 day filing requirement
Section 75 - publication of material change (and (I H")">$ & material change report (Part B))
(") where a material change occurs in the affairs of a reporting issuer, it shall forthwith (same or ne't da#) issue
and file a news release authori7ed by a senior officer disclosing the nature and substance of the change
o . companyNs press release should contain enough detail to enable the media and investors to understand the
substance and importance of the change it is disclosing (H")$>" & $'"($))
o . senior officer must authori7e the news release
o Chere sec are listed on a stock exchange the ri must also comply with the exchanges rules
o Issuing a news release doesnNt guarantee that the media will publish it
($) the reporting issuer shall file a report of such material change in accordance with the regulations as soon as
practicable and in any event within ten days of the date on which the change occurs
o H")">$*3 & what goes into the material change report (Items A and H & provide significance and impact of the
material change without having to refer to other material)
o In addition to the news release, a ri must make a public filing with the 40#, which consists of a copy of the
news release filed forthwith (s' BH(")) and a material change report (s' BH($))
o :aterial change report must be made as soon as practicable and in any event within "> days of the change (s'
BH($))
o *orm $B & guideline (6eg' s' 3(")(a))
Material Information
:aterial fact is something new where as change is change from pre)existing state; :* can be external but becomes
change when affects issuer (becomes internal to the issuer) and material fact can be beyond operations, capital, etc'
Material Change
~material change & s' "(")(a) wrt an issuer other than an investment fund!
(i) a change in the business, operations or capital of the issuer that would reasonably be expected to have a
significant effect on the market price or value of any of the securities of the issuer (but it is possible that a
development that doesn6t $onstitute su$h an internal $hange to have an impa$t on the mar-et pri$e o! an issuer6s
se$), or
o #hanges internal to the issuer & not significant changes in bank interest rates (vs' if defaults on loan b/c of
interest rate change) or in changes in I. (external to issuer)
(ii) a decision to implement a change referred to in subclause (i) made by the board of directors or other persons
acting in a similar capacity or by senior management of the issuer who believe that confirmation of the decision by
the board of directors or such other persons acting in a similar capacity is probable
o :aterial change occurs once decision to make a change is final rather than when the change actually occurs &
too limitedF (o b/c not what it is getting at (not only things that re5uire 14< approval are disclosable)
Problems with definition:
<isclosure obligation is limited to changes b/c of the assumption that all material facts that are not material
changes have already been disclosed by the issuer
o .lthough the 1# #. said that results of a mining property could not constitute a material change (b/c it may
constitute a basis for a perception that there has been a change in the value of an asset which is a far different
thing than a change in an asset), the 0## re%ected this narrow view of a material change
<efinition includes a decision made by the board of directors or other persons acting in a similar capacity or by
senior management of the issuer who believe that confirmation of the decision by the board of directors or such
other persons acting in a similar capacity is probable
o ?imits material changes to those matters that re5uire approval by the 14< when many important business
decisions (which could have an effect on the price of an issuerNs shares) can be made by senior managers
without any need to seek 14< approval
. change is material if it would reasonably be expected to have a significant effect on the market price or value of
any of the securities of the issuer
o (ot clear when the value of sec would be affected with no corresponding effect on their price
o (ot clear why regulators ought to be concerned with changes that would not affect the price of sec
o .dding the word value doesnNt prevent technical arguments to avoid compliance b/c obligation to disclose is
triggered by changes that would reasonably be expected to gave an effect on an issuerNs sec and not merely by
changes that are subse5uently observed to have such an effect
o (othing that could disclose that would change value but not also affect price e'g' asset ac5uired that would
change value of issuer but not price of securities but would have an affect on price even in a bare market b/c
%ust re5uires expectation of change
iming of disclosure for transactions that are still sub%ect to negotiation
o &asic v. +evinson )8S SC, 19::*
Facts: 1 was approached by a firm about a possible merger' 1 made 3 public statements denying the
merger discussions' Chen the deal was announced and 1Ns share price increased many investors who had
sold their shares prior to the announcement sued, alleging that they had suffered losses as a result of their
reliance on 1Ns untrue denials of the merger'
Ratio: he general test to apply in determining whether information is material is the 0# Industries test
& substantial likelihood that a reasonable shareholder would consider it important in deciding how to vote
and there must be a substantial likelihood that the disclosure of the fact would have been viewed be the
reasonable investor as having significantly altered the total mix of information made available'
Analysis: In the context of merger discussions, it was inappropriate to attempt to formulate a bright)line
test as to when the discussions become material' :ateriality is fact)specific and depends on the
probability that the transaction will occur and its significance to the issuer'
Material Fact
~material fact (s' ") & when used in relation to sec issued or proposed to be issued, means a fact that would
reasonably be expected to have a significant effect on the market price or value of the sec
No Individual Remedy
Chere an issuer fails to comply with its timely disclosure obligations a shareholder canNt seek an order for disclosure
from the court & it is for the 40# to take action to compel compliance (Stern v& mas$o)
NP 51-201
Provides that the timely disclosure obligation applies generally to only material changes (3'"(A)) & (P A> attempted to
set up new substantive rule that new material information should be disclosed which meant material fact and material
changes which went beyond the legislation which merely re5uired material changes and H")$>" pulls back from this
criticism and indicates that what is re5uired is material changes
:arket impact test for materiality (what will affect market price of securities) (A'"("))
:aterial fact & (") significantly affects the market price or value of a sec or ($) would reasonably be expected to have a
significant effect on the market price or value of a sec (s' A'"($))
:aterial change varies depending on background of issuer (si7e, nature of business and nature of market conditions that
it is dealing with) and if made earnings pro%ection and closely watched and under volatile market conditions, that could
be considered material depending on background conditions (A'$)
Cays material change can be determined (A'3)!
#hanges in corporate and capital structure, financial results, business and operations (commencement of material
legal proceedings), ac5uisitions and dispositions, credit arrangements
(ot re5uired to interpret external political, economic or social developments but if direct affect on issuer and
uncharacteristic affect relative to competitors in industry then re5uired to interpret (A'A)
9xtension from language of s' BHF 1ut this is policy as opposed to obligation to comply (not merely guide)
Confidential Disclosure
Chen a ri has knowledge of sensitive confidential information that is material that must be disclosed eventually but is
not ready to be disclosed and premature disclosure could cause the issuer to lose valuable opportunities to the detriment
of the issuer and its investors e'g' an oil company involved in negotiations to ac5uire property that the company
believes has substantial reserves' Dntil a binding agreement is signed the oil company shouldnNt disclose b/c the news
might attract rival bidders and drive up the cost of the land
s. 75(3): where
(a) in the opinion of the reporting issuer, and if that opinion is arrived at in a reasonable manner, the disclosure
re5uired by subsection ($) would be unduly detrimental to the interests of the reporting issuer; or
(b) the material change consists of a decision to implement a change made by senior management of the issuer who
believe that confirmation of the decision by the board of directors is probable and senior management of the issuer
has no reason to believe that persons with knowledge of the material change have made use of that knowledge in
purchasing or selling securities of the issuer,
the reporting issuer may, in lieu of compliance with subsection ("), forthwith file with the #ommission the report
re5uired under subsection ($) marked so as to indicate that it is confidential, together with written reasons for non)
disclosure
0hould be made public within "> days or must advise the 40# (s' BH(A)
he issuer must take steps to ensure that the information is not leaked and monitor trading in its sec & if the information
is disclosed the issuer must immediately announce the information publicly
Timing of Confidential Disclosure
Chen is the time right for disclosing especially when event is unfolding or uncertain (contingent events & moment
before reality is disclosure re5uiredF)
Sheridan 2 publi$ation o! press release 2 probabilit#0magnitude test
Chether should have been a note in *0 re : of 9Ns application for in%unction
Chether if in%unction was a material change and should have been disclosed
(") 5uestion of disclosing matters re envir litigation and envir policy (no appropriate licence re extraction and
:inistry said would have a detrimental envir effect on surrounding area & raise public concern by investors and
negative proceedings harm price but in "88>s no environmental disclosure rules)
($) process point & up to the issuer to decide what is material for the issuer & case attacks the process by which they
came to the decision regarding disclosure & should have sought advice from legal council, 14< and regulators
themselves
(3) guideline in case of contingent events & assess probability that contingent event will reali7e and assess
magnitude of the impact on issuer if event occurred (if prob low and mag not great no disclose, if high and high
then disclose but if different then discount low against the high with advice)
o Probability/magnitude test & the existence of materiality in cases of contingent or speculative developments
depends at any given time upon a balancing of both the indicated probability that the event will occur and the
anticipated magnitude of the event in light of the totality of the company activity! materiality is reached when
some unspecified minimum threshold of both probability and magnitude is reached' 4nly when there is some
probability of the event2s occurrence and some magnitude to the event can it be expected that a reasonable
investor would consider the disclosure a factor in making an investment decision' :ateriality is indicated
when there are high probabilities the event will occur and high magnitudes of the event2s impact on the
registrant& /nstead of balancin' the t%o a'ainst each other, the materiality analyst %ill %ei'h both of them
separately and then discount the potential ma'nitude by the probability of non7occurrence.
T, Waterhouse E-Trade possible merger
:erger negotiations have impacts on stock prices at moment announcement is made
$ announcements re talks of merger & was the Kan' "3 disclosure too early given what happenedF Premature and
mislead investors & merger imminent when it wasnNtF
H")$>" deals with rumours & need to clarify once news releases out there based on rumours and as a matter of best
practice, must decide prior (internal procedure) to rumours
Kan' "3 & discussions but no assurance that agreement will be reali7ed
<isclosure and mergers & disclose when agreement in principle has been made even when no details
(o agreement in principle had been made in this example & why did Caterhouse disclose/news release of on)going
talksF
H")$>" (I'"A) & need to be careful to review obligations in situations in which rumours are circulating (even if rumours
not within issue)
1est practices & adopt a no comment response as standard (avoid the situation where sometimes give clarification
and sometimes not so that when you do comment people think you are giving them hint)
.lthough it is a policy (guideline and not binding), the best practice is an onus on the issuer
0ection BH (material change) and H")$>" & confidential disclosure encouraged where actively engaged in negotiations
but havenNt crystalli7ed to make public disclosure then confidentially disclose to regulators and follow up with public
disclosure & recognition that issuers struggle with discretion conflicts in these situations
s' BH(3) & consideration of issuers that possibility of disclosure would be unduly detrimental (positive harm caused
to issuer by disclosing at this point in time) e'g' if issuer contemplating take over bid and could be friendly or
hostile (damaging to reputations, etc') then issuer can confidentially disclose
o <ecision must be arrived at in a reasonable manner & obligation on issuers to think carefully about this option
(must demonstrate active consideration of the nature of the detriment)
.lso, confidential disclosure can be made when sr management makes decision but still must be approved by the
14< (within a reasonably short period of time)
o #orporate governance issue & implies that sr management run the issuer and make decisions even though 14<
has to approve (i'e' despite formal notion 14< runs business)
o (ew language & ,no reason to believe that persons with knowledge of the material change have made use of
that knowledge in purchasing or selling securities of the issuer- insider trading & need to be confident that no
one will be using the fact that the information hasnNt been publicly disclosed (sr managers arenNt using time
lag b/w confidential and public disclosure)
s' BH(A) & must follow confidential disclosure with public disclosure within "> days of filing the confidential report
& only delaying public but protecting yourself from claims that issuer deliberately delayed but canNt later argue that
it was a material change and therefore didnNt have to disclose
H")$>" & $'3 limiting factor of if believe share price influenced by knowledge of insiders or rumours b/c of confidential
disclosure then must immediately make a full public announcement and halt trading until announcement despite the ">
day deadline
Pezim v. BC (1994, SCC)
Facts: 1# mining company & 3 issues for whether material change existed!
"' <rilling results and share options transactions & failure of mining co to disclose on timely basis results of drilling in
order to determine whether there was anything of value there that could have been commercially exploited and
conse5uence of delay in disclosure & the co issued new stock options/re)priced existing 04 to directors before the
public disclosure was made that there was something valuable there (new the price would increase and directors would
trade in the options at their lower price)
$' Private placement of securities of co doing drilling to an interested party but didnNt disclose that the interested party
was already a $HO security holder therefore would increase control position (relevant b/c influence understanding of
who makes decisions in co)
3' ransaction where co going to make public distribution and had entered into an arrangement with a buyer who was
going to buy ": of these securities but deal fell through b/c buyer annoyed that they hadnNt been consulted re the price
and wanted to get out of the deal (something should have disclosed when the dispute arose)
Issue: Chether the mining co failed to provide timely disclosure of material changes'
Ratio:
0tandard of review re speciali7ed tribunals like the securities regulators & court held that where regulators make
decisions that go to the heart of their mandate, there should be a high level of deference by the court
6egulators held that all these transactions should have been disclosed
1# #. held drilling results not a material change
0## didnNt want to second)guess decisions of the regulators that go to the heart of their mandate (whether
something is a material change)
"' <rilling results and share options transactions (0## & whether 1# #. correct in overturning regulatorNs decision)
6egulators & material change in 1# .ct E business operations assets or ownership (key issue was change in assets
& drilling results are favourable and will be a material change in the assets of the co and should be disclosed)
1# #. said geological information is not a change in assets but a change in the perception of the change in an
assets (there was always gold in the ground therefore no material change in assets & overly literal interpretation of
the test)
0## said that 1# #. was clearly wrong and should have been disclosure
$' Private placement & 1# #. said failure to disclose the identity of the placee or the fact that they were to increase
control was a breach of the .ct (0## said 1# #. got issue wrt to controlling shareholder right)
3' Potential buyer issue & hadnNt repudiated the S at time when issue of whether should have disclosed arose & but 0##
said it was a dispute over a lot of money therefore should have been disclosed
.pplying probability/magnitude test & enough probability that deal would fall through and significant amount of
money at stake even if there hasnNt been formal repudiation
<rilling going on all the time therefore scheduled regular disclosure and b/c of insider trading they erect a #hinese wall
b/w people out in the field and sr officers to prevent knowledge before scheduled disclosure (protects issuer from
allegations that issuer engages in insider trading & no knowledge of facts when decided to trade/exercise options)
#o was granting/re)pricing 04 to 06 execs before disclosure and used #hinese wall as defence (didnNt know about
drilling results when exercised 04)
0## & management should fulfill a duty to in5uire into the existence of undisclosed material information before
engaging in self)interested transactions (before granting 04) and has to be read into the obligation to disclose a
material change as soon as practicable & whether there is disclosable information before engage in this transaction
(if contemplating then ask if there are material changes and publicly disclose them before engaging in the
transaction)
o Problematic b/c court doesnNt say what is a self)interested transaction
o .lways an obligation to disclose (forthwith) but heightened obligation if management is engaging in self)
interested transactions
o 4nly engage in 04 at specified, predetermined times & in Pe7im there wasnNt any set times and happened
many times %ust before positive results being publicly disclosed
o <oesnNt take away #hinese wall & adds process, doesnNt take away & segregate information from
management, but when they will engage in the transaction, they need to be able to get at the information
and disclose if material before engage in it (transactions that are promoted by the issuer itself b/c the
obligation is the issuerNs to disclose material changes)
Re YBM Magnex International Inc. (material changes)
Ratio:
<isclosure of material changes & auditors were in a state of high anxiety about the level of information provided for
their auditing of .*0 & concerned about gaps in information on the basis of which they were expected to do the audit
and refused to continue until more information provided
#oncerns and engaging in investigations and wanted a forensic audit (most detailed level of auditing & figure out if
underlying facts used to make assumptions are actually true or accurate)
Chether when audit suspended was that a material change in the business, operations or capital of U1:
0ubmissions of staff & audit suspension was a material change & 3 reasons
In light of the role played by auditors of public companies, the suspension of the audit constituted a change in the
business and operations of the company
he demand for an in)depth forensic examination into material aspects of U1:2s business cast suspicion on the
business, operations and capital of the company
he suspension of the audit occurred at a date close to the due date for the financial statements and created a risk
that U1: would not be able to satisfy its regulatory re5uirements and that its securities would cease trading
o herefore argued that they were in breach of 4( securities law and public interest to cease trading in their
securities & s' "$B
6eluctant to agree with staff re reason " and $ & not a change in itself and forensic audit wasnNt suspicious QH$3R & not
enough evidence to conclude that the role played by auditors are so significant that by definition their withdrawal is a
change in the business, operations or capital of the issuer (if material changes are internal to the issuer and auditors
arenNt in that category vs' if impact on investors) & concerns of auditors werenNt by itself a material change
.greed with argument 3 that suspension of audit meant *0 deadline wouldnNt be meant E may be sub%ect to sanction by
regulators, which should be disclosed
U1: is important b/c it is a recent example of the probability/magnitude test (when situations crystalli7e into material
changes)!
he probability/magnitude test is a useful tool in this context, as the issue is the materiality of a discrete event,
namely U1: missing its filing deadline and having its securities cease)traded' Ce believe the potential magnitude
of a publicly traded company missing its filing deadline and having its securities cease)traded is self)evident' Ce
are left with the 5uestion of what the probability was of not obtaining an audit opinion by :ay $> based upon the
audit suspension on .pril $>' .lternatively, even if probability was difficult to determine herein, was the
emergence of the present risk regarding the filing deadline and ensuing cease trade order material based on the
events of .pril "8 and $> as informed by earlier eventsF
/iven! (") the extraordinary nature of the concerns expressed by <L on .pril $>; ($) <L2s re5uest for a
forensic investigation on .pril $>; and (3) the fact that <L advised that it would need to consider whether it was
willing to continue being associated with U1: and able to issue an opinion on U1:2s "88B financial statements
upon completion of the .udit #ommittee2s investigation, it was probable as of .pril $> that U1: would be unable
to obtain an audit opinion and make its :ay $> filing deadline' /iven the events of .pril "8 and $>, as informed
by earlier events, the emergence by .pril $> of the risk regarding the filing deadline and likely cease trade order
constituted a material change
<efence & we consulted outside legal council, who said they didnNt have to disclose the suspension of the audit but <
telling audit committee to disclose & but who would you believeF Kudgment call by U1: and regulatorsN sanctions are
getting more serious (fines can now be imposed)
SELECTIVE DISCLOSURE
*inancial analysts attempt to ac5uire as much information about reporting issuers as possible
6egulators concerned that in the course of analyst meetings ri may disclose information selectively that is not generally
available to the trading public and analysts concern that tighter rules on selective disclosure could result in a disclosure
chill
Possibility that issuers might disclose to some categories of people but not investors generally b/c of their ongoing
relationship with these market participants e'g' financial analysts who give advice to investors re earnings prospects and
buy/sale conclusions as the bottom line (intermediary role & conversations with financial analysts where issuers want
them to follow them but may disclose something not yet publicly disclosed and allegations that issuers prematurely
releasing earnings results therefore 6egulation *air <isclosure)
0elective disclosure vs' insider trading & worry that analysts will engage in insider trading based on information given
to them before publicly disclosed or tipping & canNt disclose material information to people who are in a special
relationship with the issuer (trading and tipping offences)
SEC`s Regulation FD (Fair Disclosure)
Purpose & end selective disclosure by mandating that when material non)public information is disclosed intentionally to
analysts it must be made public simultaneously and when disclosed unintentionally it must be made public as soon as
practicable and in any event within $A hours or before the commencement of the next dayNs trading on the (U09
6ationale & argument that the regulation was necessary b/c of certain deficiencies in D0 insider)trading law (,ir-s v&
SEC & a tippee could not be liable for insider)trading unless they received inside information from an insider who
received some personal benefit from tipping)
. breach could result in 09# administrative action but canNt be grounds for a private lawsuit
.nalysts concerned that it would make their %obs impossible and that issuers would refuse to meet with them
individually or that they would be overly cautious
Issuers concerned about possibility for liability for inadvertent disclosures
NP 51-201
$ ways of defending that 0< has turned into a tipping offence & (") disclose in the necessary course of business (H")$>"
3'3 & a)g exceptions) and ($) you believed that the information was generally disclosed (simultaneous disclosure was
taking place)
Cays of satisfying the general disclosure re5uirement & posting on the issuerNs website is not enough in and of itself
(3'H)
:eaning of ,necessary course of business- to determine whether a person in a special relationship with a ri has illegally
tipped someone else pursuant to ss' BI($ or 3) (3'3)
:eaning of ,generally disclosed- for the purposes of s' BI (3'H) & (") public dissemination and ($) reasonable time for
the public to analy7e
Earnings Guidance - policy warns issuers of the risks of engaging in private discussions with analysts in forecasting
the corporationNs earnings for a future accounting period and being explicit in discussing expected earnings ranges
Written Corporate Disclosure Policies - issuers should adopt written disclosure policies (provides suggestions as to
the sub%ects such policies should include)
Quiet Periods and Employee-Trading Blackout Periods - recommends that companies observe 5uiet periods around
the time of the release of 5uarterly financial results to avoid the risk of selective disclosure and recommends that
companies adopt ,blackout- periods forbidding employees from trading in the issuerNs sec around such times
H")$>" policy
(") 0< and insider trading & defence of necessary course of business and ,generally disclosed- (general public
disclosure was simultaneously occurring)
o trying to provide guidance re selective disclosure b/c some market professionals able to obtain info on a more
timely basis that issuers will later publicly disclose (could lead to the opportunity for insider trading by using
that info and separate tipping offence
($) special issues re analysts
o Part H & how to deal with analysts & its ok to have meetings with analysts so they can track your business but
caution re specific types of info they want e'g' Part H'$ & high risk when comment on estimates of future
earnings or future prospects (donNt confirm or deny any suggestion of what earnings/revenue will be)
o forward looking statements (analysts most interested in immediate term prospects) & hedge with cautionary
language e'g' reality could differ from estimates and significance of this now is that it will be in legislation re
civil liability (misrepresentations)
(3) best disclosure practices & all issuers should have a corporate disclosure policy to fall back on and provide
procedures to deal with analysts/brokers, and other people trying to extract info from sr execs!
o earnings announcements, industry conferences, rumours, authori7ing spokespersons, insider trading problems
(use blackout periods where insiders prohibited from trading issuerNs securities when I/.*0 being released and
appoint sr exec responsible for approving trading entered into by all potential insiders & practices that would
constitute a response to e'g' Pe7im case where flow of info and interest in insiders in trading in securities at the
same time)
Crawford Committee Recommendations
6ecommended that public companies include the media and investors in analyst meetings and conference calls to avoid
the risk of selective disclosure
CIVIL LIABILITY FOR CONTINUOUS DISCLOSURE MISREPRESENTATIONS
Public Enforcement: Failure to File Documents - 122 and 127
s' "$$/"$$(3) & general regulatory offence section (how can breach securities law) E 5uasi)criminal offence
(3) authori7ation of offence & allows charges to be made on directors or officers irrespective of whether issuer
involved in any charges/convictions & meant to concentrate the mind of directors/officers
s' "$$($) due diligence defence for those charged under "$$(")
0taff investigate with view to whether they will use "$$ or "$B (sanctions and burden of proof different)
s' "$B enforcement order levied by commission & keeps matter within regulatory agency but limited sanction but now
can levy an admin penalty (8), cease trade order ($) (blunt instrument & harmed not %ust execs but all other shareholders
& now more selectively imposed on insiders who made the misrepresentation, etc')
Private Enforcement: Common Law Remedies
Chen a ri engages in fraud traditional common law causes of action in fraudulent misrepresentation can be pursued by
investors & but fraud is rare and difficult to prove
:isrepresentation in prospectus s' "3> & more plaintiff)friendly than secondary market
<ifficulties with #? misrep actions
6eliance/duty of care must be demonstrated
US Fraud-on-the-Market Theory
o facilitate class actions & where investors allege that they suffered damages as a result of false statements made
by a public company it is necessary for each plaintiff to prove that they relied on those false statements but proof of
reliance makes it impossible to argue that common 5uestions predominate over individual 5uestions
*raud on the market theory obviates the need for individual plaintiffs to prove actual reliance on the statements
6ationale & the price of a companyNs stock is determined by the available material information re the company and
its business and misleading statements will therefore defraud purchasers of stock even if the purchasers do not
directly rely on the misstatements & the causal connection b/w the defendantNs fraud and the plaintiffsN purchase of
stock is no less significant than in a case of direct reliance on misrepresentations (+asi$)
1re)= & fraud on the market theory canNt be used by plaintiffs in a #anadian class action to circumvent the
re5uirement that in an action based on negligent misrepresentation plaintiffs must prove actual reliance on the
alleged misrepresentation
#ourt accepted a similar argument in ##L? <edicated 9nterprise *und & the market price of shares reflected the
representation made in the defendant auditorsN audit opinion therefore a court could conclude that by purchasing
shares each class member relied upon the representation (b/c a personNs reliance upon a representation may be
inferred from all the circumstances)
0tatus of ,fraud on the market- theory in #anada (D0 more plaintiff)friendly) & way of dealing with reliance proof
problem b/c says that there is an assumption that is made that the price of the securities is based on available
material information so if that material information is inaccurate, then investors are being defrauded b/c even if
didnNt personally rely on misrep/failure to disclose they are using wrong information to make the buy/sell choice
(information is rendering a fraud on the market price of the securities and investors making decision based on the
wrong information) therefore the concept that you donNt have to rely imports economic principle that stock prices
are intimately connected to the information available about the issuer & assumption works best in constant trading
market in order for price to ad%ust rapidly
ried in class action in #anada & re%ected on basis that there was no evidence that the concept had been used in any
decisions in #anada therefore couldnNt be used as a way to avoid reliance proof
Statutory Civil Liability for Continuous Disclosure
(ot yet proclaimed and no indication of when it will
Gistory of effects to legislate here & "88I 09 #ommittee .llen #ommittee & need to import civil remedy as a back
stop (in con%unction with front end prevention); $>>> reform adopted recommendations
The Allen Committee Report - proposal for improving the 5uality of continuous disclosure by providing a statutory
civil remedy for investors in the case of misrepresentations
CSA Notice 53-302
?eave of the #ourt & to prevent coercive strike suits of no real merit (pressure managers to settle rather than incur
litigation costs)
<amage ?imits & purpose of the proposed civil remedy is deterrence rather than compensation therefore max total
amount recoverable from a defaulting issuer limited to the greater of J": and HO of the offending corporationNs
market capitali7ation and the greater of J$H,>>> and H>O of the individualNs annual compensation for directors and
officers
#ourt .pproval of 0ettlements & also intended to deter strike suits
Proportionate ?iability & the many defendants (issuer, officers, directors, controlling shareholders, and experts)
would not be %ointly and severally liable but would apportion liability according to individual responsibility except
in the case of defendants who knowingly participated in the making of a misrepresentation
, :aterial *act- and ,:aterial #hange- <efinitions & adoption of the 0# Industries standard of materiality (based
not on the likely effects on the price or value of an issuerNs sec but rather on whether the information would be
considered important to a reasonable investor in making an investment decision) but revised
Statutory Remedy - Section 138.1
Policy arguments & why taking so longF b/c policy arguments not very strongF
6emedies can achieve $ ob%ectives! (") compensation for investors who have been disadvantaged and ($) trying
to discourage substandard practices & want to distinguish b/c forge a compromise & deterrent without
compensation every aggrieved investor (limits on the damages but such that enough to deter people) & next step
may be to remove the limits but still has reputational effects (but strike suits in the D0 to encourage settlements)
;olume and number of investors involved & secondary market far more important (primary is an infre5uent
occurrence in the life of an issuer) & public confidence in the securities markets trying to be achieved therefore
liability in secondary market would be of more interest to investors (suing not a viable financial decision before)
International reputation & disincentive to foreign investors without liability for issuers (not a big deal b/c already
deal with it in D0 securities laws)
What Liable For?
<ocuments that contain a misrep (s' "3M'3(") & *0, .I*0, :< L .s, material change reports
Public oral statements containing misreps (s' "3M'3($)) (if made by a person with ,actual, implied or apparent authority
to speak on behalf of a responsible issuer- & broader category of #94, #*4 e'g' investor relations spokespeople H")$>"
policy re best practice)
*ailure to make timely disclosure (s' "3M'3(A) & omission category
Who Should Have a Cause of Action?
*or documents containing misrep, person/co ac5uiring/disposing of security during period b/w ,time when document
was released and time when misrep corrected-
*or public oral statements containing misreps same as above
Chere failure to make timely dis, person/co ac5uiring/disposing of security b/w time material change was re5uired to
be dis and subse5uent disclosure of material change
Cause of Action
?eave of court re5uired s' "3M'M & good faith and reasonable that would be resolved in favour of the P (want to deter
strike suits that pressure settlements b/c issuers donNt want reputation to be ruined) & derivative remedy/oppression
action in corporate law may therefore be better
(o need to show reliance on misrep or reliance on issuer having complied with disclosure re5uirement
s' "3M'$ & ac5uisitions of security for which this remedy is not available!
prospectus (covered by s' "3>)
private placements
transactions in the exempt market
pursuant to a take)over bid (another regime covers it & circular misrep s' "3>)
Who Should Be Liable?
*or document containing misrep s' "3M'3(")(a)e) & responsible issuer, directors, officers, influential persons and experts
Influential person & actors who are capable of influencing the issuerNs action re release of documents that contain
misrep or failure to disclose & control person & significant security holders of the issuer ($>O)
*or public oral statement s' "3M'3($)(a)e) & more or less same with exception of addition of ,person who made public
oral statement- (if not already included in the other categories)
*or failure to make timely disclosure s' "3M'3(A)(a)c) & responsible issuer, directors/officers, and influential persons
(limit that the < must have something do with the misrep or disclosure), but not experts
Defenses/Burden of Proof
<ifferent defenses/burdens depending on specific type of doc/statement/failure and specific <
Failure to Make Timely Disclosure
P ac5uired/disposed with knowledge of material change' 1urden of proof on < (all potential <s)
<irectors/IPs (not officers and issuer) not liable unless P proves situations p' A3$ s' "3M'A(3)(a)c) exist' 1urden of
proof on P & low standard (gross misconduct)
<ue diligence defence (s' "3M'A(I)) & made reasonable investigation and no reasonable grounds to believe failure to
make timely disclosure would occur' 1urden of proof on < (all potential <s)
Defenses for Public Oral Statements
P ac5uired/disposed with knowledge that the statement contained a misrep and 1 of P on < (all)
P proves that situations in s' "3M'A(")(a)c) exist (all except experts & if expert, only defence is the due diligence
defense) & high threshold for the P to meet (while meant to impose discipline on issuers re statements, not a discipline
that is in reality going to be tested by way of P suit very often)
:ade reasonable investigation and no reasonable grounds to believe statement contained misrep (all including experts)
Defenses for Misrep in Non-Core Documents e.g. s. 138.4
0ame for public oral statements & P is put to the proof again
Defenses for Misrep in Core Documents e.g. s. 138.4(6)
P ac5uired/disposed with knowledge that document contained misrep and 1 of P on < (all <)
<ue diligence defense & made reasonable investigation and had no reasonable grounds to believe document contained
misrep (all <) therefore kinder than s' "3> to issuers b/c issuers as an entity have the due diligence dfense
What is a Core Document?
*or directors/IPs, includes prospectuses (AA)">" 0*P), :<L., .I*, *0 (. and I & in past versions I wasnNt included)
*or issuers/officers, all these plus material change reports (or news release that accompany material change reports)
Section 138.4(7)
*actors to be considered by court re reasonable investigations/gross misconduct (interpreting defenses)
(ature of issuer, knowledge and experience of </4 (look individually at their background and decision in part
based on these sub%ective factors), if director, also officer or supplier/customer, (e) best practice procedures, (f) if
director, how reasonable that relied on full)time officers & fact)oriented and closeness of relationship to issuer
and why a director (b/c of experience in that areaF & higher standard)
Limits on Liability
.ction for damages only (no rescission)
Proportional liability (s' "3M'I) vs' %oint and several (comfort to controlling shareholders or experts & no deep pockets
mentality)
.ssessment of damages under s' "3M'H but only pay lesser of aggregate damages assessed and liability limits defined in
s' "3M'B (issue of deterrence vs' compensation)
,?iability limit- & definition section & significant cap on director/officer/IP liability
INSIDER REPORTING AND INSIDER TRADING
#orporate insiders are generally permitted by law to buy and sell shares issued by their companies provided they
comply with $ sets of rules!
#orporate insiders must report their trades to sec regulators in a form that becomes available as a public record
hey must not trade when they have confidential inside information
#orporate law statutes also contain insider trading provisions
WHY REGULATE SECURITIES TRADING BY INSIDERS?
3 concerns that insider)trading laws intend to address!
Dnfairness! perceived unfair advantage that insiders of corporations en%oy because special access to material inside
information is not available to other investors, regardless of whether the practice of insider trading has any broader,
adverse economic effects
:isappropriation/breach of fiduciary duty! material undisclosed business information about a firm should be
considered to be an asset of the firm itself, so that individuals who profit from the use of such information are
essentially stealing from the firm
9conomic harm to markets or firms! widespread insider trading may undermine investors2 confidence in the capital
markets and/or increase the cost of capital for issuers
Unfair Access
.ll investors ought to be given access to material information relating to the securities they are considering for
purchase so that the prospective purchasers may value those securities accurately and make informed investment
decisions therefore any information about an issuer that likely would affect the market value of that issuer2s securities
should be available on an e5ual basis to all investors & it seems unfair that corporate insiders with access to important
undisclosed information about an issuer might use such information to make large profits in the trading of their own
companies2 securities (those who are concerned about the unfairness of insider trading usually argue that this perceived
unfairness damages capital markets as well
?aw and economics scholars & allowing insiders to trade on undisclosed information is not unfair & it is no more unfair
for insiders to trade on information that is unavailable to other investors, than it is unfair for corporate officers and
directors (who might also be shareholders) to be paid fees or salaries to which ordinary shareholders are not entitled
(this argument has been critici7ed)
Information as Corporate Asset
.rgument that inside information about an issuer is an asset of that issuer and the value of such information belongs to
the issuer, not to insiders who happen to be in a position to exploit it and allowing insiders to trade with the knowledge
of such information is like stealing from the issuer'
D0 +misappropriation theory+ & insider trading constitutes a wrong to the issuer that is the source of the confidential
information, rather than to the uninformed third party with whom the insider completes the impugned securities trade'
*iduciary (insiders ought not to profit from the use of corporate information)F
he rigid trust rule that a trustee must not benefit from her or his position ensures that such fiduciaries never put
themselves into a position where their duty and interest might conflict therefore the fact that a particular trust
beneficiary cannot show any damages suffered as a result of a potential trustee conflict is irrelevant because in
other similar situations a beneficiary might suffer damages'
1ut re insider trading, it begs the 5uestion because it is not clear that any similar conflict of duty and interest exists,
at least in those cases where an insider purchases the securities of an issuer on the basis of undisclosed information'
.lthough the insider might make a profit, the potential to reap such a trading profit does not necessarily
compromise the insider2s position or distort his or her incentives!
o o profit from purchasing shares using inside information, it must reasonably be expected that once the
information is made public, it will cause the market price of the issuer2s securities to rise' .ccordingly, insiders
permitted to make these trading profits, arguably would have greater, not lesser, incentives to work diligently
to generate such price)improving initiatives'
o .lso, it cannot be said that such a profit otherwise would have flowed to the corporation to which the insider
owes a fiduciary duty & it is important to distinguish between the value of possessing an asset and the value of
knowing that one possesses an asset e'g' a corporation buys a mining property and later discovers gold
reserves on the property & the property is therefore worth more than they paid but it is the value of the property
and the corporation possesses all of that value' Information about the gold reserves neither adds nor detracts
from this value as far as the corporation is concerned' Information about the property cannot be appropriated
from the corporation in any way that will diminish the value of the corporation2s asset because the
corporation2s asset is the land, not information about the land'
o If an insider, knowing about the valuable new gold property, improperly buys up shares of the corporation
before the corporation publicly discloses the new information and offers the sellers of the shares a significant
premium over the prevailing market price & sellers think the buyer is making a foolish bargain b/c they would
have paid less' 0o they believe they have garnered a windfall' Chen the corporation later discloses the news of
the gold, the sellers are likely to complain, claiming that they were treated unfairly because they should have
received even more than their premium but if they had sold the same shares at the same time but to a non)
insider for considerably less, they would have been far worse off, but would have had no basis upon which to
complain' herefore hard to argue that they had +taken+ something ) either from the corporation or the selling
shareholders (even if the insider somehow dealt unfairly with the selling shareholders, they didnNt take value
from the company itself & the +information+ the insider possessed about the gold reserves was not an
independent source of value to the corporation & the corporation2s interest the same before, during, and after,
the insider2s purchase of the shares and lost nothing)'
o 1ut different when insiders sell securities on the basis of undisclosed information & places insiders in a
position where their duty and their interest conflict!
.n insider permitted to sell shares before the public release of company information likely to trigger a fall
in the market price of the shares might not have a strong incentive to increase the firm2s value'
:oreover, allowing insiders to sell on the basis of undisclosed information might encourage the
proliferation of +pump)and)dump+ schemes'
0hort selling & a techni5ue for selling securities that one does not yet own & borrow the sub%ect securities
from a securities lender, complete the sale, and then, some time later, purchase securities of the same type
in the market so that they may be returned to the lender (profitable only if the market price of the
securities falls between the date of the original short sale and the date on which the short seller covers his
or her short position by purchasing securities in the market) & if insiders were permitted to sell securities
short, they would actually have an incentive to drive down the value of their own company2s shares'
Economic Harm to Markets or Issuers
.rgument that insider trading damages capital markets by undermining investor confidence'
Prospective investors will refuse to purchase securities if they have reason to fear that insiders will be free to trade on
the basis of undisclosed information' #apital markets will then dry up and our economy might collapse'
1ut it is difficult to find empirical evidence to support it and opponents of restrictive insider)trading rules argue that to
the extent that this is a genuine risk, companies are in a better position than regulators to gauge that risk and, therefore,
should be left to respond with their own internal restrictions on insider trading, when and if necessary'
9ven if insider trading does not threaten to destroy capital markets, it has been argued that it might, nevertheless,
increase the cost of capital for issuers & if investors believe that insider trading was rampant in #anadian capital
markets, investors might continue to buy securities from #anadian issuers, but demand ex ante compensation for their
expected insider)trading losses in the form of lower prices (or, e5uivalently, in the form of higher interest rates or
higher rates of return) for issued securities' 0uch investor demands would result in an increased cost of capital for
#anadian issuers' hus, a legal regime that constrains insider trading ) and is perceived to constrain insider trading )
benefits issuers'
. link between actual or perceived levels of insider trading and the issuers2 costs of capital is difficult to establish,
empirically but it can be demonstrated that securities dealers who trade with known insiders ad%ust their prices
accordingly by increasing the price of securities they sell (the +ask price+) and by decreasing the price at which they are
prepared to buy (the +bid price+) & this observation doesnNt establish a general link between insider)trading laws and the
cost of capital, but indicates that the concern for the implications of the cost of capital is credible'
LAWFUL TRADING BY INSIDERS (INSIDER REPORTING)
Insiders must meet re5uirements to permit them to trade lawfully in securities of issuers to which they have special
access & disclosure for the secondary market
I6 vs' I (Wve and &ve) & trading by insiders is not a problem per se and is encouraged b/c aligns interests of insiders
with shareholders (getting stock price up) but every time they trade they are re5uired to report that fact and trading with
material undisclosed information is prohibited by s' BI
Who Is an "Insider"?
he term +insider+ is used in at least two different senses!
insider: a term defined in the 40. mainly for the purposes of specific public reporting re5uirements
person or company in a special relationship with a reporting issuer: a broader term that includes, but is by no
means limited to, insiders, is the term that is pivotal to the 40.2s rules against unlawful trading using material
undisclosed information
Insiders
Purpose of definitions of insider & (") establish the class of persons to whom the insider)reporting obligations in Part
==I of the 40. apply and ($) define one important class of persons to whom the insider)trading prohibitions in s' BI of
the 40. extend'
<efinition of ,Insider-
s' "(") ,insider of a reporting issuer-!
(a) every director or senior officer of a reporting issuer
(b) every director or senior officer of a company that is itself an insider or subsidiary of a reporting issuer
Cho is likely to have useful knowledge about the issuer
(c) any person or company who beneficially owns, directly or indirectly, voting securities of a reporting issuer or
who exercises control or direction over voting securities of a reporting issuer or a combination of both carrying
more than "> percent of the voting rights attached to all voting securities of the reporting issuer for the time being
outstanding other than voting securities held by the person or company as underwriter in the course of a
distribution
o ownership of voting securities & voting gives control as a shareholder over issuer and once insider, must report
ownership of all securities (s' ">B)
(d) a reporting issuer where it has purchased, redeemed or otherwise ac5uired any of its securities, for so long as it
holds any of its securities
o #1#. says that if the issuer buys back their securities they have to cancel them right away (wonNt be holding
them very long)
:utual fund management and distribution companies are considered insiders of the mutual funds with which they are
associated (s' "(B))
Chen one company ac5uires another, if one of the companies is a reporting issuer, the senior officers and directors of
the other company are deemed to have been insiders of the reporting issuer for up to six months prior to the ac5uisition
(ss' "(M,8)) & deters insiders from profiting unfairly from their prior knowledge of the impending takeover or other
ac5uisition & deeming insiders of one company that participates in such a transaction to be insiders of the other
company for a period of six months prior to the closing obliges such insiders to file reports listing all the securities that
the insiders have purchased or sold in either company during those six months'
0ection "(M) & when a co . becomes insider of 1 (6I), all < and sr 4 deemed to have been insiders for previous I
months & retrospective b/c might have taken advantage of knowledge (material undisclosed information) during
period of negotiation & the co itself is not an insider (only the decision makers of the co)
0ection "(8) & 1 must report trading in . if . is a reporting issuer
o *law & only retrospective & not a deterrent if the transaction is not concluded
Insider)6eporting 4bligations
Insiders of a reporting issuer are generally permitted to buy and sell shares of that issuer, provided the insiders do not
have access to material undisclosed information at the time of the trade'
Chen an insider trades they are sub%ect to specific public reporting re5uirements'
nitial nsider Report
s' ">B & re5uirement is to report within "> days that you become an insider then changes in holdings within "> days
(every trade)
*iling re5uirement & re5uires a person or company who becomes an insider of a reporting issuer to file a report within
ten days from the date the person or company became an insider & the obligation to disclose cannot be avoided merely
by setting up a holding company to own the relevant securities because the statute re5uires the insider to disclose ,any
direct or indirect beneficial ownership of or control or direction over securities of the reporting issuer- (s' ">B("))
09<I automated the reporting & 6I re5uired to have a profile and every insider re5uired to provide information to
the system and all information is publicly available (information is described in HH)">$*$)
iming re5uirement used to be "> days after the end of the month but now "> days after the trade (still not very fast
& could be stricter)
1efore 09<I the 5uality of reports & gaps, disparities, inade5uacy & this is a breach "$$, "$B
.ny shares beneficially owned by a company are deemed to be beneficially owned by the controlling person of that
company (s' "(H)) & similar rules deem companies to own beneficially any securities beneficially owned by their
affiliates (ss' "(H,I))'
Chere a person or company is deemed to have been an insider of a reporting issuer for the previous six months under
ss' "(M) or "(8) that person or company must file insider)trading reports in respect of the prior period during which the
person or company was deemed to be an insider (s' ">B(3)) & this reporting re5uirement attempts to deter insiders of
companies that participate in merger transactions (including take)over bids) from trading shares in those companies
before the transaction has been formally announced'
he date on which an insider is considered to have ac5uired beneficial ownership of securities can be earlier than the
date on which a sale transaction for such securities is finally closed & for the purposes of the reporting rules in section
">B, ,ownership shall be deemed to pass at such time as an offer to sell is accepted by the purchaser or the purchaser2s
agent or an offer to buy is accepted by the vendor or the vendor2s agent- (s' ">I($)(c))
Subse7uent nsider-Trading Reports
.fter filing the initial insider report, whenever the insider2s holdings in the reporting issuer change, the insider must file
an additional report within ten days of that change (s' ">B($))
1ecause many public companies are reporting issuers in more than one #anadian province, insiders are fre5uently
sub%ect to similar insider)reporting re5uirements in several %urisdictions' o facilitate compliance with multiple
reporting re5uirements, #anadian securities regulators and the federal <irector under the #1#. have agreed on a
common form for insider)reporting purposes (6ule HH)">$)
09<I & the system is paper)based and, therefore, somewhat cumbersome & regulators have recently launched a new
0ystem for 9lectronic <isclosure by Insiders (09<I) & advantages!
(") it is a truly national system, simplifying the filing process by eliminating multiple filings in different provinces
($) because 09<I is an Internet)based system, it allows for filings to become public more 5uickly than is possible
in the current paper)based system, and facilitates access to, and searching of, filed reports'
9xemptions from Insider)6eporting 6e5uirements
he insider)reporting re5uirements are extremely broad and, if read literally, prove particularly problematic in three
situations (no policy ob%ective being served) (HH)">")!
"' Chere directors and senior officers of one company that is deemed to be an insider of a second company are, in
turn, deemed to be insiders of that second company (especially problematic where the first company is deemed to
be an insider only by the operation of s' "(H))
o < and 4 of insider affiliates & s' "(H) as long as no access to any undisclosed material information
$' Chere directors and senior officers ac5uire securities from a reporting issuer automatically, such as pursuant to
dividend or interest reinvestment plans or when the reporting issuer issues a stock dividend or effects a stock split
or other corporate transaction that affects all the shareholders in the same way
o .utomatic reinvestment plans & dividends and bonuses in the form of additional securities and if no exemption
for those automatic plans, there would be a reporting re5uirement even though no control over the ac5uisition
unless have access to material undisclosed information prior to the trade
3' Chere reporting issuers repurchase their own securities through normal)course issuer bids
o (ormal course issuer bids & in the interest of issuer to buy back securities (bid to existing security holders) and
if it becomes insider of itself then report but issuers must cancel shares ac5uired of itself & HH)">" relaxes ">
day re5uirement (report on a monthly basis given you will be canceling them anyways)
Portfolio managers (market professionals) engaged in discretionary trading for a number of clients & if you have
control over decisions over the risk profile (control and direction over securities) and add up holdings and they all
come to more than ">O of a reporting issuer & but want to catch people who have access to information about the
internal affairs of 6I (control and direction; average retail investor interested in trading by insiders b/c clue into
issuer & what the insiders are doing is a clue to the fortunes of the issuer itself and these prof management people
do this every day so maybe investors would be interested in what they are doing) & I$)">3 exempts these eligible
institutional investors from insider reporting re5uirements in s' ">B and imposes monthly re5uirement & if no
access to material information about the 6I to which you are an insider & b/c makes life difficult for them b/c this is
what they do every day
,ire$tors and O!!i$ers o! nsider Compan# A!!iliates
1ecause the definition of +insider+ of a reporting issuer includes officers and directors of companies that are themselves
insiders of that reporting issuer, the reporting obligations in Part ==I of the 40., on their face, apply to many
individuals who, in fact, have no special access to information about a reporting issuer'
9'g' .1# owns ">'" percent of the voting shares of ri =UX therefore .1# is an insider of =UX' If .1# has an
affiliate, <9* ?td', <9* is also deemed to be an insider of =UX, even if <9* owns no shares of =UX whatsoever
due to the combined effect of ,insider- s' "(")(c) and s' "(I) (s' "(I) & a company e'g', <9* shall be deemed to
own beneficially securities beneficially owned by its affiliates e'g', .1#)' herefore every director and senior
officer of .1# and every director and senior officer of <9* would be considered an insider of =UX but it is likely
that the directors and officers of .1# and <9* have no special access to =UX
(I HH)">" exemptions (must make an application)!
(") a director or officer of a subsidiary of a reporting issuer is not re5uired to file insider)trading reports, unless the
subsidiary is a +ma%or subsidiary+ (">O of the assets or revenues) or unless the director or officer +receives or has
access to+ inside information before it is generally disclosed
($) officers and directors of affiliates of insider companies (such as <9*) are exempt from the insider)reporting
re5uirements, unless the officers or directors receive or have access to inside information or unless the affiliate is a
material supplier or otherwise has a material contractual relationship with the reporting issuer
o he directors and senior officers of <9* are exempt from the insider)reporting re5uirements, unless <9* is a
ma%or subsidiary of =UX or a ma%or supplier/contractor of =UX'
,ividend and Reinvestment (lans and 8ssuer Events8
here are a host of circumstances in which a director or senior officer of a reporting issuer may ac5uire securities of
that reporting issuer without ever exercising any independent investment decision e'g' an officer might participate in a
dividend reinvestment plan under which 5uarterly dividend payments are automatically used to purchase additional
shares in the issuer for the officer; the ri might decide to effect a stock split, which would result in all shareholders
receiving additional shares proportionate to their current shareholdings & the director or officer who receives additional
shares makes no investment decision at the time of the issuance and, therefore, cannot time the trades to take advantage
of inside information'
herefore unnecessary for such share ac5uisitions to trigger any insider)reporting obligations ) (I HH)">" exempts such
transactions from the insider)reporting re5uirements (Parts H and B)
0ome stock purchase plans allow voluntary payments for additional securities in exchange for such additional
investment & raises the same insider)trading concerns as regular market purchases and are not covered by the
exemption (H'")
Normal-Course ssuer +ids
Issuer bid (share repurchase, share buy back) & any offer by an issuer to ac5uire securities of its own issue other than
non)convertible debt securities (s' M8("))
If a corporation2s articles authori7e the corporation to issue an unlimited number of shares, #anadian corporate law
statutes generally re5uire that when such corporations buy back their own shares they must immediately cancel them
1ut even in cases where a corporation promptly cancels shares after a repurchase, the corporation nevertheless would
own shares of its own issue from the time of the purchase until the time of the cancellation'
1ecause every reporting issuer that purchases its own shares is deemed to be an insider of itself (s' "(")(d) ,insider-)
such transactions trigger insider)reporting re5uirements'
1ut the ten)day reporting regime was unnecessarily burdensome in the case of +normal)course+ issuer bids (i'e',
purchases by an issuer of its own securities that do not exceed H percent of the class over a twelve)month period)
therefore where an issuer repurchases its own securities pursuant to a normal)course issuer bid, the reporting deadline is
relaxed, and insider)trading reports must be filed on the tenth day following the end of the month in which the
purchases were completed (I'$, I'$)
PROHIBITED INSIDER TRADING
Insider)trading liability occurs when a person in a special relationship with a reporting issuer trades with knowledge of
an undisclosed material change or material fact, or discloses such information (i'e', +tips+) to others who then profit by
trading with knowledge of such information'
he 40. restrictions apply only to trades of securities issued by reporting issuers, although #anadian corporate
legislation often imposes similar restrictions on private companies'
he insider)trading prohibition & s' BI
0pecific provisions for penalties and statutory civil liability for those who engage in such practices & ss' "$$ and "3A
*eatures!
6estrictions apply to any ,person or company in a special relationship with a reporting issuer- (not %ust to an
,insider- in s' "("))
?iability attaches when securities are sold or purchased with knowledge of a ,material fact- or a ,material change-
(not necessary to establish that the trader made use of that knowledge)
rading and informing others (tipping) who trade are restricted
rading restrictions apply to a broad range of securities and derivative instruments
1reach of the rules can lead to administrative sanctions, special fines and other 5uasi)criminal penalties, and
statutory civil liability
Policy Arguments
9conomists & $ arguments against prohibitions on insider trading
9conomic efficiency & an efficient market is one in which as 5uickly as possible incorporates all the known
information about securities and if insiders trade even on the basis of material undisclosed information, the price
moves more 5uickly to its real price & happy to keep an anti)fraud rule but market will take care of disclosure
anyway
o Premised on upswings rather than downturns
o Chether the volume of insider trading is enough to shift the price b/c people wonNt see who is trading %ust that
there is a shift (trying to generate a personal benefit but if a widely traded issuer, it may not be a sufficient
marker to move the price to reflect its real value)
.gency theory & when you have to rely on agents, they might act in their own interests therefore want to align the
interest with the issuer in order to benefit security holders therefore compensate agents with stock and more
importantly if allowed them to insider trade (if allowed to trade on basis of material undisclosed information then
they will try to get price up so they can sell for a profit)
o Premised on the price going up & if negative information has to be disclosed and the stock price will drop, that
wonNt help aligning the interests
(eed to give people some comfort in the market & empirical information
Donnini v. OSC (2003)
Facts:
< was head trader for securities dealer & U negotiating with S#. (ri) to finance an underwriting that S#. wanted to
do
Carrants financing & sell special warrants to institutional investors buying under exemptions and will 5ualify a
prospectus later that will allow them to sell them in the open market later on
UNs compensation was to be some of the special warrants therefore same position as institutional investors (wonNt be
able to sell for a length of time therefore sell short to hedge the risk & hope value would go up when sell but by short
selling they lessen the risk if price went down)
0hort selling & borrow shares from brokerage and sell at a price and expecting to drop and then buy back
P approached S#. on *eb $8 to do another special warrant and S#. needed the money therefore agreed
0ame and next day < started short selling S#. securities
:arch " & bought deal committee approved transaction (:arch $ deal went through) therefore < short sells a day or
two before the final agreement that the financing would take place therefore <Ns defence is that not selling with
knowledge of material information b/c decision wasnNt finali7ed
Ratio: $ commissioners said it was insider trading and one said not insider trading but actions were against the public
interest (s' "$B) & split decision influences the court reviewing the decision & uncomfortable set of facts (didnNt disturb the
fact that sanctioning should have taken place but lessened the sanction)'
Analysis:
Cas he in a special relationship with S#.F
<id he purchase or sell securities of S#.F & it was not an issue in the decision that < was actively trading S#. at time
financing took place
<id he make purchase or sale with knowledge of material informationF & short sell S#. stock with knowledge of
material informationF $ #ommissioners said at the point of the trade material information existed (traded with
knowledge even though deal hadnNt been finali7ed) b/c of the previous financing and the fact that U took the initiative
in this financing and the magnitude of the benefit to S#. (contingent events & probability magnitude test)
Cas the material information generally disclosedF & not generally disclosed at the time of the trade
Commentary:
#riticism of decision & out to get U b/c didnNt like this type of sharp deal financing and reputable firms use 33)I>" as
best practice
?argest sanction ever ("H years) but no retail investors involved and 5uestionable whether the 40# met all the factors
of the test & sending a signal
#ourt reduced sanction but 40# is appealing
Section 76
$ prohibitions!
(") trading on basis of :DI & purchasing or selling (trading only refers to selling unless re insider trading); if know
material fact or change (material information E both relevant); special relationship & insider trading is a misnomer
b/c category prohibited by this section is broader than insiders
($) informing others on :DI & tipping
o (H) special relationship E insiders, affiliate (s' "($) & subsidiary of 6I or $ sub of same co or $ co controlled by
same person or co), associate (s' " & ">O of voting securities, partner, trust or estate with substantial interest,
relative that resides in same home, married and in same home) of 6I, etc'
o (H)(a)(iii) substantial portion for special relationship & market impact test & a reasonable investor would think
it is material
o (H)(b) lawyers, accountants, investment bankers who give advice to 6I re take over bids, etc'
o (H)(c) all employees of 6I can potentially be sub%ect to the prohibition
o (H)(d) were in a special relationship then 5uit
o (H)(e) most broad provision & infinite chain (everyone who learns from someone in special relationship and
anyone who should reasonably have known that the person was in a special relationship & Garper says high
threshold for the reasonable) & engages tipping offence
0till doesnNt catch everyoneF & financial %ournalist/analyst who writes a column that they know will have
a negative affect on price and if financial %ournalist/analyst short sells the security & business and
professional activity is a stretch for the analyst and not the %ournalist therefore there are some who can
have material information about the issuer and not be caught despite the very broad net cast by the
definition
Proofs for Trading
he accused was in a special relationship with the ri
he accused purchased or sold securities of ri & the trading definition includes both purchase and sale
he accused made the purchase or sale with knowledge of material information concerning the affairs of the ri &
material information catches both material facts and material information
0howing that the purchase or sale was made with knowledge of material information is different than showing
that a person made use of the information (used to have to show they made use & that is what motivated the trade
& now %ust show the concurrence of the information and the trade and not an excuse that that is not why they
traded)
he material information had not been generally disclosed
Proofs for Tipping
he accused was in a special relationship with the ri
he accused informed another person of material information with respect to the ri
he accused informed another person of the material information before it was generally disclosed
Person or Company in a Special Relationship with a Reporting Issuer
he s' BI insider)trading restrictions apply to a much wider class of persons and companies than are included within the
term insider (s' ")
he key definition in s' BI is a ,person or company in a special relationship with a reporting issuer- (s' BI(H)) &
includes all insiders of a ri but is not limited to insiders
(a) a person or company that is an insider, affiliate (s' "'"($)) or associate (s' "(")) of,
o (i) the ri
o (ii) a person or company that is proposing to make a take)over bid, as defined in Part ==, for the securities of
the reporting issuer, or
o (iii) a person or company that is proposing to become a party to a reorgani7ation, amalgamation, merger or
arrangement or similar business combination with the reporting issuer or to ac5uire a substantial portion of its
property;
(b) a person or company that is engaging in or proposes to engage in any business or professional activity with or
on behalf of the reporting issuer or with or on behalf of a person or company described in subclause (a)(ii) or (iii);
(c) a person who is a director, officer or employee of the reporting issuer or of a person or company described in
subclause (a)(ii) or (iii) or clause (b);
(d) a person or company that learned of the material fact or material change with respect to the reporting issuer
while the person or company was a person or company described in clause (a), (b) or (c);
(e) a person or company that learns of a material fact or material change with respect to the issuer from any other
person or company described in this subsection, including a person or company described in this clause, and knows
or ought reasonably to have known that the other person or company is a person or company in such a relationship'
1road & applies not only to directors and senior officers of the reporting issuer, but also to all other officers and even
employees'
he restrictions extend not only to those who work within the reporting issuer, but also to those who work within other
firms proposing to launch a take)over bid for the reporting issuer2s shares or proposing to enter into some other ma%or
business combination with the reporting issuer & advisers to any such firms (such as lawyers or investment bankers) are
also sub%ect to s' BI (s' BI(H)(b))
s' BI also extends to tipping & the act of providing confidential information about a reporting issuer to another person
who then uses that information to profit by trading in securities of the reporting issuer (or who further tips someone
else)
It is an offence not only for any person in a special relationship with a reporting issuer to tip (ss' BI($) and (3)), but
also for any person who obtains knowledge of a material fact or material change from such a source (a tippee) to
trade with knowledge of that information before it is generally disclosed, unless the tippee did not know, or ought
not reasonably to have known, that the tipper was a person or company in a special relationship with the reporting
issuer (s' BI(H)(e)) & the provision also catches tippees who, themselves, convey information they have received to
others'
Material Fact and Material Change
Insider)trading liability turns on the two critical concepts of material fact and material change (s' "("))
#oncern about these two statutory definitions, especially in the context of current proposals to impose statutory civil
liability for misrepresentations in continuous disclosure documents'
(P H")$>" & the #0. summari7es the effect of certain policy statements of the 09, the 09 ;= and the 1ourse de
:ontreal (formerly the :ontreal 9xchange), relating to the determination of materiality (A'$) & recommends that
reporting issuers adopt internal insider)trading monitoring policies, including policies that specifically prohibit any
trading by employees during certain times, such as the period prior to the release of regular earnings information'
Defences
(umber of them are available, as provided in statute (s' BI) , regulations and common law (reasonable mistake of fact)
Section 76 Defences and Exemptions
Defences: OSA
0ection BI does not create an absolute liability offence'
"' <isclosed in the necessary course of business (s' BI($)) see (P H")$>" hypothetical (p' "A"3 a)g)
$' 6easonable belief that material information generally disclosed (s' BI(A)) see (P H")$>" guidance as to what
constitutes general disclosure & news release to investing public (enough to %ust deliverF & is that the point of general
disclosureF & old case law said had to wait a day before you traded b/c not up to your control as to whether the media
will actually publish your information) p' "A"H)"A"I & posting on issuer website not enough b/c some people donNt
have access to internet
Chere is the burden of proofF & on the accused that they had the belief and that the belief was reasonable
. defence is available to an alleged inside trader who proves that he, she, or it reasonably believed that the
undisclosed material fact or material change had in fact been +generally disclosed+ before the impugned trade (s'
BI(A))
/enerally disclosed & 40. does not define it the mere issuing of a press release, without more, is not sufficient
()reen)
Re 9arold (& Connor & the 40# suggests that determining whether information is generally disclosed involves a
two)pronged test! (a) the information must first be disseminated to the trading public and (b) the public must then
be given a sufficient amount of time to digest such information given its nature and complexity (the amount of time
necessary for such digestion varies from case to case but an insider should wait a minimum of one full trading day
after the release of the information before trading)
Exemptions
1ecause the prohibitions in section BI of the 40. are so broad, they potentially could prove untenable for certain
professional firms, such as, in particular, investment banking firms'
:a%or investment banking firms, or integrated securities firms, regularly engage in brokerage or proprietary trading
activities and provide advisory services that may result in their being privy to information that could constitute
undisclosed material facts' hey would have access to undisclosed material information in one area of the firm, while it
simultaneously engages in trading activities in another area of the firm'
he policy considerations underlying s' BI are not offended by such trading, provided that the individuals making the
trading decisions do not, in fact, have knowledge of the undisclosed information therefore s' "BH (6eg' "BH(3)) provides
for exemptions and 6ule 33)I>" contains guidelines
Defences: OSA Regulations
*irewall/#hinese wall (p' $"B 6eg s' "BH(" and 3)) & available as a defence to a registrant (brokerage house/investment
banker firm) involved in transactions that would constitute material information if you can show that no one who
participated in the trading that took place actually had knowledge of the material information
s' "BH(") burden of proof on person or company to prove that none of its directors, officers, agents had
knowledge, etc'
s' "BH(3) show implemented policies to prevent contraventions and prevent transmission of information
0ee 40# Policy 33)I>" & best practice re information passing to people who could trade or tip on the basis of it
9ducation of employees & give employees information about what constitutes insider trading and how to
conform to insider trading rules
#ontainment of inside information & ways to restrict access to transaction)sensitive information (code names for
transactions and issuers & part $'3, access cards for people to get access to : and . department, or for small
firms treat all employees behind the wall)
6estriction of transactions
o grey lists & firm has inside information and only wants compliance officers to know who the issuers are
and compliance officer can monitor trading in those issuers by every one else in the firm and what
information they have when they are doing it & e'g' <onnini situation when negotiations actively taking
place but before publicly disclosed (after P asked S#. whether they wanted to do another financing)
o restrictive lists & at moment at which it is public knowledge that services being provided to issuer and still
have access to information such that employees should not be trading & firm may have information and
once on that list traders should not trade
#ompliance & compliance officers monitor trading
Application of Firewall Defence strategy
6ankin/<uic example (handout) & 6 passed information to < and opened offshore account to routinely trade in
companies that 61# was actively involved in re : and . transactions (at least "> engaged in together) &
suggests that there is a limit to what you can do to prevent insider trading
<onnini (grey/restricted list issue) & commission critici7ed U b/c they put S#. on restricted list after :arch $
decision of bought deal committee but didnNt put S#. on grey list before the decision (in order to monitor
trading)
Dnsolicited orders (s' "BH($))
4ther party had knowledge (s' "BH(H))
1urden of proof in s' "BH situations & burden on you to show reasonable belief that the other party had knowledge
40. 6egulation, 0ection "BH
6eg' s' "BH provides exemptions from ss' BI(") and "3A for trades by persons or companies in a special relationship
with a reporting issuer with knowledge of an undisclosed material fact or material change in the following
circumstances!
Chere the individuals who participated in or advised on the trading decision did not have actual knowledge of the
undisclosed material information
Chere the purchase or sale of the securities occurred pursuant to a pre)existing agreement, plan, or commitment
Chere the person or company was acting as an agent for a third party pursuant to a specific unsolicited order
1urden of proof lies with the person or company that would otherwise be guilty of acting in violation of s' BI'
In determining whether the burden of proof is discharged, the internal policies and procedures that the person or
company has put into place to prevent contravention of the 40.2s insider)trading prohibitions are relevant
considerations (6eg' s' "BH(3)) & guidelines for developing such internal policies in 40# Policy 33)I>" "'$
40# Policy 33)I>"
*ailure to comply with the policy did not mean that a person or company could not seek the exemption in 6eg' s' "BH
and compliance with the policy did not guarantee that the person2s or company2s policies and procedures would be
considered ade5uate ("'$)
Policy 33)I>"2s guidelines are organi7ed around four areas ($'")!
9mployee education
#ontainment of inside information
#ompliance
6estriction of ransactions
Emplo#ee Edu$ation
he guidelines in 40# Policy 33)I>" recommend implementing programs to ensure that employees are informed of
both their legal and ethical responsibilities ($'$)
Containment o! nside n!ormation
he guidelines in 40# Policy 33)I>" relating to information containment are premised on firewalls between different
departments of the same firm ($'3) (or #hinese walls or ethical walls) & employees in different departments of a firm
are expected to act as though their departments were separate firms and confidential information possessed by one
department is not disclosed to anyone outside of that department'
Restri$tions o! Transa$tions
he guidelines in 40# Policy 33)I>" relating to the restriction of transactions employ the concept of classified lists
(grey lists and restricted lists) of issuers about which the firm has, or may have, inside information ($'A)$'I)
9'g' 6ed 0uspenders 0ecurities Inc' is an integrated securities firm that provides corporate finance and merger and
ac5uisitions advice to its investment)banking clients, and brokerage services to its institutional and retail clients' 6ed
0uspenders also engages in proprietary trading for its own account' Chale #orp', a reporting issuer, retains 6ed
0uspenders' Chale #orp' proposes to make an unsolicited take)over bid for Konah ?td' Chen Chale #orp' first
consults 6ed 0uspenders, 6ed 0uspenders places both Chale #orp' and Konah ?td' on the +grey list,+ which is a +highly
confidential+ list of issuers about which 6ed 0uspenders has +inside information'+ he grey list is not generally
circulated to other members of the firm, but is made available, as necessary, to compliance officers' 4nce Chale #orp'
publicly announces its intention to make a bid, 6ed 0uspenders moves Chale #orp' and Konah ?td' from the highly
confidential +grey list+ to a +restricted list'+ he restricted list is a list of issuers about which the firm may have inside
information, obtained from providing continuing advisory services in the course of the take)over bid' he restricted list
is disseminated throughout 6ed 0uspenders, and trading in securities of issuers on the list normally stops, except in the
case of +normal market)making or other permitted activities'+ 4nce the take)over bid is completed, 6ed 0uspenders
removes Chale #orp' and Konah ?td' from the restricted list'
Complian$e
40# Policy 33)I>" provides a number of specific suggestions for ongoing trade monitoring, reviewing, and
compliance policies and procedures ($'B) & policy suggests that a senior officer of the firm be made responsible for
these measures, and that the firm2s policies and procedures be sub%ect to regular review to ensure that they are ade5uate
and effective'
Defences: Common Law - Reasonable mistake of fact
Lewis v. Fingold
Facts: . director of a reporting issuer became aware of certain confidential information about the issuer at a directors2
meeting' he accused sold shares in the issuer with knowledge of that information and before it had been generally
disclosed'
Ratio: he court found that the information constituted a material fact that would reasonably be expected to have a
significant effect on the market price of the issuer2s shares' 1ut the trial %udge also found that the accused did not believe
that the information would have a substantial effect on the company2s share price and that there was at least some basis for
that belief (defence of reasonable mistake of fact; that is, a reasonable belief in a mistaken set of facts which, if true, would
render the prohibited act an innocent one)' 1ecause the offence created by ss' BI and "$$ was characteri7ed by the court as a
strict liability offence, to which such a reasonable mistake of fact defence must be available, the accused was ac5uitted at
trial, and this decision was upheld on appeal'
R. v. Harper (2000)
Facts: G involved in mining company that received and disclosed positive information but when received negative
information that put the positive results into 5uestion, didnNt disclose and engaged in dumping of stock before released
negative information' It was not contested that G was in a special relationship or that the information was a material
fact/change' :arket impact test said it was material information b/c when released information the stock tanked' <efence &
believed it wasnNt a material fact b/c geologist in the field told him that the results werenNt significant b/c more needed to be
found out and previously had positive results'
Issue: Chether G had a genuine and reasonable belief that the negative information was a material fact that needed to be
disclosed'
Ratio: The evidentiary test - has G demonstrated on a balance of probabilities an honest and reasonable mistaken belief to
refute his knowledge of facts which the #ourt finds to be material and which Garper admits to being in possession
Analysis: 6eliance on geologist not reasonable therefore not reasonable to assume that the negative results were not
material and didnNt need to be disclosed & ,given Garper2s decades of experience with /olden 6ule, its related mining
companies, prior employment and his industrial/financial involvement in general, such reliance would be
unreasonable' Garper2s relevant experience particularly in the financial and invest or aspects of gold exploration can not be
compared to (ebel who had no such experience' his #ourt can not accept that Garper, knowing these results and knowing
his personal/family share holdings, would leave such determination to (ebel' Ge certainly did not rely on (ebel in these
areas; in fact, there is evidence that (ebel relied on Garper for his own personal investor advice-' (reputable mining
company) wanted to be involved and had independent assessors to assess the property and as soon as they received their
results they walked away therefore not reasonable to assume not material
Conclusion: Kail time and fine was imposed & not unreasonable given the facts'
Trading in Options and Other Derivative Instruments
s' BI(I) deems certain financial instruments to be securities of a reporting issuer for the purposes of the insider)trading
restrictions e'g' options to purchase shares of the issuer (calls), options to sell shares of the issuer (puts), and other
securities that derive their value, in a material respect, from the market price of the securities of the issuer
o ensure the integrity of the insider)trading prohibitions, it is essential that those who possess undisclosed material
information are restricted from profiting from such information regardless of the form of financial instrument they trade
to reali7e the profit'
Chere the reporting issuer itself issues such options, the options clearly constitute securities of the reporting issuer
within the definition of security in s' "(") but they are fre5uently issued not by the reporting issuer itself, but by
financial intermediaries such as investment banks'
he reporting issuer is a complete stranger to such contracts, but the purchase and sale of such contracts still trigger the
public policy considerations underlying section BI of the 40.' It is for this reason that the deeming provision in s'
BI(I) is needed'
he reference in s' BI(I)(b) to securities that vary in price with the market price of the reporting issuer2s securities could
include securities issued by one company that are exchangeable into securities issued by another'
*or certain tax reasons, the issuance of exchangeable securities is a techni5ue fre5uently used when a foreign
corporation ac5uires a #anadian corporation'
Penalties for Violation of Section 76 of the OSA
H sanctions to which a person or company who violates s' BI may be exposed! penal sanctions, statutory civil liability,
administrative sanctions, civil court proceedings, stock exchange or self)regulatory organi7ation (064) sanctions
#riminal s' "$$ especially s' "$$(A)
#ivil suit possibility s' "3A(" and A) and s' "3H & 3 categories
party on the other side can sue (s' "3A("))
the issuer can sue (s' "3A(A))
if issuer doesnNt sue the securities commission can sue on behalf of the issuer if the regulator applies to the court
(s' "3H)
.dministrative ss' "$B & regulators use public interest order power; "$M & order for compliance from court e'g' "3 &
compensation or restitution, "H & disgorge amounts obtained
<onnini decision
Penal Sanctions
. violation of s' BI constitutes a breach of 4ntario securities law'
.n offender may be prosecuted under the 5uasi)criminal provisions in s' "$$ & anyone convicted of an offence under s'
"$$ faces a possible fine of up to J":, a $ year term of imprisonment, or both (s' "$$("))
.dditional penalties for insider)trading violations & a fine e5ual to the amount of the profit made or the loss avoided by
the transaction, and indeed is potentially liable to pay as much as three times the amount of the profit made or the loss
avoided (s' "$$(A)) & can also include terms of imprisonment'
R& v& 9arper & the accused was convicted under s' "$$(")(c) on two counts of insider trading contrary to s' BI' Ge was
originally sentenced to one year2s imprisonment in respect of each count to be served concurrently' hese custodial
sentences were imposed in addition to fines totaling almost JA million but on appeal, the sentence was reduced'
Statutory Civil Liability
s' "3A & in the case of unlawful insider trading, a statutory civil remedy to A classes of plaintiffs!
hose who are the innocent counterparties to unlawful insider trades (s' "3A("))
hose who are the innocent counterparties to trades with tippees (s' "3A($))
:utual funds or the clients of portfolio managers or registered dealers in cases where someone with access to
information concerning the investment program of the funds, managers, or dealers benefits by trading on the basis
of such information (s' "3A(3))
6eporting issuers whose insiders, affiliates, or associates have gained by trading with the knowledge of
undisclosed material information or have communicated such information to others (s' "3A(A))
he s' "3A statutory civil liability mirrors the s' BI insider)trading liability e'g' defences are available to claims brought
under s' "3A in those cases where (a) the person who traded on the basis of the undisclosed information reasonably
believed the information was publicly disclosed, or (b) the information was known, or ought reasonably to have been
known, to the plaintiff (s' "3A("))' hese defences are similar to the defences to the 5uasi)criminal charge of unlawful
insider trading found in s' BI(A) and 6eg' s' "BH(H)
he basis for liability under s' "3A differs depending upon whether the plaintiff is an innocent party to the unlawful
trade or is the issuer to which the undisclosed information relates (or is, in some cases, the client of a portfolio manager
when information about the manager2s investment program was used improperly)'
Innocent counterparties to unlawful trades are entitled to recover any damages they may have suffered as the result
of such trades (s' "3A("))
In the case of actions brought by issuers (or by the clients of portfolio managers) & the liability of insiders,
affiliates, and associates of a reporting issuer is measured not by the amount of loss or damage suffered by the
reporting issuer, but by the extent of any gain reali7ed by the insider, affiliate, or associate that traded on the basis
of the undisclosed material information (this special rule applies only in the case of unlawful trades by insiders,
affiliates, and associates, and not in other cases involving persons or companies in a special relationship with the
reporting issuer) & rationale & corporate information is an asset of the corporation itself and any person or company
who trades on the basis of information concerning the investment program of a mutual fund or a portfolio manager
faces a similar liability to account for benefits or gains (s' "3A(3))
o facilitate the bringing of such actions to account for benefit or gain pursuant to ss' "3A(3,A) the procedure in s' "3H
is like the derivative action & provides a method by which the 40#, the securityholders of a reporting issuer, or the
securityholders of a mutual fund may institute or continue an action under ss' "3A(3,A) in the name of the issuer or the
mutual fund against defendants who have traded unlawfully & may be used when the reporting issuer or mutual fund to
whom the s' "3A remedy is provided has chosen not to pursue such an action itself (a senior officer or director of a
reporting issuer might profit from illegal insider trading but that same individual may well be in a position to decide
whether the issuer will pursue a remedy under s' "3A & they would have little interest in causing the issuer to bring an
action against himself or herself)
Administrative Sanctions
he 40# is empowered to make orders in the public interest where, among other things, the 40. has been breached'
In the case of an insider)trading violation committed by a securities professional, such as a broker, the 40# can
suspend, restrict, or terminate the registration of the offender'
In cases of violations by others, the 40# can exclude the offender from trading in 4ntario2s markets, remove the
offender, or prohibit the offender from acting, as a director or officer of an issuer, or reprimand the offender'
he 40# does not have the power to order an offender to pay monetary penalties, although they have negotiated
substantial payments in the settlement of proceedings'
Civil Court Proceedings
he 40# may apply to the 0uperior #ourt of 4ntario for a declaration that a person or company has not complied with
or is not complying with 4ntario securities law (s' "$M("))
Chere the court makes such a declaration, it has broad powers to issue an appropriate remedial order (s' "$M(3))
Securities Exchange or IDA Sanctions
Chere the securities of a company are listed on a stock exchange, or where an insider trader is sub%ect to the
%urisdiction of an exchange, or is a member of a self)regulatory organi7ation, additional polices and sanctions may
apply to insider trading
The U.S. "Short-Swing" Rules
D'0' federal securities laws do not, for the most part, include the same tightly drafted insider)trading prohibitions as
#anadian provincial securities statutes but there is an additional feature of D'0' law that is fre5uently encountered by
#anadian lawyers and business people
Dnder the 09. directors, officers, and beneficial owners of more than "> percent of any class of e5uity security of a
reporting issuer are liable to account for any profit reali7ed on a round)trip transaction (i'e, a purchase followed by a
sale, or a sale followed by a purchase) in a security of that reporting issuer that occurs within a six)month period(s'
"I(b))
his restriction against ,short)swing profits- prevents the use of information which may have been obtained by such
persons but liability under the 09. does not re5uire any actual use or misuse of such informational advantage &
recognition of such a great potential for abuse of inside information so as to warrant the imposition of strict liability
Simber #ommittee & in its proposals for reform of 4ntario2s securities laws, considered, but explicitly re%ected, the
.merican +short)swing profit+ rules'
SELECTIVE DISCLOSURE
#oncern about the practice of meeting with financial analysts in connection with pending earnings guidance (i'e'
providing information upon which financial analysts can issue forecasts of a companyNs future earnings) that is not
necessarily provided to retail investors & regulators concern over grey area b/w appropriate information gathering by
financial industry professionals and the use of information in a way that resembles insider trading
(P H")$>"
/uidance re interpretation of ,in the necessary course of business- (s' BI($)) & material non)public information
may be lawfully disclosed only where it is in the necessary course of business to do so
Permitted communications & e'g' communications with vendors, suppliers, employees, professional advisors,
regulators, and credit)rating agencies (3'3($))
9xpressly excluded & selective disclosure to members of the media, financial analysts, institutional investors and
other market participants
Reform Proposals Insider Trading Task Force
Prevention
1est practices re information containment by various professional groups (33)I>" should be adopted by
accountants, lawyers and students of both, and issuers themselves)
6evise definition of materiality & shift away from market impact test for material fact or change (affect on price
or value of security) and towards reasonable investor test & may not be relevant to issuer but investor would want
to know e'g' significant people trading even though may or may not have an effect on price or value of securities
6eal time disclosure of insider trading & disclosure timing re5uirement should be faster (real time & more
relevant to investors and more effective deterrent)
<etection
9nhanced issuer response to surveillance in5uiries
9nhanced integration of issuer data with trade data
9ncourage more complaints through education
Snow your client rules/offshore accounts & if a country has secrecy laws or insider trading is not prohibited then
they will probably give less cooperation re who is insider trading
<eterrence
Information connection/person connection & focus on connection with information rather than the special
relationship b/c the current rule (that you have to be in special relation or get the information from someone who
is) still does not catch everyone
:ore uniformity among provincial sanctioning powers (taken more seriously in some provinces than others)
(ationally integrated enforcement teams for insider trading issues (for extra)provincial connections)
PROSPECTUS EXEMPTIONS
1eing able to distribute securities without a prospectus
Policy Objectives of Exemption Rules
#oncern for start ups/small issuers (focuses on the characteristics of the seller)
Prospectus unnecessary for wealthy/sophisticated investors & over)regulation and paternalistic (donNt need the level of
historical information b/c they have it already & they follow the issuer or are capable of getting it themselves e'g'
contact directors or look at financial statements themselves) (focuses on the characteristics of the buyer)
0ome types of securities extremely safe investment & inherently safe e'g' securities issued by the government of #anada
(focuses on the type of the security)
In general, there is a balance of concerns & efficiency and cost reduction vs' investor protection and liability
mechanisms & not so easy to sue when exemption rules apply b/c no prospectus to claim misrepresentation
$ problems for scheme of securities distributed without a prospectus (therefore need resale rules)!
"' 1ackdoor underwritings/resales into secondary market
o <istributions are primary market transactions but the initial exempted purchaser will eventually want to resell
(make them issue a prospectusF his will deter them from purchasing in the first place)
o <onNt want a $ tier system of markets & (") issuers selling within exemptions and those securities %ust keep
circulating within them and ($) issuers and retail investors
o <efinition of reporting issuer & depends on prospectus
o <efinition of closed system & closed b/c 0ecurities .ct governs all ways to (") distribute securities in the first
place and ($) buy and sell in the secondary market (either by prospectus or prospectus exemptions and resale
rules)
$' 0ales from holdings of control persons & any sale from the holdings of a control person is a distribution which
triggers a prospectus re5uirement (even if already distributed by the issuer by way of a prospectus but someone
purchased enough to be considered a control person) b/c control persons considered to be privileged re access to
information about the issuer therefore their sales should be closely monitored (but disincentive for people to
become control persons therefore need a way for control persons to sell securities but still keep a level playing field
for others investing in the issuer)
9fficiency advantages of private placements!
0peed & regulatory review is at least a couple of weeks and lawyers, accountants, underwriters review it
extensively as well
6eview by regulators is a cost (may tell issuer to provide more information) vs' when exemption applies there is
less documentation to meet regulatory rules (not completely disclosure or filing free but more streamlined than the
prospectus re5uirements)
Sources of Law in ON re Prospectus Exemptions
Gistory of exempt distribution provisions in .ct & up until late "88>s, exemptions added in an ad hoc matter as market
conditions re5uired them and was difficult to figure out the policy rationale of them e'g' block transaction & being
prepared to spend J"H> >>> on a transaction was a proxy for sophistication
Introduction of 40# 6ule AH)H>" & most important exemptions available for the distribution of securities
40# rule & only applies in 4( (unlike a (I) therefore if wanted to sell both inside and outside 4(, need a separate
analysis of whether exempt for outside 4(
Implications for statutory provisions & made some of the statutory provisions redundant and some not redundant
o ss' B$, B3(")(a) & separate exempting rules
o o find out which are redundant, you have to go to Part 3 of the rule & removed some of the exemptions but
havenNt physically been removed from the statute E confusion for people not familiar with securities law
?atest version of AH)H>" & rule has been amended many times & use the one in the consolidation (the one in the
supplement is the same)
Registration and Prospectus Exemptions
6egistration re5uirement & rules re5uiring trades of securities to be effected through a securities firm that is registered
(i'e', licensed) under the 40.
Prospectus re5uirement & rules that re5uire certain kinds of securities trades ) distributions ) to be undertaken only if the
seller prepares, files, and delivers to the purchasers a prospectus
here are exemptions from both the registration and the prospectus re5uirements
Registration Exemptions
In almost every case where a distribution of securities is exempt from the prospectus re5uirement, that distribution is
also exempt from the registration re5uirement'
3 important points re the registration re5uirement!
. +rade+ riggers the 6egistration 6e5uirement! he registration re5uirement is triggered whenever there is a
+trade+ in securities, even if that trade is not a +distribution'+ hus, it may be necessary in a private sale of
securities to ensure that a registration exemption is available, even in cases where there is no legal re5uirement to
prepare a prospectus
0ecurities 0old without a 6egistrant! Chere securities are sold without the participation of a registrant, care must
be taken to ensure that a registration exemption is available' It ought not to be assumed that, if a prospectus
exemption is identified, a parallel registration exemption is also available
0ources of 6egistration 9xemptions! he registration exemptions may be found, primarily, in ss' 3A and 3H of the
40. and in 6ules AH)H>", AH)H>$ and AH)H>3' .pplication may also be made to the 40# under s' BA for
registration exemptions in individual cases
Overview of the Prospectus Exemptions: Primary Offerings
.ssembling a prospectus is not financially feasible for all issuers & not possible for a small, start)up corporation seeking
to raise JH>,>>> from relatives and friends of the corporation2s main shareholders & securities regulation recogni7es that
a prospectus is not cost effective in such a situation and contains exemptions from the prospectus re5uirement to
recogni7e the practical realities of financing small ventures'
0ome buyers of securities (b/c of their bargaining leverage wrt the issuer or their sophistication in financial matters) do
not re5uire the protection afforded by a mandated prospectus and securities regulation provides exemptions from the
prospectus re5uirement to accommodate such purchasers'
0ome securities are so inherently safe that it is unnecessary to protect buyers by insisting that the vendor of the
securities produce a prospectus e'g' the /overnment of #anada does not need to prepare a prospectus when issuing
securities (it is regarded as an extremely creditworthy debtor, more creditworthy than any #anadian corporate issuer)'
he prospectus exemptions are implicitly built upon a cost)benefit calculus & in some situations, the cost of re5uiring
the issuer to assemble a prospectus exceeds the likely benefit (e'g', enhanced investor protection) that would be
achieved by imposing this re5uirement'
Regulation of Secondary Market Trading
6egulating primary market transactions effectively re5uires regulating secondary market transactions as well e'g' if an
exempt buyer buys securities, but immediately resells them to a person who does not 5ualify as an exempt buyer (i'e', a
person who could have purchased the securities only with the benefit of a prospectus) & if this sort of +5uick flip+ were
permitted by securities laws, it would provide an easy way to circumvent the re5uirement that an issuer compile a
prospectus when selling to those who do not 5ualify as exempt buyers'
1ackdoor underwriting & a transaction that seeks to illicitly circumvent the prospectus re5uirement'
#losed system resolves the backdoor underwriting problem & the default rule (i'e', the rule that applies absent an
exemption) re5uires an exempt purchaser to assemble and distribute a prospectus when reselling the securities that she
originally ac5uired on an exempt basis & this is done by designating the first trade in securities ac5uired under an
exemption as a +distribution+ of those securities'
.n exempt purchaser may escape the prospectus re5uirement by either of two means! (") she may sell the
securities to a purchaser who is also an exempt purchaser (exempt purchasers are assumed to be capable of
protecting their own interests & they are no less capable of protecting their own interests in secondary market
purchases than they are when they purchase directly from the issuer) or ($) provided the issuer is a reporting issuer
(for the seasoning period), an exempt purchaser may escape the prospectus re5uirement if she has held the
securities for the restricted period (ensures that exempt buyers purchase with the intention of holding the securities
for investment purposes, rather than with a view to reselling the securities to non)exempt buyers, and so allowing
the issuer to circumvent the prospectus re5uirement)'
#losed system also regulates sales by control persons (whether or not the control person ac5uired her securities in an
exempt transaction) & a control person is any person or entity having the power to materially affect the control of an
issuer, and is presumed to include any person or entity holding $> percent or more of an issuer (s' "(")(c)
,distribution-) & sales by control persons are distributions that must be made under a prospectus, %ust like sales by the
issuer
6ationale & they fre5uently have access to privileged information concerning the issuer & as in the case of sales by
the issuer itself, the re5uirement that a sale by a control person be accompanied by a prospectus is designed to
redress the potential imbalance of information between the seller and the buyer and to ensure that the seller does
not take advantage of the buyer'
0ales by control persons and all sales that constitute a distribution effected by someone other than the issuer E
secondary distributions and a control person selling securities using a prospectus E secondary offering (such sales
do not occur in the primary market between an issuer and an investor, but rather occur in the secondary market
between two investors)'
. control person may escape the prospectus re5uirement if!
o he person purchasing securities from the control person is an exempt purchaser
o he issuer is a reporting issuer in at least two different circumstances!
If the control person is an +eligible institutional investor+ ((I I$)">" i'e', a financial institution, pension,
or mutual fund), the control person can sell the issuer2s shares without a prospectus, provided the seller
does not actually control the issuer or have board representation, the sale is made in the ordinary course of
the seller2s business, the seller has no knowledge of undisclosed material facts or changes, the securities
would not otherwise be sub%ect to a hold period, and no market)grooming efforts are undertaken or
extraordinary commissions paid'
If the control person is not an eligible institutional investor, the resale rules are somewhat different
(sub%ect to seasoning and restricted periods & so long as the control person gives the regulators advance
notice of the intended sale and formally disclaims knowledge of any undisclosed material information
concerning the issuer) (AH)">$ $'M)
DETAILED REVIEW OF THE PROSPECTUS EXEMPTIONS
Types of Exemptions
"' 1ased on the nature of the trade or the identity of the person ac5uiring the securities (s' B$, AH)H>") e'g' if the buyer
is a bank (able to protect its own interests in purchasing the securities)'
$' 1ased on the nature of the security e'g' bonds issued by a provincial government may be sold free of the prospectus
re5uirement, regardless of the identity of the purchaser (ss' B3(")(a), 3H($)"(a)) & rationale is that the type of security is
so inherently safe that the protections afforded by securities regulation are unnecessary'
3' 1ased on the existence of an alternative regulatory scheme for the protection of the buyers of the securities e'g' on a
statutory amalgamation of two companies, the shareholders of each amalgamating company receive new securities in
exchange for their old securities (corporate law supplies shareholders with sufficient protections (including mandated
disclosure), to render the prospectus re5uirement unnecessary)'
Exemptions Based on the Ability to Protect One's Own Interests
he prospectus re5uirement is based on the assumption that the market will not ade5uately protect buyers from
unscrupulous sellers who are willing to exploit their informational advantage for profit'
1ut there are buyers who have either sufficient bargaining power or sufficient sophistication (or both) to protect their
own interests without the intervention of the statutorily mandated prospectus'
Chere an issuer sells securities to such exempt purchasers (or accredited investors), the 40. does not re5uire a
prospectus (by exempting sales to designated purchasers from the prospectus re5uirement)'
Cealth/0ophisticated Investor 9xemptions
.ccredited investor exemption & if sufficiently wealthy or sophisticated in an investment context then they donNt need
to be provided with a prospectus to purchase sec
Definition
0ome branches of definition carried over from precious types of exempt purchaser exemptions
Part "'" & banks, business development bank (arm of the government of #anada and large amounts of capital at its
disposal), other types of financial institutions (loan and trust corporations, etc'), government of #anada, pension
funds/mutual funds (aggregations of capital)
(ew definitions re (") individuals and ($) family members of officers/directors (from $>>")
Individuals & pre$>>" no matter how wealthy they were, they could never be one unless they specifically re5uested
for a particular trade; $ tests!
o (m) .sset test
,financial assets- & cash, sec or insurance policies that amount to J": (must be a li5uid financial asset
that you can access)
,related liabilities- & e'g' if bought JH>> >>> of sec but got JA>> >>> loan to purchase those sec (whether
": is ": in reali7able financial assets)
*actors indicative of beneficial ownership #P Part $'$(") & b/c your spouses assets are your assets and
want to include complex holdings of assets e'g' group 660P as opposed to self)directed 660P
o (n) Income test
.mbiguity b/c of ,exceeding the same net income level- wording (:L( p' "M$) & trying to get at people
well)placed in the labour market but raised the bar higher than has to be b/c of ,exceeding- & D0 uses
,reaches- & resolved in favour of exceeding E reaching (no policy reason not to & reasonable reading)
o 6eplaces test that focused on the transaction & new tests are more flexible (both to investors and issuers)
*amily members of officers/directors & is the policy rationale reasonableF Could they actively rip off their own
family members or give them bad investment adviceF & cases where spouses are co)signers on principle residence
and business goes south and court says spouses should get independent legal advice & so not %ust intentional
ripping off of family members that is of concern
,esignated nstitutions ("'" (a)g))
Chere the purchaser is a bank, a credit union, a trust or loan corporation, an insurance company, or a registered dealer
(in certain registration categories), the issuer need not prepare a prospectus'
)overnments ("'"(h)%))
Chere the purchaser is the federal government, a provincial government, a municipal corporation, a public board, or a
commission, no prospectus is re5uired'
(ersons or Companies Who :eet n$ome or Asset Tests" or Who Are Re$ogni%ed b# the OSC as A$$redited nvestors
("'"(m)o, t, u))
hose purchasers who meet certain specified income or asset thresholds fall into this category of accredited investors'
hose purchasers who have applied to the 40# for, and have been granted, accredited investor status also fall into this
category'
.sset test & individuals may 5ualify as accredited investors if they beneficially own, either individually or together with
a spouse, net financial assets (i'e', cash, securities, certain insurance contracts, and certain certificates of deposit)
exceeding J" million ("'"(m))
Income test & an individual with a net individual income before taxes of more than J$>>,>>> in each of the two most
recent years, or with a combined individual and spousal income before taxes of more than J3>>,>>> in the two most
recent years, is eligible for accredited investor status but only if the individual +has a reasonable expectation of
exceeding the same net income level in the current year'+ ("'"(n))
.sset test for non)individuals & a company, limited partnership, limited liability partnership, trust, or estate, other than a
mutual fund or non)redeemable investment fund, with net assets of at least JH million (as shown on its financial
statements) is an accredited investor ("'"(t))
40# has the authority to recogni7e certain securities buyers as +exempt purchasers+ on a case)by)case basis ("'"(u)) of
the definition of +accredited investor+ in section "'" of 6ule AH)H>"
1ut AH)B>$ states that they do not expect this provision to be relied upon very often because most applicants for
+exempt purchaser+ status under the former rule would now satisfy the re5uirements of one or more of the
specifically enumerated categories of +accredited investor+ and so would not re5uire any special 40# recognition
1ut s' M'" of AH)H>" states that anyone previously recogni7ed as an +exempt purchaser+ will be considered an
+accredited investor+ until 3> (ovember $>>$'
A (romoter ("'"(p)) o! an ssuer or a Spouse" (arent" )rand$hild" or Child o! an O!!i$er" ,ire$tor" or (romoter ("'"(5))
. person or company is considered a +promoter+ of an issuer if that person or company founds or organi7es an issuer,
or receives, in connection with the founding or organi7ing of an issuer, "> percent or more of the issuer2s securities or
"> percent or more of the proceeds of sale of an issue of securities'
ypically, promoters are intimately ac5uainted with issuers and, generally, are the original, directing mind and will of
such issuers therefore they do not need the protection of securities laws when they purchase the securities of the issuer'
9xemptions are, thus, available for sales of securities to promoters, between promoters, and between promoters and
control persons of an issuer'
Control (ersons" A!!iliates o! the ssuer" ("'"(r) or the ssuer tsel! ("'"(s))
Chen an affiliate of the issuer or a control person purchases securities of the issuer, there is little risk of the sort of
informational imbalance that underlies the application of the prospectus re5uirement therefore such sales are exempt
from the prospectus re5uirements'
Purchases made by issuers of their own outstanding securities, including purchases in the form of redemption of shares
are also exempt'
Substantive Rule for Accredited Investor
0ee Part $'3 of AH)H>" & in principle (canNt buy on behalf of others & anti)avoidance)
.pplies when purchaser is an .I, doesnNt say the vender has to be issuer & can be buying from other .I
<oesnNt specify any purchase amount & flexibility
Disclosure Requirements for Accredited Investor
6eporting re5uirement in Part B'H (*orm AH)H>"*" & same as for /I0)
#aveat for some branches of .I definition (p)s) & includes the family member definition (donNt have to report trades if
they are to family members)
rades between 6egistered <ealers (s' B$(")(5))
Chen a registered dealer sells securities to another registered dealer who is purchasing as a principal (i'e', not as an
agent for another party who may not be a sophisticated party), no prospectus is necessary & the purchaser is deemed to
be a sophisticated buyer & those acting for registered dealers must satisfy certain proficiency standards before they can
carry on business' 6egistered dealers also typically have market experience in evaluating the worth of securities
(overlap between this exemption and a certain aspect of the +accredited investor+ exemption e'g' "'"(g))
rades to Dnderwriters or between Dnderwriters (s' B$(")(r)
Dnderwriters are market professionals who play key roles in assembling a prospectus, usually for the purpose of selling
securities to the public and therefore have access to privileged information concerning the issuer and do not need the
protection afforded by the very prospectus that they assist the issuer in preparing'
rades between underwriters are also exempt from the prospectus re5uirement because underwriters often subcontract a
portion of the sales function to other underwriters' he subcontractors do not participate in the process of assembling
the prospectus; however, like those underwriters dealing directly with the issuer, they are re5uired to register with the
regulators and must meet proficiency standards in order to carry on business' hese underwriters are also savvy
investment dealers who are experts in assessing the value of securities' hus, they do not need the protection afforded
by a prospectus'
Exemptions Based on the Inherent Safety of the Security Offered
9'g' a debt instrument issued or guaranteed by a #anadian or foreign government (ss' B3(")(a), 3H($))
<ebt securities offered by banks, credit unions, trust companies, and insurance companies are all exempted from the
prospectus re5uirement (ss' B3(")(a), 3H($)"(c,c'")) & although at one time these securities were thought to be extremely
safe investments, collapses, or near failures, of some #anadian financial institutions within the past twenty years
demonstrate that this is no longer invariably the case (therefore inherent safety, without more, does not seem to be an
ade5uate rationale for these exemptions today)
he existence of an alternative protective mechanism may be a better explanation for these exemptions e'g' banks
are sub%ect to federal regulation and oversight by the 4ffice of the 0uperintendent of *inancial Institutions, which
applies minimum standards of banking conduct and capital ade5uacy rules to minimi7e the risk of a bank collapse'
/uaranteed investment certificates issued by trust corporations are regulated under the 4ntario ?oan and rust
#orporations .ct' 4nly those credit unions governed by the #redit Dnions and #aisse Populaires .ct, "88A, are
exempt from the prospectus re5uirement'
.bility of the buyer to protect herself & e'g' buyers of securities issued by private mutual funds (ss' B3(")(a), 3H($)3) or
short)term commercial paper (i'e', negotiable promissory notes with a maturity date of less than one year) (ss' B3(")(a),
3H($)A) are generally people who are thought to be sufficiently sophisticated to protect their own interests'
Exemptions Based on the Existence of an Alternative Protective Mechanism
In some situations, a prospectus is not re5uired because those who receive securities in a +distribution+ are protected by
some alternative mechanism e'g' amalgamations and other similar corporate combinations or reorgani7ations, and take)
over and issuer bids'
.malgamations and 4ther 0imilar #orporate #ombinations or 6eorgani7ations (s' B$(")(i))
Chen two corporations amalgamate, the amalgamating (i'e', predecessor) corporations are subsumed within the body of
the amalgamated (i'e', continuing) corporation that results from the amalgamation' .ll the outstanding securities of
each of the amalgamating corporations are cancelled' he amalgamation agreement provides for the allocation to the
shareholders of the various amalgamating corporations of security interests in the new corporation (or, in the case of a
+three)cornered amalgamation,+ shares in a third)party affiliate)' 1ecause the new securities will be exchanged directly
by the issuer (i'e', the new amalgamated company) for securities previously held in the +old+ amalgamating
corporations, there is a trade for valuable consideration' .nd, because that issuance is a primary market transaction, it
constitutes a distribution of securities that would normally re5uire a prospectus'
he 40. exempts this type of issuance from the prospectus re5uirement because the shareholders are ade5uately
protected under the applicable corporate law & the shareholders of each amalgamating corporation must consent to the
plan of amalgamation by special resolution; prior to the vote, corporate law re5uires a +proxy circular+ to be sent to the
shareholders that contains information similar to that re5uired under a prospectus; any individual shareholder who
declines to participate in the transaction may insist that the corporation buy his shares from him at a court)appraised fair
value'
his exemption extends not only to amalgamations, but also to other statutory procedures with results similar to an
amalgamation (e'g', an +arrangement+ under applicable corporate law)
ake)over 1ids (B$(")(%)) and Issuer 1ids (AH)H>")
. take)over bid occurs when a bidder makes a public offer for the securities of a target
In some cases, the bidder is a corporation that offers its own securities in exchange for those of the target (securities
exchange take)over bid)
.n issuance of securities in this situation constitutes a distribution because the issuer directly makes the issuance for
valuable consideration'
here is an exemption from the prospectus re5uirement because the bidder must prepare a +take)over bid circular+ for
the benefit of target shareholders, which contains the same information provided in a prospectus'
. similar exemption applies in the case of a securities exchange issuer bid, provided the issuer is a reporting issuer not
in default under securities laws (AH)H>")
Exemptions Based on Particular Policy Goals
0ome exemptions are based on policy concerns e'g' (i) closely)held issuer exemptions; (ii) trades to employees and
consultants; (iii) government incentive securities; (iv) securities issued by prospectors or mining companies; and (v)
securities issued by non)profit organi7ations for educational, charitable, religious, or recreational purposes'
#losely)held Issuer 9xemption (AH)H>", $'")
<efinition of closely held issuer in Part "
*ocus on numerical limits on investors and monetary cap of how much you can raise using the exemption (to
restrict to small businesses)
(a) 6estriction on transfers of shares (restricts si7e of issuer & issuer is able to control who the shareholders are and
when and under what conditions shares are transferred & by 14< approval or contained in issuerNs
articles/shareholder agreement) & limited to shares (donNt have to have a restriction on debt securities & interested
in e5uity shareholders)
(b) ?imit of 3H persons as security holders & donNt have to figure out if member of the public (used to be private
company exemption)
o 9xclusions of types of security holders & accredited investors, current former directors/officers and employees
who ac5uired as compensation as part of an incentive plan (p' "M8 line $ & typo they mean security holders b/c
can be issuing other than shares)
o (1) .nti)avoidance rule & business entities are considered to be one security holder unless created primarily to
ac5uire or hold the issuers security (e'g' many security holders holding in the name of the collective entity)
0ubstantive rule
0ee part $'"(") of AH)H>" & conditions for when ss' $H and H3 do not apply (registration and prospectus
re5uirements)
(a) <istinction b/w trades by issuers and by selling security holders (and obligation on security holders to make
reasonable in5uiry that the issuer is still a closely held issuer after they sell i'e' havenNt passed either cap)
(b) #ap on amounts that may be raised using exemption ) J3: but donNt count money raised by accredited
investors (#P Part $'3(A) ,proceeds received by the issuerT- & other excluded security holders probably not
mentioned b/c not paying for their security b/c receiving them through an incentive plan)
o (o distinction b/w selling issuer/security holders re money cap b/c proceeds arenNt reaching the issuer when
the selling security holder sells their securities
(b) <efinition of ,common enterprise- & example of an anti)avoidance rule b/c meant to prevent the setting up of
issuers who are all in same business enterprise but each using exemption to raise money (artificially splitting to
take advantage of the cap more than once)
o AH)H>" #P Part $'3(H) & commonality of ownership and business plans are indicative of a common enterprise
Chat happens if you precede on the basis that you are on)side the rules and the regulators determine that you are
actually off)sideF Uou have distributed securities without a prospectus and therefore you have breached 4(
securities law, which triggers the 5uasi)criminal and administrative orders that the securities commission can
pursue (cease trade, reprimand directors, etc')
(c) what is the policy rationale for this & they want to curb the class of people they are advertising to b/c they can
only take on 3H investors and concern of artificially carved up issuers set up in order to meet the re5uirements of
the exemption (want the promoters registered under the act)
<isclosure re5uirements
Part $'"($) & no re5uirement to file material with the commission (efficiency and cost reduction); but information
statement
*orm AH)H>"*3 (information statement) re what investors should know when evaluating whether to invest in a
closely held issuer
o 0ee terms of analysis investors advised to make
6isks and investment strategy & never invest unless prepared to lose in entirety
.naly7ing the investment & 5uestions that are described in great detail in a prospectus; if you donNt
receive this information then ask for it from the principles of the issuer (stretch to assume security holders
who are not accredited investors, etc' would be proactive enough to ask these 5uestions)
If too elaborate, might as well make a prospectus vs' are you really meeting investor protection goals
(o guarantee of any market if need to li5uidate your investment (hope that the issuer will go public)
#aveat re issuers with very small number of sec holders & donNt have to provide it at all if they have not more than
H beneficial holders
Chere the conditions of the closely)held issuer exemption are satisfied, the exemption is available not only to the issuer
itself, but also in respect of any trades by a securityholder of such an issuer' Gowever, the exemption is available in the
case of trades by securityholders only while the issuer continues to satisfy all the closely)held issuer criteria' Chen the
issuer no longer satisfies those criteria, a securityholder seeking to resell his or her shares in the closely)held issuer
must identify another available prospectus exemption or, as described further below, ensure that the +seasoning)period+
re5uirements of :ultilateral Instrument AH)">$, section $'I are satisfied'
rades to 9mployees, 9xecutives, and #onsultants (AH)H>")
Public policy in favour of employee ownership and, more broadly, in favour of share ownership by a corporation2s
employees, consultants, and executives' he rule advances this policy goal by exempting from the prospectus
re5uirement distributions of securities to such persons, provided their participation in the trade is voluntary'
0ee employee exemption under statutory exemptions (pre)existing relationship with the issuer)
/overnment Incentive 0ecurities (AH)H>" Part $'"3)
In 4ntario, a special exemption exists for +government incentive securities'+ hese are defined as securities that are
linked to specific exploration, development, or oil and gas property incentive schemes under the federal Income ax
.ct' his exemption manifests a compromise of the legislation2s overarching policy of investor protection in favour of
other policy ob%ectives pursued by the government'
Definition of GIS & compromise b/w investor protection and other policy ob%ectives (:L()
6esource financing (exploration companies especially oil and gas)
ax shelters for high income earners who want to invest in exploration & flowing through the tax credits to the
investors
Substantive Rule re GIS Part 2.13
:ax of BH investors may be solicited of whom only max of H> investors may purchase
.nti)avoidance rule & you canNt set up a business entity for the purpose of increasing the number of investors
(entity as an umbrella for many more security holders)
(c) Investors must ,have access to- similar information as prospectus would provide & undermines the purpose of
the exemption if have to provide prospectus)like information (issuers still incurs a significant cost)
Investor must either be able to evaluate information about investment b/c of net worth/investment
experience/consultation with investment advisor or be senior office/director or spouse/child of such
(o publicity/advertising & b/c can only solicit BH people
Promoters (founding these companies) limited to using /I0 exemption once every "$ months & anti)avoidance
strategy to prevent them from setting up many of them to take advantage of financing but set up so many that not
giving them the attention they need
0eed capital exemption
Disclosure Requirements
Investors must be supplied with an ,offering memorandum- (prospectus)like information)
6eport re5uired within "> days of trade (Part B'", B'H, *orm AH)H>"*") & who the seller is, issuer, types of sec and
how many purchased/price and exemption relied upon to make the trade therefore %ust a data collection purpose for
enforcement purposes
0ecurities Issued by Prospectors or :ining #ompanies (ss' B3(")(a), 3H($)"")"A)
Gistorically, mining has been an important industry in 4ntario' o encourage the formation of mining concerns, the
legislation contains a variety of exemptions that allow prospectors, prospecting syndicates, and mining companies to
issue securities free of the prospectus re5uirement'
0ecurities Issued by (on)profit 4rgani7ations for 9ducational, #haritable, 6eligious, or 6ecreational Purposes (ss' B3(")(a),
3H($)B)
0ecurities may be issued free of the prospectus re5uirement by non)profit organi7ations for educational, charitable,
religious, or recreational purposes, provided no commission or other remuneration is paid in connection with the sale'
Statutory Exemptions
H categories of exemptions to individuals who have a pre)existing relationship with issuer (e'g' already have sec or
category of employee, officer/director, etc')
0tock dividends
6eorgani7ations/distributions of assets
6ights to purchase, convert or exchange
6ights offerings
9mployees/officers/directors/consultants (stock option plans)
0tock <ividends
40. s' B$(")(f)(i)
0ec issued as dividend payment to sec holders & a new prospectus doesnNt %ustify the cost of providing b/c already
have information about the issuer
6ule AH)H>$; dividends/interest/cash payments applied to ac5uire additional sec & cash contribution plan set up by
issuer (pay into it to ac5uire new sec) & sec issued under these options/plans is that they donNt exceed $O of class
of sec (constrain dist of new sec using this kind of exemption)
s' B$(")(g)
Issuer distributes sec of 6I held by it to its sec holders as dividend in kind (not issuing its own sec but owns block
of sec of a 6I that it dist to its sec holders)
(eed an exemption for this (") if you were a control block holder b/c your disposal of those sec would constitute a
distribution; ($) if not meeting competition re5uirements (dominating a particular marketplace together with
another entity)
hey wonNt be providing consideration for them therefore only a restricted set of circumstances where this would
happen
6eorgani7ations/<istributions of .ssets (s' B$(")(f)(ii))
9'g' debt obligations exchanged for e5uity
6ationale & donNt want to compound their financial problems (and time)sensitive) and if creditors were willing to lend
to the issuer then they would know something about the issuer (risky but if alternative is that they wonNt get back their
money then might be worth it)
6ights to purchase, convert or exchange& s' B$(")(f)(iii)
Issuers issue warrants, options, convertible debt or convertible ps which are convertible to cs in the future or options to
purchase sec in the future & new sec are being issued at the point of conversion, exchanges, future purchases
Precondition to use of s' B$(")(f)
(o commission is paid or givenT & promoters canNt use this type of exemption to issue new sec to existing sec holders
where there is no legit financial reason for the additional purchases (prevent issuers soliciting new sec holder to
purchase underlying sec)
6ights offerings s' B$(")(h)
Issuer offers the right to existing sec holder to subscribe to additional sec (have to offer the same subscription right to
all sec holders in proportion to amount of sec held & want sec holders to have the same proportional holding as before)
6ationale & existing secholders of an issuer already know about the issuer and therefore they donNt need the information
disclosed in a prospectus
9xemption covers both granting of right and issue of sec pursuant to right
0ee (I AH)">" Part $'$ and #P "'$ for grounds on which rights offering exemption not available (conditions for using
the exemption & make life easier for issuer but constrain the number and type of sec)
#anNt increase by more than $HO the number of outstanding sec of the class following the issuing of the rights &
threshold indicates that it is a bounded opportunity for issuers to generate additional financing
#anNt compensate a dealer more for soliciting investors that werenNt secholders before the rights offering
0hort time b/w granting of right and exercise of right & buying without a prospectus therefore they should have
recent information about the issuer and the longer the time, the more likely that the information will be outdated
and the less certain an issuer can be wrt how many people will exercise the right
<isclosure re5uirements
Critten notice to 40# & s' B$(")(h) and might ob%ect if the class of sec would become too big as a result of the
rights being taken up (more than $HO ) ma%or financings ought to be made pursuant to a prospectus) or if the time
of exercise didnNt conform
6ights offering circular (AH)">"*") filed with the 40# and sent to every secholder who will receive rights under
the offering
o (ot as detailed as a prospectus (otherwise no point) but more like a short)form prospectus (nature of sec rather
than history of the issuer more generally)
o "3 & current ownership of sec in the issuer (so sec holder can see who insiders are and the natrure of their
holdings and the way in which the capital structure may change as a result of issuing these new rights
o "A & what plan to do with money
o "H & re5uires what the resale restrictions of the sec will be b/c they are being issued under an exemption (for
people who become subse5uent purchasers after the initial exempt distribution & how illi5uid the sec will be)
9mployees/officers/directors/consultants & s' B$(")(n) and :I AH)">H
4wnership incentive plans for employees
#an be no expectation of employment or continued employment b/c of their participation in these plans (recogni7es
power imbalance)
:I AH)">H broadens category of individuals who can benefit from employee exemption stated in s' B$(")(n) b/c raised
5uestions such as are directors considered employeesF People who provide consulting services (short)term Ss)F
,#onsultant- & spends significant amount of time on the issuer (donNt want transient consultants getting access to
the exemption)
:I AH)">H Part $'"(A) establishes limitations as to number/O of issuer sec that can be distributed (">O of the
outstanding sec in that class), unless prior sec holder approval (Part $'A) & would distort the si7e of the class relative to
the number of people buying without access to prospectus
Exemptions
#onvertible/exchangeable securities e'g' debt sec convertible into common shares
4riginal sec are the convertible sec and underlying sec are the converted sec (post conversion)
s' B$(")(f)(iii) applies to the underlying sec and the resale rule that applies to the underlying sec depends on how
the original sec was ac5uired ($'H, $'I or $'">)
s' B$(")(n) trades to employees has been repealed and replaced by :I AH)">H (e'g' re5uirement that participation must
be voluntary
0( AH)3>$ based on earlier AH)">$ therefore information re 5ualifying issuer are no longer relevant
OTHER EXEMPTIONS
Rule 45-504 - distribution of sec to a managed account (portfolio account where manager has full discretion to trade
without the clientNs consent to individual trades)
NI 62-101 - control)block distributions by eligible institutional investors ((I I$)">3)
MI 45-102 - control)block distributions by sellers other than eligible institutional investors, sales by pledges who sell
sec pledged by a control person to li5uidate a good)faith debt, and ancillary exceptions to what would otherwise be
resale restrictions
AN OVERARCHING PRINCIPLE: THE RELATIVE COSTS AND BENEFITS OF ISSUING A PROSPECTUS
.lthough sec regulation is concerned with investor protection, it is also concerned with cost)effectiveness therefore the
cost of a rule necessary to achieve a particular protective end must not exceed the benefit to be achieved (s' $'"(I))
9'g' closely)held issuer exemption & implicit trade)off b/w the cost and benefit of assembling a prospectus (although
re5uiring a prospectus would secure a benefit by protecting investors, its costs would greatly exceed the benefit b/c
most small companies couldnNt afford to comply with the prospectus re5uirement)
DISCRETIONARY EXEMPTIONS
40#Ns residual authority to grant discretionary exemptions from the prospectus re5uirement were it would not be
pre%udicial to the public interest (s' BA("))
OFFERING MEMORANDA
Chen sec are sold by issuers in reliance on a prospectus exemption, they may elect to (or may have to) provide
investors with information about the issuer and the sec being sold in an offering memorandum
Chere an 4: is provided, the law provides for civil liability for misrepresentations (similar to the s' "3> liability for
misrepresentations in a prospectus)
<istinction b/w mandatory (/I0) and voluntary use of 4:
<efinition (40. s' ") means a document, together with any amendments to that document, purporting to describe the
business and affairs of an issuer that has been prepared primarily for delivery to and review by a prospective purchaser
so as to assist the prospective purchaser to make an investment decision in respect of securities being sold in a
distribution to which section 53 would apply but for the availability of one or more of the exemptions contained in
Ontario securities law, but does not include a document setting out current information about an issuer for the benefit of
a prospective purchaser familiar with the issuer through prior investment or business contacts (equivilant of a
prospectus in the exempt market)
#ontents
/I0! 6ule AH)H>" Part $'"3(")(b) & who they officers and directors are and their 5ualifications and something
about investor rights under s' "3>'"
4therwise no prescribed content (#P Part A($))
o 9xcept re statutory right of action (AH)H>" Part A'$) & description of the terms of s' "3>'"
OM: Statutory Right of Action
/rounds of liability
:isrepresentation & see definition s' "
<eemed reliance & donNt have to argue whether you relied on rep when you made your trade
<efences (first $ same as in prospectus)
Investor had knowledge when they purchased
<epreciation not due to misrepresentation
Issuers not receiving proceeds
o 0taff notice (p' "$MM) & could be a right of action against underwriters and no due diligence defence (as there
is in prospectus context) & for policies reasons it does not appear to apply to them
6emedies
6escission or damages but canNt have both
#anNt get any more than price of sec (no opportunity costs/exemplary damages)
OM: Filing Requirements
#opies of 4: to be filed with 40# (Part A'3)
(o review of 4:s & %ust a reporting re5uirement
4:s not made public (like prospectuses are)
HISTORICAL/TRANSITIONAL NOTE
Certain Prospectus Exemptions Available under Prior Law
Persons Purchasing Securities in the Amount of $150,000 or More: The "Private Placement" Exemption
0ales to persons purchasing securities in the amount of J"H>,>>> used to be able to be effected without a prospectus by
relying on the exemption set out in s' B$(")(d)
6ationale & purchasers were assumed (rightly or wrongly) to have sufficient financial sophistication and/or access to
expert financial advice to be able to protect their own interests'
<isadvantages & the ability of a purchaser to invest J"H>,>>> in a single investment was an arbitrary, and rather
dubious, proxy for financial sophistication, especially in recent years; the exemption discouraged investors unwilling to
risk J"H>,>>> on a single investment from investing lesser amounts in smaller enterprises'
herefore the accredited investor and closely)held issuer exemptions introduced by the new version of 6ule AH)H>"
appear to address the needs at which this exemption were aimed, while eliminating at least some of its deficiencies'
Persons Who Were Sophisticated or Well Advised: The Seed Capital Exemption (s. 72(1)(p))
Chere all the sales were to persons who +by virtue of net worth and investment experience or by virtue of consultation
with or advice from a person or company+ were able to evaluate the information provided by the issuer
Issuers would typically assure themselves that purchasers 5ualified for this exemption by re5uiring that each purchaser
fill out a form declaring that he or she was appropriately 5ualified' 0ales could also be made under this exemption to
designated persons, including senior officers and directors of the issuer'
1ecause this exemption was most often used in the early stages of a company2s existence, it was usually referred to as
the +seed capital+ exemption'
<isadvantages!
?imited exemption & the issuer could solicit no more than fifty prospective purchasers in total, counting
solicitations made in any %urisdiction, and could sell to no more than twenty)five, with all the sales essentially
completed within a six)month period
If one or more of the purchasers included an entity (such as a corporation) created specifically for the purpose of
making the exempt purchase, the number of shareholders (or other participants of a non)incorporated entity) could
not exceed the number of permitted purchasers
he sale could not be advertised, and the exemption could be used only once in the lifetime of the issuer
It re5uired each purchaser to have +access to substantially the same information concerning the issuer that a
prospectus ''' would provide'+
o Interpreted as re5uiring an +offering memorandum+ that essentially replicated a prospectus in its informational
content & while the expense of assembling an offering memorandum typically falls somewhat short of that
associated with assembling a prospectus, the cost was often sufficiently large to transform the seed capital
exemption into a simplified prospectus regime, rather than a true exemption from the prospectus re5uirement'
Exempt Distributions through the Facilities of a Stock Exchange
In 4ntario between "8MA and "88A, an issuer with a listing on the oronto 0tock 9xchange could choose to make an
offering of its common shares through the stock exchange by means of an +exchange)offering prospectus+ (or 94P) (s'
B3(")(b))
In such a case, the issuer was exempt from the prospectus re5uirement, but the offering was re5uired to be made in
compliance with the rules of the stock exchange' he stock exchange rules re5uired that the 94P essentially replicate
the information re5uired in a prospectus'
he principal benefit of using the 94P rather than a conventional prospectus was that the stock exchange, rather than
the 40#, reviewed and ultimately approved the 94P' here is some anecdotal evidence that the exchange performed
this review somewhat more 5uickly and more sympathetically than the 40#'
he 94P system was designed to assist %unior resource and industrial enterprises in raising capital' *or this reason, it
was limited to issuers raising no more than JH million in any six)month period (but few offerings in 4ntario comply
with this si7e limitation therefore the 94P was seldom used and was discontinued at the end of "88A)'
Contractual Rights of Action
1efore the $>>" amendments to 6ule AH)H>", the statutory right of action in the case of misrepresentations in an
offering memorandum prescribed by section "3>'" of the 40. was not operative'
.lthough section "3>'" was introduced into the 40. in "888, it initially had no effect because subsection "3>'"(M)
provided that it would apply only as follows!
(a) to an offering memorandum which has been furnished to a prospective purchaser in connection with a
distribution of a security under an exemption from section H3
(b) in the circumstances specified in the regulations for the purposes of this section
.lthough it appeared that clauses (a) and (b) were intended to describe two different sets of circumstances in which the
provisions of section "3>'" would apply but the purpose of clause (b) was not to expand the application of section "3>'"
to cases not already covered in clause (a), but was to narrow or limit the application of section "3>'" only to those
circumstances where the re5uirements of both clauses were satisfied'
1ecause no regulations of the sort contemplated by clause (b) were passed prior to the promulgation of the new version
of 6ule AH)H>" in late $>>", section "3>'" was not, until that time, an operative provision' Gowever, to make the matter
free from doubt, subsection "3>'"(M) was amended effective H <ecember $>>", to read as follows!
(M) his section applies only with respect to an offering memorandum which has been furnished to a prospective
purchaser in connection with a distribution of a security under an exemption from section H3 of the .ct that is
specfied in the regulations for the purposes of this section
6egulations include rules therefore the provisions of 6ule AH)H>" have now brought section "3>'" into effect'
Gowever, even prior to the coming into force of section "3>'", issuers delivering an offering memorandum to
prospective private placement purchasers were re5uired, in certain cases, to provide investors with a +contractual right
of action+ as defined in 6ule "A)H>"'
. contractual right of action is a right conferred by a contract rather than by a statute, that specifically permits an
investor to sue for rescission or damages if the offering memorandum contains a misrepresentation' his right of action
was re5uired to +reasonably correspond+ to the rights granted under section "3> for prospectus misrepresentations'
RESALE RULES AND CONTROL BLOCK DISTRIBUTIONS
Resale Rules
Policy ob%ectives
Problem is that the first classes of purchasers will want to li5uidate their holdings at some point and their buyers
may not be similarly situated wrt access to information about the issuer
Cant to achieve a level playing field re sec entered into market through an exemption by imposing conditions on
the issuer or on the initial exempt purchaser
:ain concern is to prevent backdoor underwriting (using prospectus exemption as an intermediate step b/w issuer
and wide distribution of its sec so as to avoid the prospectus re5uirement & most cost)effective method of getting
sec out there)
?atest version of :I AH)">$ to take effect :arch 3>, $>>A (handout) & different initial exemptions but one rule to
govern resale
6emoval of statutory resale rules (:I AH)">$ s' $'$ and .ppendix #) & ss' B$(A,H,B) are therefore nullified
REGULATION OF SALES BY EXEMPT PURCHASERS: RESTRICTED AND SEASONING PERIODS
Introduction: Restricted and Seasoning Periods
In order to issue securities in the primary market, an issuer must either compile and distribute a prospectus or find an
applicable prospectus exemption' . large number of exemptions from the prospectus re5uirement are based on the
identity of the purchaser' 0ome persons 5ualify as exempt purchasers and some do not'
Cithout more, it would be too easy to evade the prospectus re5uirement & a person 5ualifying as an exempt purchaser
might agree, whether for compensation or not, to purchase the securities of a particular issuer and immediately resell
them to a non)exempt buyer (backdoor underwriting) therefore must regulate the first resales (or first trades) of the
securities initially sold to exempt buyers'
1efore the closed system exempt buyers re5uired to fill out a statutory declaration in which the buyer stated that she
was purchasing with +investment intent+ (i'e', with the intent to hold the securities as an investment and not merely to
resell them to non)exempt buyers) E difficult to administer (having filled out a statutory declaration and purchased the
securities, a buyer might sell them to a non)exempt buyer in a matter of days or weeks, claiming that she had simply
changed her intention)'
#losed system & securities purchased under some (but not all) of the exemptions become +restricted securities+ that
cannot freely be resold in the marketplace' 9xempt buyers holding restricted securities are sub%ect to A month statutory
restricted period (assuming the issuer is a reporting issuer and, in some cases, has been such an issuer for a minimum
seasoning period)' Prior to the elapse of the applicable restricted period, the exempt buyer can resell the securities in
either of two ways! (") after assembling a prospectus for the benefit of prospective buyers, or ($) by reselling to another
exempt purchaser' 4nly after the elapse of the restricted period can the buyer freely resell the securities to whomever
she chooses without preparing a prospectus or finding an applicable prospectus exemption' his techni5ue for selling
securities free of the prospectus re5uirement is sometimes referred to below as the +restricted)period resale route'+
6estricted periods ensure that those who buy securities under prospectus exemptions do so only with the intention of
holding the securities for investment purposes' he underlying theory is that those who know that the securities they
purchase will have limited saleability for a period of time ranging from four to twelve months will tend to be locked
into their investments' Gence, they will not be tempted to purchase securities in exempt transactions purely with an eye
to a 5uick resale'
Chen the nature of the initial exempt trade is such that the risk of +backdoor underwriting+ is very low securities
ac5uired in an exempt distribution may be resold without the need to satisfy any restricted period at all, provided the
issuer has been a reporting issuer for a specified minimum period known as the +seasoning period'+ he seasoning
period ensures that information about the issuer has been available to the public for a sufficient length of time to enable
that information to be reflected in the market price of the issuer2s securities' he restricted)period resale rules and the
seasoning)period resale rules are discussed in more detail below'
MI 45-102
$ separate rules & s' $'H (most stringent & restrictions on both issuer and initial purchaser) and s' $'I
6ationale for more stringent rule & reserved for situations where it is more likely that the use of the exemption creates a
backdoor underwriting problem (purchaser in collusion with issuer) & the greater the risk that an exemption could be
used to facilitate +backdoor underwriting,+ the more likely it is that securities ac5uired pursuant to that exemption will
be sub%ect to a restricted period'
Which Exemptions Attract Which Resale Rules?
#losely held issuer exemption & s' $'I (see AH)H>", s' I'$)
/I0 exemption s' $'H (see AH)H>" s' I'3)
.ccredited investor exemption s' $'H (see AH)H>" s' I'3)
0' B$(")(f)(i) and (ii) s' $'I (see AH)">$ s' I'3)
#larify authority for resale provision applicable to B$(")(f)(i) and (ii)! 0ee AH)">$ s' $'A and .ppendix 9
6elevant resale rule is AH)">$ s' $'I
Section 72(1)(f)(iii) - Rights to purchase, convert or exchange
0pecial rules apply when the securities initially sold by the issuer in an exempt trade are convertible into other
securities (the +underlying securities+) of the issuer at a later date' In such cases, the restricted period for resale of the
underlying securities begins to run, not from the date on which the holder first obtained the underlying securities by
exercising the conversion right, but from the earlier date on which the convertible securities were first issued'
#onvertible/exchangeable securities e'g' debt sec convertible into common shares
4riginal sec are the convertible sec and underlying sec are the converted sec (post conversion)
s' B$(")(f)(iii) applies to the underlying sec and the resale rule that applies to the underlying sec depends on how
the original sec was ac5uired ($'H, $'I or $'">)
3 possible scenarios!
"' If original underlying sec ac5uired under exemption to which :I AH)">$ s' $'H would apply, then s' $'H applies here
also (AH)">$ s' $'H and .ppendix <)
$' If original underlying sec ac5uired under exemption to which s' $'I would apply, then s' $'I applies here also (AH)
">$ s' $'A and .ppendix 9)
3' If original underlying sec ac5uired by way of a prospectus offering and issuer is a ri AH)">$ s' $'"> applies & not a
resale rule at all (exempts from s' $'I)
Exemption/Resale Rules
s' B$(")(h) & s' $'I (AH)H>" s' I'A)
s' B$(")(n)/:I AH)">H s' $'I (AH)">$ s' $'A and .ppendix 9)
(ote re sec issued under old exempting rules but have still not been resold (e'g' s' B$(")(d) & pay more than J"H> >>>
then s' $'H applies)
Conditions Applying to Restricted-Period Resales
Multilateral Instrument 45-102, Section 2.5 - What is the Substance of the Resale Rules?
:I AH)">$ s' $'H
his resale rule is the more stringent of the $ b/c it imposes conditions on both issuer and reseller
6ather than be sub%ect to the resale rule and initial exempt purchaser can give the people distributing to a
prospectus or sell to another accredited investor
0' $'H($) "' 0easoning re5uirement & condition imposed on the issuer
Chat is the rationale for re5uirement to be ri for A monthsF & b/c the resale is taking place without a prospectus
then at least there is information about the issuer (*0, .I*)
Chat if issuer never becomes a riF Illi5uid asset unless k
45-102 s. 2.5(2)
$' restricted/hold period re5uirement & how 5uickly the reseller must hold onto the sec
<efinition of distribution date
6ationale for the restricted/hold period & resolve backdoor underwriting problem
6elaxing of restricted period from "M to "$ months in some situations down to A
(ote AH)">$ s' $'B and #P "'"" re tradeoff b/w restricted period and seasoning period
#P "'"" & as long as the restricted period has expired then can sell as soon as the issuer becomes a ri
o 6elaxes rules again & what is the purpose of the seasoning re5uirement in the first placeF (sr more likely to
work when the issuer is already a ri) but once issuer becomes a ri, they are doing it by providing a prospectus
(meets the disclosure concerns that the buyers have information about the issuer)
#alculation of restricted periods where more than one exempt purchaser #P "'M
Issue to bank or a pension fund and then they resell to another exempt purchaser
A month period runs from the distribution date & %ust one A month period (how long it has been since originally
issued)
Resale Rules and Control Distributions
Chat is the 0ubstance of the 6esale 6ulesF
AH)">$ s' $'H & the more stringent of the two
s' $'H($)
#ondition Y" & seasoning re5uirement
Chat is the rationale for re5uirement to be ri for A monthsF :ust be a ri for a period of time so that there is a
continuous disclosure record and H")H>" E more onerous disclosure on all issuers except venture issuers
#ondition Y$ & restricted/hold period re5uirement on the exempt purchaser (A months)
<efinition of distribution date
6ationale for restricted period & increased risk of backdoor underwriting
(ote AH)">$ s' $'B and #P "'"" re tradeoff b/w restricted and seasoning period
6elaxing of seasoning period if issuer becomes a ri at some point during the A month hold period & exempt
purchaser doesnNt have to wait for the A month seasoning period to resell & seasoning period becomes co)terminous
with the restricted period
6ationale is that if issuer becomes a ri by way of a prospectus then the re5uirement of disclosure is satisfied
o Issuers that are not ri at the time of distribution & still a A month seasoning period b/c concern re time that it
takes for the information to reach the public (but now dissemination is practically immediate b/c of the
internet)
o Issuers that are already ri & as a matter of policy, regulators donNt want it to be too easy to evade the
prospectus re5uirement but lack of li5uidity for A month period
Information asymmetry argument isnNt sensible when the issuer is already a ri
#alculation of restricted periods where more than one exempt purchaser & #P "'M
#ondition Y3 & legending re5uirement & indicates date that the exempt purchaser is legally able to sell the sec
Purpose & signal to people buying whether the sec is legally able to be sold (whether the hold period has elapsed)
but hardly anyone gets a sec certificate anymore & now #anadian <epository of 0ec & registered owners are the
brokers and they keep record when beneficial ownership changes
?imitation of legending now addressed in new rule
#ondition YA & trade is not a control distribution
#ondition YH & ,no unusual effort- & prevention of $)step distributions (donNt want reselling process to be another
distribution of sec without a prospectus)
Includes activities such as dissemination of soliciting material (over " page letter), formation of selling groups
(underwriters looking for buyers), sales to non)armNs length purchasers (concern that mispricing might take place &
more favourable to them than armNs length purchasers)
#ondition YI & no extraordinary commissions & anti)avoidance rule meant to prevent colluding relationship b/w
resellers and people trying to find purchasers for their sec
(o compensation greater than is customary for transactions of similar si7e
Cant these transaction to occur in accordance with standard market practice given that they are occurring without a
prospectus
#ondition YB & no reasonable grounds to believe issuer in default of sec legislation
.pplies to issuers or officers of issuers & distributed in accordance with the employee exemption
.pplies to insiders (make sure issuers are up to date with their continuous disclosure obligations)
(ote re application of restricted/seasoning period rules to underlying sec & see #P "'"> and s' $'H(3)
Chat resale rules apply to underlying sec in s' B$(")(f)(iii) depends on how original sec ac5uired
#P "'"> & restricted and seasoning re5uirements are calculated from distribution date of the original sec and donNt
have to put a legending on the sec
Issuer Must Be a Reporting Issuer: The Seasoning Period
The seasoning period & the length of time the issuer of the securities has been a reporting issuer, either in one of the
seven provinces that act as principal regulators under the mutual reliance review system (.lta', 1#, :an', (0, 4(,
@ueb', or 0ask' & .ppendix 1) or, if the issuer is not a 09<.6 filer, in the %urisdiction of the purchaser of the securities
that are being traded'
In order for a purchaser of exempt securities to freely resell those securities into the market after the elapse of the
restricted period, the securities must be those of a reporting issuer that has been a reporting issuer for at least four
months'
6eporting issuer & only companies that have made an offering of their securities to the public are reporting issuers (or
by filing a prospectus, s' H3($))
6eporting issuers usually have publicly 5uoted trading prices and are sub%ect to ongoing (continuous) disclosure
re5uirements, under which they must promptly report all material corporate events therefore the informational record
concerning reporting issuers tends to be much more complete than the informational record of companies lacking this
status & therefore the ability to sell securities free of the prospectus re5uirement after the elapse of a restricted period is
limited to reporting issuers and, more particularly, to reporting issuers about whom public information has been
available for a minimum period of time' 1uyers of securities in such issuers have a market price that serves as a
benchmark against which to evaluate the worth of those securities (there is no such benchmark for those who buy the
securities of a private company, and no well)developed, public)information record to inform them and protect their
interests)'
If the issuer is not a reporting issuer, the exempt purchaser is limited to two options in selling her securities! selling to
another exempt buyer (s' B$(")) or selling via a prospectus (s' H3)
No "Hard Sell"
In order to resell, the seller cannot make any +unusual effort ''' to prepare the market or to create a demand for the
securities,+ and +no extraordinary commission or consideration+ can be paid to effect such a sale'
9nsure that the buyers of securities from exempt purchasers are not unduly pressured or enticed by the sellers'
Issuer Not in Default
Chether reporting issuer in default can still comply with seasoning re5uirement & re5uirement will not have been
fulfilled and see s' B$(M,8) for certificate of no default
he resale rules include an issuer seasoning)period re5uirement to provide some protection to subse5uent purchasers
who may benefit from the public availability of information about the securities issuer & but those benefits are seriously
curtailed if the issuer, although sub%ect to the ongoing securities law reporting rules, does not comply with those rules'
Chere the seller of an issuer2s securities is a stranger to the issuer, with no control over the issuer and no way of
knowing whether the issuer complies with its legal obligations, little can be gained by imposing constraints on the sale'
1ut, where the seller is in a position to affect proper compliance by the issuer, making such compliance a condition of
resale provides additional discipline on issuers and improves the 5uality of disclosure available to all investors therefore
where the selling securityholder is an insider or an officer of the issuer, the securities of such a holder will be freely
tradeable only if the holder +has no reasonable grounds for believing the issuer is in default of securities legislation'+ (s'
H3)
Legended Certificates
he use of +legends+ on securities certificates ensures the integrity of share transfer restrictions & by expressly noting
the transfer restrictions to which a security is sub%ect on the certificate itself, subse5uent purchasers of the share are
given notice that the security is not freely tradeable'
he effectiveness of such legends, however, assumes, among other things, that the certificate will in fact be delivered to
the buyer of the security & paper certificates rarely change hands b/c securities are typically registered in the name of a
depository holding the shares on behalf of participants (i'e', brokerage firms)' ransfers of securities between
individuals, accordingly, represent transfers of beneficial, rather than legal, ownership and are typically effected by
book entries by the depository, their brokerage participants, or both' (o paper certificates need ever be delivered
because the registered holder ) the depository ) remains unchanged by such transactions'
herefore when securities are sold in reliance on a prospectus exemption that sub%ects the buyer to a restricted or hold
period before those securities can become freely tradeable, the securities certificates delivered to the buyer must carry a
legend with wording specifically prescribed by :I AH)">$'
he wording varies depending upon whether the issuer is a ri or not & the holder of securities is put on notice that the
securities represented by the certificates cannot be traded until the applicable restricted period expires'
The Old Rule: Qualifying Issuers and the Length of the Restricted Period
he restricted period was shorter for the securities of +5ualifying issuers+ than it was for the securities of other issuers'
Chere an issuer was a 5ualifying issuer at the date of the initial exempt trade and is a reporting issuer with at least a
four)month reporting history by the date of the resale, the securities obtained in the initial exempt trade are sub%ect to
only a A month restricted period' If the issuer was not a 5ualifying issuer at the date of the initial exempt trade,
however, the restricted period is "$ months'
he most common type of +5ualifying issuer+ is a reporting issuer with a current .I* filed on 09<.6 and a class of
securities listed on a stock exchange or a class of outstanding debt or preferred shares with an approved rating'
0( AH)3>$ based on earlier AH)">$ therefore information re 5ualifying issuer are no longer relevant
he seasoning period has now been relaxed b/c of H")">$
Example: Application of Resale Rules to Closely Held Issuer
Chen are the resale rules relevant re closely held issuersF & restriction on share transfer in articles, no more than 3H sec
holders, not raised more than 3: in financing
6ule would apply if (") the #GI no longer meets the re5uirement to be a #G? and ($) one of the sec holders wants
to sell (must be a ri for the A months immediately preceding the trade)
Exempt Trades for Which There Is No Restricted Period (Seasoning-Period Exemptions)
Resale Rule in 45-102, s. 2.6
:ain re5uirement is seasoning period for issuer (A months)
Chy no restricted period for purchaserF & less stringent b/c deal with transactions that are less of a risk for backdoor
underwriting and dealing with a very specific group of sec holders rather than wealthy individuals/corporations
generally
(ote similar reduction in seasoning period where issuer becomes ri by way of prospectus filed after distribution date &
s' $'B($)
Illi5uid until issuer becomes a ri
4ther conditions similar to s' $'H
Multilateral Instrument 45-102, Section 2.6
Chen securities are ac5uired under some prospectus exemptions, no restricted periods apply & securities can be resold
freely if the issuer has been a reporting issuer for a specified seasoning period and satisfies the other, usual resale
conditions (i'e', that the sale is not a control distribution; no unusual effort is made to prepare the market; no
extraordinary commission or consideration is paid; and, if the seller is an insider or officer of the issuer, the seller has
no reasonable grounds to believe that the issuer is in default of securities legislation)'
Mechanics of the Seasoning-Period Requirement
Chile there is no restricted period for securities received under the above exemptions, in order for holders to resell the
securities under section $'I of :I AH)">$, the issuer must satisfy the seasoning)period re5uirement'
his means that the issuer must have been a reporting issuer for a specified minimum amount of time before its
securities can become freely tradeable'
If the exempt securities are received before the issuer becomes a reporting issuer, the initial exempt purchaser wishing
to resell is sub%ect to a de facto restricted or hold period e5ual to at least the length of the seasoning period (or longer, if
the issuer does not become a reporting issuer immediately after the exempt distribution)'
If the issuer does not immediately become a reporting issuer, the de facto restricted period e5uals the period following
the exempt distribution during which the issuer is not a reporting issuer plus the seasoning period, which begins only
after the issuer finally becomes a reporting issuer'
If, at the time of the exempt purchase, the issuer already has been a reporting issuer for the re5uired seasoning period,
there is no hold) or restricted)period re5uirement, de facto or otherwise'
9ven when the seasoning)period re5uirements are met, the seller must still satisfy the other +usual+ resale rules!
namely, that the trade is not a control distribution; no unusual effort is made to prepare the market; no extraordinary
commission or consideration is paid; and, if the seller is an insider or officer of the issuer, the seller has no reasonable
grounds to believe that the issuer is in default of securities legislation'
Little Danger of Backdoor Underwriting
6ationale for no restricted period & resales of securities purchased under these exemptions present comparatively little
danger of backdoor underwriting'
"' (o restricted period is re5uired to resell securities originally received from a bidder as consideration for tendering
shares of a target corporation into a take)over bid (s' B$(")(%), :I AH)">$, $'"") & the initial issue of the bidder2s shares
is exempt from the prospectus re5uirements because the bidder issuing the securities must assemble an offering
circular, which contains the same information as a prospectus' hus, shareholders of the target company who receive
such securities from the bidder are as well protected as the shareholders would have been if the bidder originally issued
the securities to the public under a prospectus (although the take)over bid circular, unlike a prospectus, is not sub%ect to
prior review by the 40#)' he launching of a formal take)over bid, the completion of an offering circular, and other
rules that apply to such a bid ensure that reliance on this prospectus exemption can hardly be viewed as an effective
device to circumvent the prospectus re5uirements therefore there is no need to make securities issued pursuant to this
exemption sub%ect to a restricted period'
$' here is no restricted period for the resale of securities originally received by a take)over bidder from target
shareholders who tendered into the bid (s' B$(")(k) :I AH)">$, $'"") & little danger in such cases of backdoor
underwriting' It is improbable that an issuer of securities would use backdoor underwriting by issuing securities to
exempt purchasers, and then having the purchasers tender their shares into a take)over bid' he take)over bidder is
typically an arm2s)length third party not acting in concert with the issuer or insiders of the issuer and the securities
obtained by the bidder are freely tradeable only if the target company has been a reporting issuer for the re5uired
seasoning period therefore persons subse5uently purchasing target securities when they are resold by the bidder have
access to public information concerning the issuer of those securities that was in the public market before the bid was
made, plus additional disclosure about the target firm contained in the bidder2s take)over bid circular'
3' (o restricted period when securities are received pursuant to a reorgani7ation, a winding)up, a statutory
amalgamation, or other similar procedure (s' B$(")(i)) & the risk of such transactions being used to effect backdoor
underwritings and thereby circumvent the prospectus rules is minimal' Imposing a restricted period on holders of
securities who very likely received the securities in exchange for securities that were not sub%ect to such restrictions is
unfair and could needlessly hamper the completion of otherwise sensible corporate reorgani7ations'
Critique of the Restricted-Period Requirements
he primary issues that must be addressed to determine the factors that should influence the length of the restricted
period are the likelihood of a backdoor underwriting and the likelihood of purchasers of exempt securities mispricing
these securities' Gow effectively do the resale provisions address these issuesF
"' 6isk affects whether there is a restricted period & the securities of 5ualifying issuers used to be sub%ect to shorter
restricted periods because the securities of 5ualifying issuers, were less risky than the securities of non)5ualifying
issuers (but now H")">$) therefore the riskiness of a security appears to have little or nothing to do with the risk of a
backdoor underwriting or the danger of subse5uent buyers mispricing the securities'
6ationali7ing the relationship between risk and the restricted period on the basis that the riskier the security, the
greater the investment risk to subse5uent purchasers of that security is like saying riskier securities are riskier
securities' :odern portfolio theory & the risk of an investor2s portfolio is important in buying securities, rather than
the risk of any individual security in the portfolio and the unsystematic component of security risk is unimportant
to investors (only systematic risk is priced)' 1ut the proxies for risk seem to address mainly the issue of
unsystematic risk' In order to fully diversify, investors should buy securities at many levels of risk therefore it is
difficult to argue that risk alone should have any influence on the length of the restricted period'
1ut securities with high unsystematic risk tend to be those issued by small, speculative companies which likely
canNt meet the public)offering re5uirements and therefore may have a greater incentive to attempt to illicitly bypass
the public)offering re5uirements by effecting a backdoor underwriting & such issuers must be reporting issuers in
order for their shares to become freely tradeable therefore in order to provide investors with freely)tradeable
shares, these issuers must prepare a prospectus at some point but even if such an issuer was prepared to file a
prospectus at one point in its corporate life, it might perhaps seek to raise additional funds without having recourse
to the expensive public)offering process again'
$' @uality of informational record & securities issued by small companies are much more likely to be mispriced in the
public)trading markets' his is a conse5uence of a number of factors, including the relative absence of a following
among institutional traders, the absence of interest from market analysts and the press, the poorly developed
informational record concerning such issuers, and thin trading'
3' ?i5uidity & the depth of the public market for the firm2s securities and the depth of the public informational record
are the other two factors that affect the length of the hold period' he relationship between these factors and the firm2s
si7e is that small companies are sub%ect to illi5uid trading and have poorly developed public informational records &
they are comparatively difficult for purchasers to value'
6isk, li5uidity, and 5uality of the informational record taken together indicate the degree of informational risk that
confronts those who purchase securities from exempt purchasers' he greater the informational risk is, the more
difficult it is to value the securities, and the greater the danger that subse5uent buyers will misprice the securities'
here is typically no informational asymmetry between restricted buyers and those who purchase from them therefore
the restricted periods perform a second redundant function & in addition to guarding against possible backdoor
underwritings, the restricted periods protect against an informational asymmetry that does not exist'
Resale Rules for Control Persons
AH)">$ s' $'M
6ationale for specific resale rule for control transactions & same as including trades by control blocks in definition of
distribution & asymmetry of information therefore more onerous obligation when trade (use of position to take
informational advantage of the people they are selling to)
Chat is a control distributionF
0ection " ,distribution- (c) & demonstrate that despite your $>O someone else holds H>O or if "HO still may be a
control person if have another relationship e'g' voting agreement with a ">O sec holder re how you will vote
Alternatives Available to Control Person Distributing Sec
#ontrol person/company issues a prospectus (not likely)
#an do a secondary offering & offering under a pros by a #1G distribution their sec (same prospectus can 5ualify both
distributions)
#an apply for a discretionary exemption from 40# under s' BA (deem exempt from prospectus re5uirement) & unlikely
given legislative commitment that sales by #1G are a distribution
#an use another prospectus exemption & but then the resale rules applicable to purchasers when they want to resell
6esale rule in AH)">$ s' $'M (most likely)
#onditions! s' $'M($)
Y" seasoning period
Y$ restricted period
o (ote reduction in seasoning period where issuer becomes ri after distribution date (s' $'B(3)) & co)terminal
with A month restricted period
o <etermination of time periods in context of convertible/exchangeable sec & s' $'8(3)
Y3 and A & similar to other resale rules
YH & condition to be fulfilled by selling sec holder re not reasonable grounds to believe issuer in default
*iling re5uirements & advance notice rule
o (a) *orm AH)">$*" to be filed on 09<.6 at least B days before first trade
*orm to be signed no earlier than one business day before filing
6e terms of form, note especially certification by control person & no knowledge (anti)insider trading)
*orm expires 3> days from date
o (b) insider reporting re5uirements to be fulfilled within 3 days after completion of any trade (like in
continuous disclosure re5uirements)
Resale Rules for Control Distributions
(ote separate rule for control persons who are ,eligible institutional investors- (buy on behalf of investorNs portfolios)
under (I I$)">" & exempts them from the resale rule provisions if made in the course of normal business activity (not
trying to influence issuer & not the purpose of sale)
9xample & relationship b/w control person rules and closely)held issuer rules ( control person own M>O of sec in issuer
and want to sell and issuer has 3 sec holders and under 3:)
<efinition of #P says issuer, not ri
If after the sale the issuer still 5ualifies then control person is ok
1ut information asymmetry & protective mechanism should be thereF
AH)H>" $'3 ($) p' "$B$ ,any holder-
Consequences of Incorrectly Relying on Exemption
1ones v. Deacon Hodgson
Facts:
<G set up private company and solicited investors and relied on private company exemption (preceded the closely held
issuer exemption), which allowed H> investors as long as not members of public and co must have restriction on share
transfer in articles, then could issue without a prospectus
K invested in company and argued that should have been provided with a prospectus and b/c wasnNt then the S was void
Investment dealer argued that although the legislation doesnNt deal with limitation periods re filing of prospectus it did
have limitation re delivering one
Ratio:
<istinction b/w failure to file pros and failure to deliver one & failure to file pros (in accordance with s' H$) renders S
void on basis that provision of prospectus so fundamental to statutory scheme that should not be statute barred
herefore S b/w K and issuer was void and went on to discuss whether K had a remedy! language of un%ust enrichment &
the innocent P shouldnNt be disadvantage b/c the seller breached such a fundamental provision
When an issuer wrongly relies on an exemption, this case suggests that the P can make a CL claim even if many
years later from when relied upon
1ut also (uncertainty for issuers & need solid legal advice re relying on exemptions)! s' "$$ & if there is a breach of sec
law, it is a 5uasi)criminal offence; s' "$B & regulators can sanction issuers for acts pre%udicial to the public interest
TAKE-OVER BIDS
0ec laws ob%ectives & to protect investors and foster fair and efficient capital markets
hese ob%ectives have been met by regulating the activities of those who seek to sell securities to investors but
sometimes (more recently) the purchasersN actions must also be regulated e'g' when take)over bids & one company
seeks to ac5uire control of another by purchasing a significant block of shares
Take-Overs
1idder/offeror makes direct offer to shareholders of the target to purchase their sec therefore regulated b/c they involve
the purchase and sale of sec
akeovers distinguished from other forms of control transaction
.malgamations through an amalgamation agreement by shareholders
#onse5uences of changing shareholder identity
6eplacement of existing management & key purpose of takeovers (inefficient management)
o <efensive tactics used by existing management in order to stall or prevent the bid from succeeding
o <efensive tactics are also regulated
0takeholder debate & one of the motivations is to make more efficient use of assets of issuer and non)shareholder
stakeholders interests contested (manufacturing operations moving offshore, downsi7ing of labour force, etc') & sec
law only deals with nature of legal obligations to shareholders and stakeholder/companyNs interests are completely
sidelined (clear distinction b/w boundaries b/w corporate and sec laws)
Takeovers in Canadian Context
*riendly vs' hostile bids
<efensive tactics are good for media but most are friendly b/c most corporations have concentrated ownership
9xemptions from takeover bid rules
If dealing with less than H shareholders but canNt pay more than "HO market premium
6ole of takeovers in concentrated economy
4ne motivation of takeovers is to consolidate assets under a single corporate structure which can result in
concentrated economy (effects on competition & enough for consumer interestF)
Motivations for Launching Takeover
6eplace inefficient management & they think they can more efficiently make use of assets of target
0ynergies & reduce costs through integrating activities
<esire to increase market power/empire building & customer base of the target, increase concentrated position (wants to
be the ma%or player)
ax considerations & go into debt b/c interest deductible if borrow money to finance the takeover (e'g' if had tax credits
not being used)
Dndervaluation of shares & connected with inefficiency (if assets used more effectively then shares would rise to
appropriate level and the bidder would capitali7e on the increase)
Regulatory Objectives in Relation to Takeovers
Policy of sec law is the protection of investors who, in the case of takeovers, are the shareholders of the target
"' <isclosure of information for target shareholders & circular supposed to address concerns about the bid
Is this misplaced concernF & from an economic point of view why would you elevate the target shareholders over
the bidder shareholders (money spent to protect shareholders of target E regulatory costs to bidder) & reduce
aggregate efficiency in the economy b/c regulation is a disincentive
$' ime to respond to a bid & recent reforms here (more time to evaluate offers and circulars); the time period in which
target shareholders have to respond allows for competing bids (meant to encourage this b/c auctions for target shares
increase the premiums that target shareholders get for their shares but costs of engaging in auctions could deter initial
bidders b/c could be replaced by competitor therefore inefficient re economy)
3' 95uality of treatment as b/w all of the shareholders of the target & re5uirement that identical consideration must be
given to all shareholders of the target
1. Early Warning Rules
akeover triggered when dealing with $>O of sec
/ive advance notice that takeover going to happen
s' ">" & once hits ">O threshold (when counted with sec they already own) they must provide early warning which is a
$ part rule!
*ile a news release
*ile a report with 40# (same information as in the news release)
#ontent of news releases/reports & (I I$)">3 Part 3 and .ppendix 9 & who is the offeror, what sec being ac5uired,
state of sec ownership after the ac5uisitions, identify any %oint actors participating in the ac5uisitions, and the purpose
of offeror (declare intentions in relation to the ac5uisition of sec of the target & most say they donNt know what
intentions are & leave options open as to whether they will make a takeover)
.dditional news release/reporting re5uirements where subse5uent ac5uisition of additional $O or change in any
material fact in early warning report (therefore kick in at ">O and relevant for every additional $O)
ime restrictions on further ac5uisitions b/w ac5uisition of ">O and the expiry of one business day after file report ($
days after the ac5uisition)
s' ">$ disclosure re5uirements & after a formal bid anyone else buying sec of target must disclose that fact when the
threshold of ownership that they reach is HO of outstanding sec (gives notice of a competing bid)
.lternative reporting system for ,eligible institutional investors- (who have no intention of exerting control or making
a takeover bid) & (I I$)">3 %ust have to report at the end of the month at which the ac5uisitions take place
Policy ob%ectives of early warning rules & to give advance warning of target shareholders that there might be a takeover
bid coming & they can either hold on to the sec they have or whether they donNt like who the bidder will be and opt out
before the takeover will happen; also good business practice for bidder b/c you will have to pay more during the bid in
order to convince the shareholders to sell
ProblemsF & if have to signal intentions at ">O rather than $>O to weigh your options, the price goes up b/c people
think a takeover is going to happen therefore costs you more to change your mind (disincentive to takeovers b/c in
D0 when reduced to HO from ">O the number of takeovers dropped significantly); also the potential for free)
riding on their efforts (signaling device for those interested in ac5uiring targets and allows a competing bidder to
know there is a reason for taking over this company and work is done for them)
The "Early Warning" System
.lthough the key take)over bid threshold is $>O of the voting or e5uity securities of a target company, the 40.
provides for an early warning system when an offeror comes to hold at least ">O of a reporting issuer2s voting or e5uity
securities
6ationale & intended to prevent creeping take)over bids by providing the market, including the target company itself,
with advance notice that a particular person or company is accumulating a significant block of shares in a public
company
9arly warning rules re5uire that any offeror whose ownership interest in a class of a reporting issuer2s voting or e5uity
securities increases to at least ">O of the total must issue and file a news release (s' ">"(")(a)), file a report with the
40# (s' ">"(")(b)), and refrain from making additional purchases for one business day from the date the report is filed
(s' ">"(3))
the offeror must refrain from purchasing more securities during the period beginning with the purchase that first
triggers the obligation to file a report, and ending after the expiry of one business day after the filing of the report
once the initial early warning report is filed, subse5uent reports are re5uired only where the offeror ac5uires
additional securities of the class totalling at least $O of the total
b/c the purpose of the section is to detect potential changes of control, no filing is necessary for offerors who
already own or control $>O or more of the target company2s securities (s' ">"(A))
.lternative monthly)reporting regime & for eligible institutional investors (banks, pension funds, mutual funds, and
investment managers) & they must ac5uire the shares for investment (not for control) purposes, and must only file
reports within ten days after the end of the month in which they made purchases that would have otherwise triggered a
reporting obligation under section ">" ((I I$)">3, Part A)
Mini-tenders
:ini)tender & a widespread offer to purchase the shares of a public company at a below)market price (#0. 0taff
(otice I")3>") usually made for less than $>O of the shares of a target company (therefore do not constitute take)over
bids)
Chy are there mini)tendersF . shareholder would tender shares to a below)market mini)tender if that shareholder holds
less than a board lot of shares (a standard number of traded shares on an exchange that can typically be traded without
re5uiring the payment of special ,odd lot- commissions) b/c they cannot otherwise easily li5uidate their holdings
without paying brokerage commissions that could exceed the sale proceeds reali7ed on a disposition of those shares
(shares typically can be sold to mini)tender offerors without any brokerage commissions)
#0. 0taff concern &
0ome shareholders who receive mini)tenders may not follow the market price of their shares and assume
incorrectly that the mini)tender (like a take)over bid offer) is made at an above)market price
1D there is utility to mini)tenders & a shareholder who has li5uidated an otherwise locked)in, odd lot position
may want a mini)tender and may be disappointed if over7ealous regulation were to eliminate them
1D there is no legitimate reason to oppose disclosure rules that ensure that shareholders who receive mini)tender
offers are made fully aware that an offered price is below the market price (I")3>" provides these disclosure
guidelines so that informed decisions are made)
TAKE-OVER BIDS
ake)over bid rules were introduced into 4( securities laws following the Simber #ommittee recommendations,
which were in response to public criticism concerning various significant ac5uisition transactions in 4ntario in the early
"8I>s
#ommittee advocated take)over rules based on the following fundamental principles!
he primary ob%ective of take)over legislation is to protect the interests of the shareholders of the offeree (or the
+target+ company)
he take)over rules should ensure that such shareholders receive ade5uate time, ade5uate information, and e5ual
treatment from any bidder
2. When is a Takeover Taking Place?
If it is taking place, all of the rules in == kick in
<efinition of takeover s' M8
4ffer can be to ac5uire ,voting or e5uity- sec (there can be more than " class of sec and one class will carry voting
rights and one will be e5uity even though no voting rights are attached)
Chy is voting relevantF & the capacity to by these gives control b/c these shareholders vote for 14<
<efinition of e5uity secF & s' M8 residual right to participate in the earnings of the issuer and, upon the li5uidation
or winding up of the issuer, in its assets
o If voting is the important characteristic, why are e5uity sec includedF & if are an e5uity sec holder, you have an
ongoing interest in the assets/earnings of the company; also anti)avoidance & non)voting but right to earn
dividends in the issuer and the director can direct the profits and donNt want bidders to try to evade the
takeover rules by buying these sec
0ec being ac5uired must be ,outstanding- & not trying to buy previously unissued sec
<efinition of ,offer to ac5uire- & includes the notion of accepting an offer to sell
<efinition of ,offerorNs sec- & add together the sec want to ac5uired W those already owned W those of anyone acting
%ointly or in concert (s' 8") & 5uestion of fact but presumptions established! (") 3 sec holders of the target who hold HO
each and each decide to ac5uire an additional HO through an agreement b/w them, ($) voting agreement b/w them, (3)
every associate or affiliate of the offeror
#ounting rules!
"' .cting %ointly or in concert
$' 0ec convertible into relevant class within I> days (s' 8>("))
3' 0ec that offeror may or must ac5uire (within I> days), by exercise of option, right, etc' (s' 8>("))
6ules apply e5ually to offerors holding more than $>O of relevant sec (e'g' buying one more sec would be a
takeover bid)
.nti)avoidance rule re ,indirect offers- & s' 8$ e'g' have a private company that is a H>O shareholder in the ri and
buying the shares of the private company is an indirect offer to ac5uire the shares of the ri
Dseful examples in :L( pp' $88)3>$
The Statutory Framework
.lthough there are many ways in which one company may effectively ac5uire control of the business of another (take)
overs), take)over bid law only deals with one type of control transaction! the purchase of outstanding shares of one
company (the offeree issuer/target) by another person (the offeror/bidder) (deliberate policy decision & Simber
#ommittee said that the other principal change of control transactions do not seem to re5uire any particular legislative
reform
Overview of the OSA's Take-over Bid Provisions
1road definition of ,take)over bid- & includes not only purchases of sufficient shares to give the bidder legal control of
the target, but also purchases of much smaller numbers of shares intended to catch virtually all transactions in which de
facto control might change hands
.ny bidder making a take)over bid is re5uired to either (a) follow the bidding rules that provide shareholders of the
target company with reasonable time, ade5uate information about the bid, and fair and e5ual treatment, or (b) find an
exemption in the 40. from these rules or persuade the 40# that it ought to grant the bidder a special exemption from
the rules for sound policy reasons
he exemptions apply where rigid application of the take)over rules would impose unnecessary costs with little or no
benefit to the investors' he sections that follow attempt to navigate through this ocean of legislative complexity
Meaning of ~Take-over Bid
The Statutory Definition
,ake)over bid- & an o!!er to a$7uire outstanding voting or e7uit# se$urities of a class made to any person or $ompan#
who is in 4ntario or to any security holder of the o!!eree issuer whose last address as shown on the books of the o!!eree
issuer is in 4ntario, where the securities sub%ect to the o!!er to a$7uire, together with the o!!eror;s se$urities, constitute
in the aggregate $>O or more of the outstanding securities of that class of securities at the date of the o!!er to a$7uire-
(s' M8("))
;ery broad in $ ways!
"' it deems a share purchase to be a take)over bid when the number of shares involved constitutes only $>O of the
outstanding shares of a class, which is considerably less than the H>O plus one normally re5uired to obtain legal
control of a company
$' this $>O threshold is based not on the number of shares to be ac5uired, but rather on the total number of shares
being ac5uired plus the number of shares already owned by the bidder (therefore where a bidder already owns $>O
of the shares of a target, an offer by such a bidder to purchase even a single share constitutes a take)over bid)
3' the definition of the ,offeror2s securities- & the $>O threshold includes not only those securities held by the
offeror itself, but also any securities owned by any person or company ,acting %ointly or in concert with the
offeror- (s' 8")
A' when calculating how many securities of a class an offeror or a %oint actor beneficially owns, the 40. includes
securities currently held and other securities of the class if the offeror or %oint actor has a right (or is under an
obligation) to ac5uire them through the conversion of securities of another class or type or through the exercise of
options or similar rights (even if the offeror2s or the %oint actor2s rights to ac5uire them are sub%ect to conditions that
have not yet been satisfied) (ss' M8(3), 8>("))
H' when a bidder acts %ointly or in concert with another person or company in making a bid (or bids) for a target,
the bidder and the %oint actor must count all the shares sub%ect to all such bids as though each of the bidder and the
%oint actor had bid, by itself, for all such shares (s' 8>($)) (i'e' it is not possible for people who are working together
to avoid making a take)over bid by breaking up the total bid into smaller pieces)
I' offers to ac5uire include both direct and indirect ac5uisitions (s' 8$) & general anti)avoidance provision aimed at
protecting the securityholders of true target issuers (concern over an offeror seeking to avoid application of the
take)over bid rules! if the take)over target was a public company with one ma%or shareholder (a private
corporation) holding a block of shares large enough to constitute control, the bidder might attempt to buy all of the
outstanding shares of that private corporation (rather than the shares it held in the public company target), and
thereby ac5uire indirectly a controlling interest in the public company target)
Illustrative Examples
0cenario! 1idco Inc' wishes to ac5uire de facto control of arget ?imited (arget)' arget is a widely held company
with ">> million common shares outstanding' he ownership of arget2s shares is so dispersed that 1idco believes it
can, effectively, control arget by owning %ust twenty million (i'e', $> percent) of arget2s outstanding common shares'
4f course, if 1idco makes an outright offer to purchase twenty million of arget2s shares, that offer will constitute a
take)over bid and will re5uire 1idco to prepare an expensive disclosure document and observe specific time limits and
other rules that 1idco may find inconvenient
9xample .
o 1idco tries to gain control without making an outright purchase of $> percent of arget2s shares by first
purchasing J">> million face amount of outstanding convertible debentures originally issued by arget' hese
debentures include a conversion feature permitting the holder, at any time, to convert the debentures into
common shares at a price of JH per share' his debenture purchase would not constitute a take)over bid' *irst
of all, debentures are not, typically, +voting or e5uity securities'+ In any event, however, for reasons explained
later, even if all twenty million shares into which the debenture can ultimately be converted were treated as
outstanding shares, they do not constitute $> percent of the total shares of the class' 4f course, if the
debentures had been purchased directly from arget, rather than from another holder of the outstanding
debentures, the purchase would not even constitute a purchase of +outstanding+ securities and so, again, would
fall outside the definition of +take)over bid'+ 1idco, after buying these debentures, makes an offer to purchase
only five million of arget2s outstanding common shares, which is significantly less than $> percent of the
class'
o .nalysis! 1idco2s offer to purchase the five million shares is a take)over bid' 1idco is the +offeror,+ and arget
is the +offeree issuer'+ .n offer to ac5uire is a take)over bid if the number of shares sub%ect to the offer (five
million in this example) plus the number of the offeror2s securities is at least $> percent of the class'
0ubsection 8>(") of the 40. deems the offeror2s securities to include securities of the class that the offeror can
ac5uire within sixty days pursuant to the exercise of a conversion privilege' herefore, 1idco is deemed to
have beneficial ownership of twenty million arget shares on the date of the offer' hese twenty million
shares, when added to the five million that are the sub%ect of the offer, produce a total of twenty)five million
shares' Chat is the total si7e of the classF 6ecall that the total number of outstanding arget common shares is
">> million' Gowever, under subsection 8>(3), if unissued shares ) such as the twenty million shares into
which 1idco2s debenture may be (but has not yet been) converted ) are included in calculating the offeror2s
securities (as they are re5uired to be in this case, under subsection 8>(")), then that same number of shares
must also be deemed to be outstanding when determining whether a take)over bid has been made' herefore,
for the purposes of the take)over bid calculation, arget is deemed to have "$> million shares outstanding'
wenty percent of "$> million is twenty)four million' hus, the number of shares sub%ect to 1idco2s offer (five
million) plus the number of the offeror2s securities, including the twenty million shares deemed to be
beneficially owned by 1idco under subsection 8>("), e5uals twenty)five million shares' his is more than
twenty)four million and, therefore, is more than $> percent of the class; so, 1idco has made a take)over bid'
9xample 1
o 4n <ay ", 1idco ac5uires nine million outstanding shares of arget' 4n that same day, Koint .ctor #orp', an
affiliate of 1idco, ac5uires an additional nine million outstanding arget shares' (either of these purchases,
separately or in the aggregate, constitutes a take)over bid because they involve in total only "M percent of
arget2s shares, which is less than $> percent of the total number of shares outstanding' 4n <ay $>, 1idco
makes an offer to ac5uire ten million additional outstanding arget shares'
o .nalysis! 1idco2s offer to ac5uire an additional ten million shares constitutes a take)over bid' . take)over bid
occurs when the number of shares sub%ect to the offer to ac5uire (in this case ten million shares) plus the
offeror2s securities totals at least $> percent of the class' In calculating the +offeror2s securities,+ one must
include not only the shares held by the offeror itself (i'e', the nine million shares held by 1idco), but also the
shares held by anyone acting %ointly or in concert with the offeror (in this case, Koint .ctor #orp')' herefore,
the offeror2s securities, at the time of 1idco2s <ay $> offer to ac5uire, total eighteen million shares' Chen that
eighteen million is added to the ten million shares that are sub%ect to the offer, the total exceeds $> percent of
arget2s total outstanding common shares' herefore, 1idco2s <ay $> offer constitutes a take)over bid'
9xample #
o 4n <ay ", 1idco ac5uires four million arget shares' Koint .ctor #orp' likewise ac5uires four million shares'
4n <ay $H, 1idco makes an offer to ac5uire nine million additional outstanding shares of arget' Koint .ctor
#orp' makes a similar, but separate, offer to purchase nine million shares from arget shareholders at about
the same time'
o .nalysis! he offers by both 1idco and Koint .ctor #orp' to ac5uire nine million shares of arget constitute
take)over bids' 0ubsection 8>($) of the 40. deems the number of shares sub%ect to the offer to ac5uire made
by the offeror (1idco) to be counted as though they were sub%ect to an offer to ac5uire by a person acting
%ointly or in concert with the offeror (Koint .ctor #orp')' he section similarly deems the number of shares
sub%ect to Koint .ctor #orp'2s offer to ac5uire to be treated as though they were also sub%ect to 1idco2s offer to
ac5uire' hus, 1idco is deemed to have made an offer to ac5uire eighteen million shares' Chen added to
1idco2s four million shares, the total exceeds $> percent of arget2s outstanding common shares' he same
analysis applies to Koint .ctor #orp' (ote that, for the reasons explained in 9xample 1, even if 1idco and
Koint .ctor #orp' originally purchased as few as one million shares each, followed by separate offers to
ac5uire nine million shares each, they both still would be deemed to have made take)over bids'
9xample < ((ote! he 1asic 0cenario will be modified for this example)
o arget ?imited is a public company whose shares trade on the 09, but H" percent of arget2s shares are held
by Goldco Inc', a private holding company owned by a wealthy individual, Gy (etworth' Goldco has no assets
other than the arget shares and has no liabilities' 1idco wishes to ac5uire control of arget' Gowever, instead
of buying shares of arget directly, 1idco offers to buy from Gy (etworth all of the issued and outstanding
shares he owns in Goldco' 1idco offers to pay :r' (etworth a price for his Goldco shares that values the
arget shares held by Goldco at 3> percent above the current trading price of arget shares on the 09' 1idco
argues that, because Goldco is a private company, this purchase is exempt from the 40.2s formal take)over
bid rules'
o .nalysis! 1idco2s offer to buy the shares of Goldco constitutes an indirect offer for the shares of arget,
pursuant to section 8$ of the 40., and is, therefore, a take)over bid for the shares of arget' .ccordingly,
1idco is sub%ect to the formal take)over bid rules' he private agreement exemption, discussed below, is not
available to 1idco because 1idco is offering to pay :r' (etworth a price greater than "H percent above the
market price'
Acting "1ointly or in Concert"
he 5uestion of when parties will be found to be acting %ointly or in concert is always a matter of fact and specific
examples of relationships that give rise to a presumption that the parties are %oint actors are provided (s' 8")
40# I")H>"#P & gloss on the term
It is common for bidders to negotiate with ma%or shareholders of a potential take)over target before launching a formal
take)over bid in order to improve the likelihood of the bid2s eventual success
he bidder does not wish to purchase outright the shares held by the ma%or shareholders before launching the formal
take)over bid b/c! (") if the bid fails, the bidder is left holding a minority share position that might be difficult to sell
without adversely affecting the market price of the shares; ($) if the bid succeeds, and the bidder obtains a clear
ma%ority of the target2s outstanding securities, although it is less than ">>O, the bidder2s ability to complete a second)
stage going)private transaction to eliminate the remaining minority interests can be more difficult because of the
minority approval re5uirements in 6ule I")H>"
herefore bidders will negotiate ,lock)up agreements- with the ma%or shareholders, where the bidder agrees to launch a
take)over bid within a particular period of time and at a certain minimum share price, and one or more of the ma%or
shareholders agree to tender the shares if, and when, such a bid is made
Implications! (") because the agreement gives the bidder the right to ac5uire the shares of the target company
(sub%ect to conditions) the bidder might be deemed to be the beneficial owner of the shares sub%ect to the
agreement pursuant to s' 8>(") & if the shares constitute more than ">O of the outstanding voting shares of the
target, the bidder would then be deemed an +issuer insider+ of the target (6ule I")H>"("'"("))) and any subse5uent
bid made by the bidder would thus be considered an +insider bid,+ ("'"(3)) which is, normally, sub%ect to additional
re5uirements; ($) it might be argued that the lock)up agreement constitutes an agreement such as in s' 8"(")$ (this
means that the bidder and the selling shareholder might be considered to be acting %ointly or in concert for the
purposes of Part == of the 40.)
(either of these conse5uences would be consistent with the policy of the 40., however' . typical lock)up
agreement, after all, does not entitle the selling shareholder to receive a share price higher than that of the other
target shareholders' :oreover, the selling shareholder merely disposes of her or his own shares and does not act
together with the bidder to ac5uire a greater e5uity interest' .ccordingly, specific exemptions and exceptions are
available' 6ule I")H>"($'"($)) provides an exemption from the insider bid provisions in the case of such lock)up
agreements' I")H>"#P($'3($)) states that ,an ordinary lock)up agreement with an identically treated shareholder
should not in and of itself generally result in arm2s length parties being seen to be acting %ointly or in concert-
Outstanding Securities
he definition of take)over bid refers to only an ac5uisition of ,outstanding- securities & a purchase of previously
unissued shares from treasury (i'e', new shares purchased directly from the issuing corporation, rather than from
another shareholder) would not constitute a take)over bid even if the number of shares so purchased constituted more
than $>O of a class (Tri%e$ E7uities)
Voting or Equity Securities
he take)over bid rules apply only to offers to ac5uire ,voting or e5uity securities-
95uity security & any security of an issuer that carries a residual right to participate in the earnings of the issuer and, on
the li5uidation or winding up of the issuer, in its assets (s' M8(")); the holder must have a residual right to participate
both with respect to the issuer2s earnings and with respect to its assets (e'g' a preferred share that entitles the holder to
receive a fixed preferential dividend but confers no further right to participate in earnings is not an e5uity security, even
if it carries a right to participate with the issuer2s common shareholders in any distribution of the issuer2s assets on a
li5uidation or a winding)up)
6ationale for limiting the take)over regime to purchases of voting or participating e5uity securities & (") the purchase of
debt and debt)like securities (such as conventional preferred shares) does not involve the shift in control of the
corporation that is the fundamental concern of the take)over legislation; ($) the value of fixed)income securities (i'e',
debt and preferred shares) is not sub%ect to the same wide potential variances resulting from informational advantages'
he value of fixed)income securities is affected chiefly by changes in market interest rates and the creditworthiness of
the issuer
,;oting security- is not defined in Part == but in s' "(") & any security other than a debt security of an issuer carrying
a voting right either under all circumstances or under some circumstances that have occurred and are continuing
It is a common feature of many fixed)dividend preferred shares that, if the issuer fails to pay such a dividend for a
period of time (often two years), the preferred shareholders become entitled to elect a specified number of directors
to the issuer2s board' It might not always be obvious whether non)e5uity shares with such contingent voting rights
constitute +voting shares+ for the purposes of the 40.' herefore, whenever a significant ac5uisition of shares is
planned ) even if those shares appear at first blush to be non)voting, non)e5uity shares ) it is critical to make proper
in5uiries to avoid an inadvertent violation of the 40.2s take)over bid rules
3. How to Conduct a Takeover
Re Canfor Corporation and Slocan Forest Products Ltd.
Facts: # interested in taking over 0 but :inister of *orests had to give consent to a change in control over a corporation
such as 0 (if change occurred without consent then assets of 0 would become worthless & :inister could cancel timber
tenures)' herefore structured bid by offering deposit receipts for 0 shares, which were financial instrument that could be
converted into # shares after the approval was obtained' $ stage transaction b/c wanted takeover to occur sooner than time
of approval process'
Analysis: 9ven though 0 only held deposit receipts they still had voting rights re # matters and specifically re voting for the
14<' Preservation covenants & terms of the deal which prevented 0 from business activities without the consent of # and if
it did then # could walk away from the deal'
How to Commence Bid
1y advertisement (s' ">>(B)) & that you are interested in purchasing sec of the target & allows you to start a little bit
early
0till need to file bid and deliver to offereeNs office and target sec holders
1y delivering circular to target sec holders (s' 8M)
Circular
Information re bid itself, consideration being offered and the identity and other relevant facts about the bidder
Purpose of circular & similar to a prospectus (give guidance to sec holders as to whether they should tender their shares
to remain a shareholder with co or do neither and wait for an even higher premium above the market price)
6eg' *orm 3$
Item "H & if consideration is sec of the offeror then have to provide a prospectus of the offeror
Item "8 & anything a target sec holder would consider material E full true and plain disclosure of a prospectus
o whom should the bid be deliveredF
.ll holders of sec and all holders that are convertible of the target class (s' 8H Y")
*iled with 40# (6egs' s' $>3) and offeree
;ariation in terms of bid/material information (s' 8M($, A))
#ivil liability via s' "3" (in the same manner as in prospectuses and same defenses)
Re Canfor Corporation and Slocan Forest Products Ltd. (re circular disclosure)
Facts: It was alleged that #Ns circular did not contain ade5uate disclosure re! consideration it was offering for 0 shares, that
# should have made it clear that its method of avoiding a change of control was untested and that it might violate the
provisions of the *orest .ct, etc'
Issue: Chether disclosure in circular was accurate'
Ratio: est of materiality & adopted the D0 test which is the same language as *orm 3$ item "8 (a reasonable shareholder
would want that information in deciding whether to tender their shares)'
Analysis: 6egulators expressed concern about the clarity of the nature of the consideration but did not have a problem with
it' 6egulators were not satisfied with #Ns disclosure of the fact that the method was untested even though # got a legal
opinion that it wouldnNt offend the .ct (should have asked the :inister)'
Conclusion: he ways that # tried to hedge its risk were inade5uately disclosed to the 0 sec holders'
Directors` Circular
0o that the directors can make a recommendation to the shareholders as to whether they should tender to the bid
(concern re hostile takeovers & use of the circular motivated by their fiduciary duty to the co or their own self)interestF)
s' 88 and *orm 3A
Item B & relationship b/w offeror and directors/sr officers of the offeree
Item "A & recommendation of accepting or re%ecting the bid (or neither but give a reason why)
<elivery re5uirement & not later than "H days after date of bid (time for sec holders to assess the directorNs
recommendation)
Time Periods
1id must be open for 3H days (s' 8H Y$)
(o sec to be taken up until 3H day period has expired (s' 8H Y3)
4fferor has to take up sec not later than "> after expiry of bid (s' 8H Y8)
0ec must be paid for not more than 3 days after take up (s' 8H Y">)
Take Up Issues
ake up in the context of partial bids (s' 8H YB) & if more tenders than wanted to take up then take up on a proportional
basis (proportion of sec tendered by each sec holder) & idea of e5ual treatment (donNt take up the sec holders that tender
a big block and disadvantage smaller sec holders)
Re Canfor Corporation and Slocan Forest Products Ltd. (re take up and payment issues)
Issue: Chen were 0locan sec taken upF Chen offered deposit receipts or when deposit receipts were to be exchanged for #
shares (0Ns argument & infringed the take up and payment rules)
Ratio: aking up is not defined by the .ct and it does not have the same meaning in all circumstances' Taking up, when
used in Part XX, means the communication by the offeror of its irrevocable decision to complete the purchase of the
shares tendered under its offer, and must take place before or at the time of payment.
Analysis: he # bid provided for the taking up of the deposited 0 shares by the issuance of transferable <eposit 6eceipts &
the fact that the <eposit 6eceipts represent beneficial ownership of the 0 shares from the time of the issuance of the <eposit
6eceipts to the time, if any, that the <eposit 6eceipts are exchanged for # shares did not mean that there is no taking up
under the terms of the # bid' ?egal title to the 0 shares was to pass to the rustee and # would then have control over what
happened with those shares' In this transaction taking up occurred either before or at the time of the issuance by # of
<eposit 6eceipts in payment for the tendered 0 shares' OSC agreed with C - the take up occurred when exchanged and
was within the time period - the consideration for the S shares was the deposit receipts (met the time period even
though later exchanged) - deposit receipts weren`t illiquid b/c listed on the TSE.
Withdrawal
3 potential scenarios via s' 8H YA
"' Cithdrawal any time before end of 3H day period (or if the bid is longer then any time before taken up)
$' Cithdrawal before end of "> days from date of notice of change (if change mind after receiving new information)
3' Cithdrawal if sec not paid for within 3 days of takeup (if bidder is slow to pay for the sec taken up)
Re Canfor Corporation and Slocan Forest Products Ltd. (re withdrawal issues)
Facts: # had at least ">> days before its shares would be exchanged for deposit receipts but 0 shares irrevocably deposited
(structure of bid was unfair to 0 sec holders)
Ratio: he fact that the deposit receipts could be traded on the 09 (and therefore had a way of li5uidating their
investment) answered the lack of fairness p' H8$ ,we gave serious considerationTon balanceTso abusiveTwarrant
investigation-' :inister refused to give consent to the change in control of 0'
Bid Conditions
1usiness (concern that the market has re certainty & relationship b/w conditions and success of bid/higher premium
over market priceF) and legal issues here
(o conditions concerning financing (s' 8I)
D0/#dn comparison
Consideration
:ust be identical for all sec holders (s' 8B)
Chat if consideration increased later in the bidF & must offer to those already offered on basis of lower price
Prohibition of collateral agreements (s' 8B($)) & what constitutes a collateral benefitF 6e directorsN circular, sec holders
want to know any agreements of sr management staying on in their position after the change of control & collateral
benefit for those sec holders that isnNt being offered to non)management sec holdersF
Issue is whether what you offered is an inducement to tender shares (or was motivation to maintain the value of the
target after the takeover)
Pre)bid integration issues (s' 8A(H)) & pre)bid integrated with the bid itself and canNt ac5uire sec for consideration that is
superior to that offered in the bid (significant b/c a bidder will try to ac5uire as many sec up to the $>O as possible
before making the bid & prevents side deals with significant sec holders)
?ock)up agreements (s' 8A($) and 6eg' s' "MH(")) & doesnNt prevent this (if want to know if bid will be successful
before all the work, can approach significant sec holders in advance and ask whether they would tender their sec)
Chy doesnNt this offend the collateral agreement ruleF b/c the 6eg' says the agreement is to be in accordance with
the terms and conditions of the bid
Chy do significant sec holders enter into lock)up agreementsF :ost agreements say they agree sub%ect to be no
other bid (not an irrevocable tendering)
Market Purchases During Bid
6estrictions here & s' 8A($, 3) & bidder wants to buy as many sec as possible and as 5uickly as possible in order to
ensure success and therefore limit of HO
<efinition of ,recogni7ed stock exchange- & 09, :ontreal 9xchange and the 0= ;9
:L( & upstairs market & not recogni7edF I$)H>" & prevents these transactions
<isclosure re5uirements
40# 6ule I$)H>"
Basic Rules Governing a Formal ~Circular Take-over Bid
3 principles of take)over bid law are that shareholders of a company that is the target of a take)over bid should be
provided with (") reasonable time to consider an offer for their shares, ($) ade5uate information to make an informed
decision as to whether to tender their shares to a bid, and (3) e5ual treatment
Commencement of the Bid
here are two ways in which a formal take)over bid may be launched! by delivering a formal bid document to all of the
target securityholders (s' ">>($)) or by publishing a detailed announcement of the bid in a ma%or daily newspaper and
filing and delivering a copy of the bid to the office of the target company (s' ">>(B)), which must be accompanied by a
take)over bid circular (s' 8M("))
$ advantages to bidding by public advertisement!
0peeds up the process of completing the transaction! every formal take)over bid must remain open for at least 3H
days which begins to run from the date the bid is commenced and a public advertisement announcing a bid can be
placed up to "> days earlier than a bid document can be mailed to shareholders because, in order to mail a bid
document, the offeror first must have a list of all the target company2s shareholders (corporate statutes permit an
offeror to obtain such a list, but also permit the target corporation up to ten days to produce such a list) therefore in
the case of a hostile take)over bid (i'e', a bid that is opposed by the managers of the target corporation), the efforts
of an offeror to commence its bid could be stalled for almost $ weeks were it not for the 40. provision permitting
a bid to be initiated by a newspaper ad
4ld regime! offerors planning to launch a hostile bid would generally issue, in advance of their bid, a public
statement indicating their intent (under the continuous disclosure rules) but nothing in the 40. imposed any
obligation on the offeror, after making such a public announcement, to formally commence its bid within a
specified minimum time period' (ew regime! although under the new formal bid rules, a bidder may still choose to
commence a bid by delivering the bid documentation to the securityholders rather than by public advertisement,
the new regime provides incentives to the offeror to commence the bid by public advertisement & once the bid is
commenced, the 40. imposes specific obligations to ensure prompt delivery of the bid documents
Minimum Bid Period/Withdrawal Rights
.ll formal bids must be made to all securityholders of the class in 4ntario, and the bid documents must be sent to those
securityholders as well as to any holders of securities that are convertible into securities of that class before the bid
expires (s' 8H("))
6ationale for the extended delivery obligation & holders of convertible securities may wish to exercise their conversion
rights to be eligible to tender to the bid' 1ids must remain open for at least 3H days (s' 8H($)) to permit the target
shareholders sufficient time to consider the offer, and to provide the directors of the target corporation, in the case of
hostile bids, sufficient time to explore other alternatives to the bid, including possibly attracting a rival bidder who is
willing to pay a higher price' <uring that 3H)day period, the bidder cannot +take up+ any shares deposited by selling
shareholders (s' 8H(3)) (+taking up+ E the acceptance to purchase by the offeror)' Dntil her or his shares are taken up, a
shareholder who has tendered shares to the bid is permitted to withdraw them (s' 8H(A))' 0uch a withdrawal right is
important not only because it allows a shareholder to change her or his mind, but also because if a second bid is made at
a higher price per share, a shareholder who has tendered shares to the first bid may take them back and tender them to
the higher bid instead' 1y providing target shareholders with such a right, the 40. makes it difficult for bidders to put
undue pressure on the shareholders, and also makes it feasible for directors of the target corporation to seek out
alternative offers
Pro Rata Take-up of Tendered Securities
4ften a bidder does not seek to purchase all the outstanding shares of a target corporation, but wants to ac5uire control
with II)$/3O of all outstanding shares (i'e' the O needed to pass special resolutions)
herefore the bidder would make a partial bid, offering to purchase a specified maximum number of shares but if more
shares are tendered to the bid than the bidder is prepared to purchase, the bidder must purchase some of the shares from
all tendering shareholders, proportionately, according to the number of shares they each tendered
Taking Up and Paying for Tendered Securities
1idders have a specific incentive to take up shares as soon as they are permitted to do so! namely, to end the
withdrawal rights that tendering shareholders en%oy until their shares are taken up (s' 8H(A)(i))
he prompt payment provision prevents bidders from being 5uick to take up, but slow to pay for, tendered securities &
any shares taken up must be paid for as soon as possible, but, in any event, payment must be within 3 business days (s'
8H(">))
If the bidder waits until the bid expires before taking up any shares, the statute re5uires all shares tendered to the bid to
be taken up within "> days after expiry of the bid (s' 8H(8))
Chile a bid is open, individual securityholders might tender their securities at different times' o try to ensure the
success of its bid, the bidder might wish to take up deposited securities as soon as the minimum statutory withdrawal
period expires' Uet, if the bid is still open when the bidder first takes up the deposited shares, more securities might be
tendered after that date' If bidders were permitted to delay paying any shareholders who tendered late, target
shareholders might feel pressured to tender early to an offer to avoid having their payments delayed' It was precisely
this sort of pressure that the take)over rules were intended to prevent' .ccordingly, the 40. provides that once the
bidder has taken up any tendered securities, the bidder must then take up, and pay for, all additional securities that are
subse5uently tendered to the bid within ten days of their deposit (s' 8H(""))
Extending Bid
1idders specify in their bid document the time at which the offer to purchase will expire
.s the expiry date draws near, bidders fre5uently wish to extend their bids to give securityholders more time to tender
their securities
6ationale for bid extensions! if it becomes clear that a bid for all outstanding shares will be largely successful, the
bidder may wish to provide additional time to sweep in the few remaining stragglers; a bid might have been delayed by
court or 40# proceedings
1ut it is unfair to permit an extension of the bid if it would result in a delay of payment to the securityholders who
tendered their shares by the original expiry date therefore a bid can be extended only if the securities previously
deposited are first taken up (s' 8H("$)) and once the securities are taken up, the bidder must pay for them in no less than
3 business days)
If the bid is extended while tendering shareholders continue to en%oy a withdrawal right, it is not necessary/possible, to
re5uire a bidder to take up the shares before extending its bid (no mandatory take)up of shares is re5uired before the bid
is extended) (s' 8H("$'"))
he 40. can also re5uire that the time period of a take)over bid must be extended & when the terms of a bid are
changed, securityholders must be given at least "> days from the date of the variation to deposit their securities (s'
8M(H)) and must be given withdrawal rights during those"> days (s' 8H(A)(ii))
Dsually the contractual obligations of a bidder are sub%ect to conditions specified in the bid document & e'g' the bid
might be conditional on the satisfaction of competition law re5uirements or on the absence of any material adverse
change having occurred in the target2s business & they are included to protect the offeror therefore if the offeror chooses
to waive such conditions in an all)cash bid, this change does not alter the position of the target shareholders to their
detriment & it simply makes completion of the bid more probable therefore if the only change to the bid is to increase
the price or to waive a condition provided for in an all)cash bid, there is no need to provide the tendering shareholders
with an extended time to withdraw their securities & no extension is re5uired in these circumstances (ss' 8M(I), 8H(H)
(ii,iii))
Identical Consideration - Section 97(2)
95ual treatment of target shareholders is a fundamental principle of take)over law b/c! (") the 40. seeks to prevent a
small number of controlling shareholders from capturing a disproportionate share of the premium a buyer may be
willing to pay for control of the corporation (as in the s' 83(")(c) exemption) and ($) by re5uiring e5uality of treatment,
the 40. seeks to curb variations of the two)tier bid tactic that has long been regarded as coercive because it can
pressure shareholders into tendering to a bid even when they may consider the bid price inade5uate
0ection 8B(") & re5uires all holders of the target2s securities to be offered identical consideration in the take)over bid
If the bidder increases the bid price after some securityholders have already tendered their shares, the higher price must
be paid to every tendering securityholder, even to those whose securities had already been taken up by the bidder before
the price increase was announced (s' 8B(3))
o prevent the indirect payment of additional consideration to certain securityholders (i'e', special +sweetheart+ deals),
section 8B provides a +no collateral benefit+ rule (s' 8B($)) & forbids a bidder from entering into a separate agreement
with a securityholder (even an agreement ostensibly unrelated to the purchase of that securityholder2s securities) which
has the effect of providing to that securityholder a higher price for his or her securities than the price offered to the
other securityholders
OSC Exemption
.cceptable reasons for entering into agreements with shareholders e'g' the offeror may want to ensure that a key senior
employee of the target company remains with the company following the offeror2s ac5uisition' Uet, if that senior
employee also owns securities of the class sub%ect to the bid, an attempt to enter into a separate agreement with that
employee could be construed as an impermissible collateral benefit
herefore +an interested person+ may apply to the 40# for a decision that any such agreement is made +for reasons
other than to increase the value of the consideration paid to the selling security holder+ for the purposes of subsection
8B($) (s' ">A($)(a))
Collateral Benefit Exemption and Majority of Minority Approval
6elationship between an 40# exemption from subsection 8B($) and a technical provision in the going)private rules! the
going)private rules govern the procedures by which the ma%ority shareholder of a company may complete a transaction
that has the effect of eliminating (or +s5uee7ing+ or +cashing+ out) the interests of the minority shareholders & such a
transaction must first be approved by a +ma%ority of the minority+ shareholders (i'e', a vote by those shareholders other
than the ma%ority shareholder that has initiated the transaction)
9xception to these voting rules when a going)private transaction for a company follows the completion of a successful
take)over bid for that company (rules intended to protect minority shareholders from abuse, not to permit the holders of
very small share interests to hold up any transaction they please, no matter how beneficial that transaction is perceived
to be by the overwhelming ma%ority of shareholders)
.s long as the consideration received by the minority shareholders in the going)private transaction is at least as much
as the consideration received by those other shareholders who tendered their shares to a recently completed take)over
bid (6ule I")H>" s' M'$(b)) the rules permit the votes attached to the shares ac5uired by the ma%ority holder in the bid to
be counted in determining whether the transaction has received the necessary ma%ority of the minority approval
In effect, the shareholders who tendered to the bid indicate, by tendering, their approval of the price at which the
remaining shareholders will be +cashed out'+
1ut if shares were ac5uired in the bid from a person who received a collateral benefit, such shares may not be counted
as minority shares, unless the 40# <irector grants a specific exemption otherwise' 4f course, any such collateral
benefit is illegal unless the 40# granted an order under clause ">A($)(a) permitting it
herefore, the 5uestion arises as to whether the 40#, in permitting the collateral benefit in the first place, has also
tacitly agreed that the shares ac5uired from the person receiving that benefit can be counted in any subse5uent going)
private transaction minority vote'
0hould the $ issues be treated distinctF! you need to apply to the #ommission for a s' ">A($)(a) order, Qto permit the
collateral contractR then you2re going to need an exemption from the <irector under 6ule I")H>", too, if you want to
count the shares tendered by any party to the collateral agreement' he fact that you obtained a s' ">A($)(a) order
doesn2t negate the fact that the tendering securityholder was treated differently than the other securityholders in the
bid' ''' sometimes staff will recommend that both exemptions will be granted' In some circumstances, however, staff
anticipates that it may recommend that the #ommission grant relief under clause ">A($)(a) but recommend against the
relief re5uested under 6ule I")H>" (regulators would be concerned with any collateral benefit that reasonably might be
assumed to have influenced the securityholder2s decision to tender to the bid in the first place)
Pre-bid Integration/Post-bid Acquisitions
o ensure the effectiveness of the identical consideration rule!
.ttempts by bidders to enter into preferential deals with individual shareholders immediately prior to and immediately
following the making of a take)over bid are restricted
herefore if an offeror purchases securities from a target shareholder within 8> days before making a take)over
bid, the eventual take)over bid price must be at least e5ual to the price paid in the pre)bid transaction'
If the bidder makes more than one purchase in that time period, the bid price must be at least e5ual to the highest
price paid'
he total percentage of outstanding securities that are sub%ect to the bid must be at least as great as the highest
percentage of the shares ac5uired from any seller in a pre)bid transaction (s' 8A(H))
o prevent favourable side deals after the completion of the bid, the 40. forbids any purchases of securities of the
same class as those sub%ect to a take)over bid that is not generally available to securityholders of the class for a
twenty)business)day period following the expiry of the bid (s' 8A(I))
9xception to the pre)bid integration and the post)bid ac5uisition restriction rules in the case of normal)course
purchases on a published market (s' 8A(B))
Permitted Purchases during a Bid
<uring a formal bid, the bidder is permitted to purchase a limited number of securities other than pursuant to the bid
itself provided (a) the intention to make such purchases is stated in the take)over bid circular, (b) the purchases are
made through the facilities of a recogni7ed stock exchange, (c) the total number of securities so purchased does not
exceed H percent of the total outstanding securities, and (d) the bidder issues and files a news release each day such
purchases are made (s' 8A(3)) & this exemption does not stipulate that the price paid in any such exchange transaction
must be the same price offered in the take)over bid'
Identical consideration is not a condition of the s' 8A(3) exemption and, accordingly, is not 5ualified in this respect by
the general policy ob%ective expressed in s' 8B(") on this point (Chapters0Trilog#)' 4therwise, no other purchases
during the bid are permitted (s' 8A($))
9xemption phrase! +through the facilities of a stock exchange+ & when large blocks of shares (block purchases) of an
exchange)listed company are traded, the sales are not concluded in the same speedy, electronic way as small orders'
Instead, the sales are negotiated and arranged in the so)called +upstairs market+ (i'e', they are arranged privately,
through the direct matching of buy and sell orders by securities dealers)' he trade is subse5uently +brought to the
floor+ of the exchange (i'e', the trade is processed through the facilities of the exchange)' 1lock purchases, though
processed through the exchange, are not normal)course exchange purchases' Chen such purchases were made by the
bidder in the course of a hostile take)over bid for #hapters Inc' in $>>", the target argued that the purchases ought not
to be permitted under subsection 8A(3) of the 40.' he 40# disagreed, noting that subsection 8A(3) does not stipulate
that purchases must be normal)course purchases to en%oy the benefit of the exemption' .ccordingly, because trades
initiated in the upstairs market and then processed through the exchange are considered by the 092s own rules to be
trades made through the facilities of the exchange, the 40# held that such trades fell within the subsection 8A(3)
exemption
Gowever, 6ule I$)H>", if passed, would effectively overrule that aspect of the #hapters/rilogy decision that permits
transactions completed in the upstairs market to 5ualify for the exception in subsection 8A(3)' In its notice of the
proposed rule, the 40# indicated the following! ,he purpose of the Proposed 6ule is to ensure that the e5ual treatment
principle is not violated in the context of purchases made pursuant to the exemption in subsection 8A(3)' he Proposed
6ule would vary the application of subsection 8A(3) so that it would apply only to normal course stock exchange trades
and would not apply to trades that are arranged privately and subse5uently completed or +crossed+ on the stock
exchange-
Offeror`s Circular
he bidder must produce and deliver a disclosure document (take)over bid circular) in a take)over bid (s' 8M(B))
#ontent of the circular & *orm 3$ (6eg' s' "M8(a))
*ailure to deliver a take)over bid circular as re5uired by the 40. is an offence punishable in accordance with the
provisions of s' "$$; could also lead to administrative action by the 40# under s' "$B; could lead to court proceedings
under s' "$M; and any securityholder of a target corporation to whom a take)over circular was re5uired to be delivered
may have a statutory right of action against the offeror, if, in fact, no circular was delivered (s' "33)
. take)over bid circular is a disclosure document intended to provide selling securityholders with the information
necessary to make informed decisions as to whether to tender their shares to a bid'
he offeror is responsible for the accuracy of statements in the circular, and the 40. provides a statutory civil remedy
in the event that there is a misrepresentation in the circular against the offeror, the directors of the offeror, the experts
whose opinions appear in the circular, and others who sign a certificate in the circular (s' "3") & similar to the statutory
civil liability remedy provided in s' "3> for misrepresentations in a prospectus (provides various defences, including a
due diligence defence, to defendants other than the offeror itself)
s' "3"(A) provides the offeror2s only defence, which is to prove that the securityholder had knowledge of the
misrepresentation'
he take)over bid circular must include a statement of these s' "3" rights (6eg' s' $>>)
he test to determine the ade5uacy of disclosure in a take)over bid circular is the same standard articulated by the D'0'
0upreme #ourt in TSC ndustries n$& v& North1a# n$& in the proxy circular context! ,.n omitted fact is material if
there is a substantial likelihood that a reasonable shareholder would consider it important in deciding how to vote ''' or
in deciding whether to tender his shares in the case of a take)over bid-

Securities Exchange Take-over Bid Circular
0ec exchange offer & bidders offer to ac5uire securities of a target corporation in exchange for securities of the bidder
itself rather than for cash
In order for securityholders of the target company to make informed decisions as to the value of the offer, they must
%udge the value of the bidder company2s securities (investment decision that is no different, in any material respect,
from the investment decision a prospective purchaser of securities must make when an issuer undertakes a public
offering therefore the bidder2s circular for a securities exchange offer must include prospectus)level disclosure (6eg' s'
"M8 *orm 3$, Item "H)
Gowever, the issuing of shares by the bidder in such a case (even though it is a distribution) is exempt from the normal
prospectus re5uirements (s' B$(")(%)) therefore there is no review of the take)over bid circular by securities regulators
#irculars must be filed with the 40# (s' $>3) together with a separate report on *orm A$ (6eg' s' $>3) but filing is not
made before the take)over bid begins (regulators do not sub%ect the circular to a pre)transaction vetting in the way they
do a prospectus)
Prior to "888, it was possible for a company to become a reporting issuer by filing a securities exchange take)over bid
circular even though the circular was not sub%ect to the prospectus vetting process and even in cases where the take)
over bid was not completed (E easy way out of the closed system was thought to be a serious loophole and was sub%ect
to some abuse but amendments to the definition of +reporting issuer,+ eliminated this method of automatically
becoming a reporting issuer for securities exchange take)over bid circulars filed after the amendment came into force
Target Company Directors' Circular
4nce the offeror has delivered its take)over bid circular, the directors of the target company must respond with a
circular of their own (s' 88)
Purpose & to further help target shareholders to make informed decisions by providing them with the educated views of
those in the best position to assess the value of the target company (the shareholders are better able to determine
whether the offeror2s bid is ade5uate)'
:ust be delivered to securityholders within "H days of the bid and must contain a recommendation to accept or re%ect
the bid supported by reasons & it is possible to make no recommendation but the directors must provide reasons for this
position (may need additional time to assess the offeror2s bid & the directors may indicate in their circular that they are
still considering their position, and may advise securityholders not to tender their shares until they receive a final
recommendation from the directors & s' 8M(A)) & the recommendation must be made at least B days before the bid
expires (s' 8M(H))
Individual officers or directors can issue their own circulars containing their own independent recommendations (s'
88(3))
Exempted Take-over Bids
he costs and potential delays associated with take)over rules are %ustified for change)of)control transactions involving
public companies whose shareholders might otherwise be exploited by aggressive bidders
he expansive definition of take)over bid (created to prevent easy avoidance) also sweeps in many transactions for
which the costs of complying with the regime far outweigh any possible benefit to investors therefore s' 83 offers a
number of exemptions from the take)over bid re5uirements
Chere all of the rules in Part == are not really necessary (no regulatory %ustification)
H situations in s' 83 (if use exemption then exempt from ss' 8H)">> but not 8A or early warning rules)
s. 93(1)(c) private agreement exemption & controversial b/c paves the way for une5ual treatment of sh based on
significant holding of sec (derogation from principle of e5ual treatment which is the foundation for the take)over
regime) but defend b/c it is a compromise b/w $ competing policy considerations & controllers should be rewarded
for risk (having such a significant holding & able to obtain a premium for them) and control shouldnNt be seen as
value only to the controller but should be a corporate asset with the corollary that all sh should share in the reward
o Conditions & (i) individual/small group who can transfer control by selling their holdings; (ii) can offer to e'g'
"> sec holders but bid cannot be made generally to all sec holders and take the top H holders who tender; (iii)
canNt pay a premium of more than "HO over the market price to them & ,market price- (6eg' s' "M3) is average
of closing price for the $> business days preceding the date of the transaction (problems where minority
sh/commission unhappy that there was a blip (rise) in the price resulting in the controller getting a greater
premium & if controller influencing the price then problem e'g' leaking information about the take)over bid
that would result in rise in the price or unfriendly bidder and controller refuses to tender with intention to sell
to someone else)
o s' 83($) & anti)avoidance provision that says have to count beneficial holders separately to see if have H sec
holders
s. 93(1)(a) - take-over bids through the TSE or the TSX VE - only exempted b/c the 09 has parallel
regulations but some Part == rules will apply (pre)bid integration rules and the early warning rules)
o Limiting factors - limited to consideration in the form of cash b/c exchange is a facilitator of shares for cash;
canNt specify minimum number of sec to be tendered (if offer sec should have some certainty that the
transaction will be completedF) but does allow maximum numbers
S. 93(1)(b) Normal course exemption & allows ac5uisition of small number of sec for own personal purposes
without triggering the rules (e'g' already a control person & definition of ,take)over- includes offer to ac5uire
together with the sec already owned therefore if already own $>O then any ac5uisition is a bid)
o (i) not more than HO of outstanding sec of the class and the aggregate number of sec in the previous "$
months doesnNt constitute HO of the class & ..6 b/c donNt want creeping take)over
o (ii) 6eg' s' "M3(H) & last purchase of sec by someone who was not acting %ointly or in concert with the offeror
(b/c not worried about control block holders inflating the market price of the sec)
s. 93(1)(d) - private issuer exemption & available to private companies (not a ri and fewer than H> sec holders)
o 6ationale & cost of re5uirements isnNt %ustified for the protection of the sec holders in the target company
(small number of sec holders therefore they can deal directly with bidder and get any information they feel is
necessary without being re5uired to do it)
o #an use even if no restriction on share transfer in articles
s. 93(1)(e) - de minimus exemption & bid is made to constitute less than $O of the sec of the class (directed at ri
or issuers in other %urisdictions who have a small number of 4( sec holders and there are take)over rules in
applicaitoin in another %urisdiction)
Discretionary exemption from the OSC (s. 104(2)(c)) - on application by an interested person and not
pre%udicial to public policy (guideline is whether the sec holders of the target re5uire the protection of the
regulations & fate of the minority sec holders)
Re Med-Tech Environmental Ltd. (private issuer and private agreement exemptions)
Facts: : sub%ect of contested take)over bid & $ bidders (0 and ;*I)' 0 made $ arguments & private issuer exemption
relevant and if not then private agreement exemption applied to them'
Ratio:
(") PI9 .rgument
Issue was whether the reference in the PI9 to ,holders- meant registered holders or beneficial holders
0 made offers to : sec holders which didnNt implicate the rules
: had I$ registered sec holders
0Ns argument was that there was fewer than I$ beneficial holders therefore PI9 was available
40# & didnNt come out with straight answer & inclined to the view that it means registered holders (simpler and
easier determination of whether the exemption is available b/c does not re5uire what might be a difficult in5uiry
into beneficial ownership) but even if they held that it meant beneficial, 0 didnNt ac5uire information needed to
establish how many beneficial holders there were
($) P.9 .rgument
0 tendered $M persons and companies but the first $3 were done before the ac5uisition of $>O (i'e' during
ac5uisition of the toe)hold) and then engaged in H transactions which constituted A>O of the holding & argued that
those were done under the P.9 (i'e' argued that 0 could ignore any ac5uisitions before the offeror reached the $>O
threshold)
40# & canNt bracket off one set of transactions and consider irrelevant if there is a series of transactions leading to
bid (while trying to stay within the letter of the law)
I of the $M were represented by " dealer but 0 wanted to say that only H were sec they were ac5uiring (keep one in
the first set of transactions)
*abricated an artificial series of closings which violated not only the spirit, but also the letter, of the take)over bid
provisions of the .ct
.ll one transaction and a formal take)over bid occurred
Stock Exchange Bid Exemption
1ids undertaken through the facilities of a recogni7ed stock exchange are exempt from the 40.2s formal take)over bid
rules (s' 83(")(a)) if the bid is made in compliance with all the applicable +by)laws, regulations and policies+ of that
exchange (s' 83(A))
he exchanges recogni7ed for this purpose are the oronto 0tock 9xchange (09), the :ontreal 9xchange (now the
1ourse de :ontreal), and the #anadian ;enture 9xchange (40# 4rder $")8>")
6ationale! the stock exchanges provide their own rules to regulate bids and to protect investors therefore if an offeror
complies with those alternative rules, the underlying policy ob%ectives of the 40. are still achieved
he exemption only applies to ss' 8H)">> (not to every provision in Part ==) i'e' a number of important 40. rules
continue to apply to stock exchange take)over bids e'g' the pre)bid integration and ongoing and post)bid ac5uisition
rules and the early warning rules
Normal-Course Purchase Exemption
1/c the take)over bid definition focuses on the total number of shares to be held by an offeror after the completion of an
offer to ac5uire, rather than on the number of shares sub%ect to such an offer to ac5uire very small share purchases by
large shareholders may be considered take)over bids e'g' for a shareholder who already owns $>O of the outstanding
e5uity shares of an issuer, any additional purchase, even of a single share, is a take)over bid
It would be cumbersome, inefficient, and unnecessary to sub%ect such minor purchases to the 40.2s formal take)over
bid re5uirements therefore there is an exemption in the case of modest, normal)course share purchases, provided that an
offeror does not purchase more than HO of the outstanding securities of a class in any "$)month period, and does not
pay a premium above the market price for such securities (where there is a published market for them) (s' 83(")(b))
he +market price+ for securities ac5uired on a published market (defined in s' M8(")) (typically a stock exchange)
means the price of the last board lot of securities of that class purchased prior to the ac5uisition (6eg' s' "M3(H)) & a
board lot, or round lot, refers to a standard number of traded shares on an exchange that can typically be traded without
re5uiring the payment of special +odd lot+ commissions' 4n the 09, the si7e of a board lot varies depending on the
market price per share' 1ut, for most 09 issuers, a board lot is ">> shares
In the case of any other purchase, the term +market price+ essentially means the average closing price for the securities
over the previous twenty business days (6eg' s' "M3)
Chere the market in which the securities trade does not provide a closing price, the price is the average of the average
highest and lowest trading prices over the previous twenty business days (6eg' s' "M3)
Private Agreement Exemption (most important exemption)
0ection 83(")(c) & permits an offeror to make a take)over bid without complying with the formal bid re5uirements,
provided that the bid consists of purchases made from not more than five persons or companies, the price paid for the
securities does not exceed ""HO of the market price (i'e', "HO more than the market price), and the bid is not made
generally to all securityholders of the class
6ationale! compromise between two opposing views about how far we should go in this area (opposing views & those
who considered it improper to place limitations on the rights of securityholders to deal with their property as they saw
fit vs' those who believed that any premium paid to securityholders in exchange for gaining control of a corporation
should be shared among all securityholders
9ligible purchases must be made from not more than five persons or companies & attempts have been made to break up
large purchases into smaller chunks in order to s5uee7e the transactions within the literal wording of s' 83(")(c)
(additional rules were included to prevent such avoidance)
9xample . & 1idco ?imited wishes to ac5uire a controlling position in arget #orp', a publicly traded corporation'
1idco already holds a A> percent interest in arget #orp' and neither wants, nor is prepared to pay for, more than an
additional "" percent stake' #ertainly, 1idco does not wish to undertake an expensive formal take)over bid for arget
#orp' shares' wenty)five arget #orp' shareholders, holding an aggregate "" percent of arget #orp'2s shares, would
like to sell their shares to 1idco at a "H percent premium to market' In order to fit within the words of the exemption in
clause 83(")(c), these shareholders incorporate a new holding company (Goldco')' he twenty)five shareholders
transfer all of their arget #orp' shares to Goldco' Goldco, then, sells all of these arget #orp' shares to 1idco' he
purchase by 1idco is a take)over bid because the shares purchased, plus the shares already held by 1idco, exceed $>
percent of arget2s outstanding e5uity securities' Gowever, because 1idco is now purchasing the shares from only one
seller, Goldco, instead of from twenty)five individuals, 1idco hopes to rely on the clause 83(")(c) exemption from the
formal take)over bid rules
.nalysis! 1idco will not be permitted to rely on the clause 83(")(c) exemption' #lause 83($)(b) specifically
anticipates this sort of avoidance transaction' It provides that where a company (like Goldco) ac5uires securities
+in order that the offeror Qi'e', 1idcoR might make use of+ the private agreement exemption, then each person or
company from whom the securities were ac5uired (the twenty)five individual shareholders, in this example) must
be included in determining the number of sellers' #lause 83($)(a) contains a similar rule for securities held in trust'
In such a case, the beneficial owners must be counted in determining whether the re5uirements of clause 83(")(c)
are met' here are two exceptions to the trust rule! (") where the trust is an inter vivos trust established by a single
settlor, and ($) where the trust was created by a will, and the interest of the beneficiaries has not yet vested' hese
two exceptions do not represent attempts to circumvent the policy underlying clause 83(") (c)' .fter all, the settlor
of an inter vivos trust, acting in his or her personal capacity, could lawfully have sold the same shares pursuant to
clause 83(")(c), and a testator, before her or his death, likewise could have chosen to sell such securities to a
purchaser in reliance on the exemption
9xample 1 & 4fferco Inc' wishes to ac5uire a controlling position in arget ?imited without making a formal take)over
bid' 4fferco, at the moment, holds no arget ?imited securities' 4fferco purchases common shares totalling "8 percent
of arget ?imited2s shares from forty separate arget ?imited shareholders at a price greater than $H percent above the
market price' :oments after completing the transaction, 4fferco purchases an additional A$ percent of arget ?imited2s
shares from five other shareholders, paying exactly "H percent above the market price' 4fferco argues that the first
purchase from the forty shareholders does not trigger the formal take)over bid re5uirements because it involves less
than $> percent of arget ?imited2s common shares and is, therefore, simply not a take)over bid' 4fferco admits that the
subse5uent ac5uisition from the five additional shareholders is a take)over bid but argues it falls clearly within the
clause 83(")(c) exemption
.nalysis! 9xample 1 is loosely modelled on the facts considered by the 40# in 6e :ed)ech 9nvironmental
?imited (:ed Te$h)' he 40# ruled that the offeror could not take advantage of clause 83(")(c) because the
offeror, while making all of the purchase transactions, in fact, was engaged in a single, continuing take)over bid,
rather than merely making discreet purchases' .ccordingly, in the words of the 40#, +QtRo fabricate an artificial
series of closings as was, in our view, done here, seems to us to violate not only the spirit, but also the letter, of the
take)over bid provisions of the .ct'+ (:ed Te$h)
.llowable Premium & a bidder seeking to rely on the exemption is permitted to pay no more than "HO above the
market price for purchased shares' +:arket price+ is determined in accordance with the 40. 6egulation' he
regulation defines +market price+ as the average of the closing price for the previous twenty business days or, where the
relevant market does not provide a closing price, the average of the highest and lowest trading price averages over the
previous twenty business days (6eg' s' "M3) but the regulation deals with only the market price of securities that trade
in a published market & because the exemption can be relied upon only where such a market price can be determined,
the exemption is unavailable to companies whose securities do not trade on such a market' Uet, where the shares of a
target company do not trade in a published market, there is actually less need of formal take)over bid protections
herefore 6eg' s' "MA provides a further take)over bid exemption (like the s' 83(")(c) exemption) & exempts from
the formal bid rules any purchase of securities of a company for which there is no published market when the
purchase is made from not more than five holders and when the bid is not made generally to other holders of the
class (6eg' s' "MA)
he date on which the +market price+ is to be calculated when the purchase of securities is made pursuant to the
exercise of an option! 40# says there is no hard and fast rule/+bright)line grail+ (En!ield) but En!ield and Tri%e$
E7uities analysis is helpful! where a bidder ac5uires securities pursuant to the exercise by an offeree shareholder of a
previously granted put option, the market price ought to be determined as of the date on which the option was originally
granted (En!ield) but when the bidder ac5uires securities pursuant to the exercise by the bidder of a previously granted
call option, market price ought to be determined as of the date on which the option is exercised (Tri%e$)
?ogic of this distinction! in the case of a put option, the investment decision (i'e', the definitive offer by the bidder
to ac5uire the shares at a stated price) is made on the date the put option is sold by the bidder to the offeree
shareholder(s)' Gowever, in the case of a call option, the bidder makes no definitive offer to buy until (and, indeed,
unless) the bidder actually chooses to exercise the call option
Private (Target) Company Exemption
Kust as the 40. and related rules provide exemptions from the registration and prospectus re5uirements (6ule AH)H>" s'
$'") for trades and distributions of the securities of +closely)held issuers,+ so too do they provide an exemption from the
formal take)over bid rules when the target is a private issuer
s' 83(")(d) & private company exemption available in the following circumstances!
he offeree issuer is not a reporting issuer, there is not a published market in respect of the securities that are the
sub%ect of the bid, and the number of holders of securities of that class is not more than fifty, exclusive of holders
who are in the employment of the offeree issuer or an affiliate of the offeree issuer, and exclusive of holders who
were formerly in the employment of the offeree issuer or an affiliate of the offeree issuer and who while in that
employment were, and have continued after that employment to be, security holders of the offeree issuer
his description differs from the definition of +private company+ in section " of the 40. in the following respects!
s' 83(")(d) refers to company attributes that must in fact be true rather than to attributes that must formally be
provided for in the company2s constating document;
he limitation in the number of securityholders is less restrictive in s' 83(")(d) than in the definition of +private
company+ in section " because s' 83(")(d) permits employees or former employees of affiliates (and not simply of
the company itself) to be excluded in determining whether the total number of shareholders exceeds fifty;
he s' 83(")(d) exemption does not specifically re5uire that the issuer2s constating document include a restriction
on the right to transfer shares or a prohibition against public invitations to subscribe for securities;
he s' 83(")(d) exemption expressly re5uires that the issuer not be a reporting issuer, and that there be no published
market for the issuer2s shares' (hese attributes are, of course, implicit in the private company definition
Re :ed-Te$h Environmental /imited & issue of whether, in determining the number of a company2s shareholders for
purposes of s' 83(")(d), regulators should consider the number of registered shareholders or the number of beneficial
shareholders (for corporate law purposes, corporations are entitled to treat their registered shareholders as shareholders
for all purposes and the 40# favoured using the same approach when interpreting s' 83(")(d))
De Minimis Exemption
9xemption from the formal take)over bid rules when the number of 4ntario shareholders is not significant
0ection 83(")(e) & provides that a bid is exempt where the target company has fewer than fifty securityholders with an
4ntario address holding, in total, no more than $ percent of the outstanding securities of the class
#onditions! the bid must be made in accordance with the take)over rules of another recogni7ed %urisdiction, and all of
the bid material sent to securityholders in that other %urisdiction must also be sent to the 4ntario securityholders
he %urisdictions recogni7ed include all other #anadian provinces except (1 and P9I (which do not have take)over bid
legislation comparable to Part == of the 40.), the D0 (where the 09. is complied with), and the DS (where he #ity
#ode on ake)overs and :ergers is complied with) (40# 4rder I$)8>A)
Exemption Regulations and OSC Exemption Orders
In addition to the specifically enumerated take)over bid exemptions, the 40. provides that further exemptions may be
provided by regulation (s' 83(")(f))
he 40# may also on application grant special exemptions from the re5uirements of Part == of the 40. if doing so is
not contrary to the public interest (s' ">A($)(c))
Defensive Tactics
Chen a take)over bid is commenced on an unsolicited or hostile basis (i'e', against the wishes of the board of the target
company), the target company2s directors and officers are in a position of potential conflict & if the bid succeeds, it is
highly likely that the directors and senior officers will be replaced
<ue to these personal conse5uences, how can the directors and officers reasonably be expected to assess the value of
such a bid for their shareholders in a fair and disinterested fashionF
Dltimately the issues raised by take)over defence tactics are essentially matters of corporate, rather than securities, law
(these issues involve the consideration of the discharge by directors and officers of their fiduciary duties, a sub%ect on
which securities regulators are reticent to express definitive views)
(ational Policy I$)$>$ (on take)over bid defensive tactics)
.ffirms the Simber #ommittee2s idea that the primary purpose of take)over laws is to protect the bona fide
interests of the shareholders of target companies
. secondary purpose is to provide an even)handed regulatory framework for take)overs
.lthough regulators are +reluctant+ to interfere in bids, they will oppose defensive measures that prevent
shareholders of target companies from making their own informed decisions as to whether to tender to a hostile bid
& 3 types of defensive tactics that might attract regulatory scrutiny! (") issuing a significant number of securities or
options to purchase securities of the issuer; ($) selling or granting an option to purchase significant assets of the
issuer; and (3) taking steps or entering into contracts out of the normal course of business
Defensive Tactics
Chat is permissible for the 14< to do when the bid is unwelcome
Purpose of the time periods to give target sec holders time to consider bid but also gives the directors the same time to
develop a defense
3 areas!
.vailable tactics
6esponsibility of the 14< in a take)over bid situation
6ole of sec regulation in policing defensive tactics
Available Tactics
Pre)bid tactics (in anticipation of bid in the future) e'g'
shark repellants & restrictive voting provisions attached to sec 0upra voting rights and 0upra ma%ority voting rights;
golden parachute (S b/w execs and issuer itself that if exec loses position then they will get substantial
compensation & operates as a disincentive to a bidder & bidders need to deal directly with the 14< so that terms
donNt trigger the /P) but serves a useful strategy & keep the 14< peaceful;
poison pill/share holder rights plan & issue as a dividend a right that attaches to voting shares with conditions &
grant the right to ac5uire additional sec of that class during a fixed period of time (H or "> years) at a price sub
above the price of the sec (no economic reason for triggering those rights in the normal course of events); upon
occurrence of triggering event the holders of rights can purchase additional sec at a fraction of their market value
and that event will be something like the ac5uisition of a bidder of $>O or more of the sec of the issuer (once event
occurs sec holders can purchase huge numbers of sec making it harder for the bidder to assume control) but can
you differentiate b/w sec holders of the same class (corporate law says you canNt but almost every widely held
corporation has a poison pill) & 14< can redeem the plan which has the effect of forcing bidder to deal with 14<
directly to try to make them redeem; permitted bid (wonNt trigger the plan) & made to all sec holders, valuation that
%ustifies the price of the bidderNs offer, earlier warning (all make bidder deal directly with 14< to see if deal will
be accepted & removes target sh ability to decide whether they want it to occur therefore scrutini7ed by sec
regulators b/c protection of target sh a primary ob%ective of take)over rules)
Post)bid tactics (immediate assessment for time or fend off bid by finding alternative)
<isposition of assets (sale of the crown %ewels) & bod enter into an agreement with a tp with a view to discouraging
the bidder
o e'g' C- Shareholdin's and Sha% Communications & found alternative bidder an agreement that if friendly
bid failed then would still be able to ac5uire assets for a specified price & ,a particular asset option may or may
not be offensive, depending on whether it is necessary to obtain a competing bid and whether it has the effect
of depriving shareholders of the ability to respond to a take)over bid or to a competing bid or is likely to deny
or limit severely the ability of the shareholders of the target company to respond to a take)over bid or a
competing bid- & approach of regulators re this tactic is to look at whether necessary in order to get the
competing bidder interested on the assumption that $ bidders results in more money (competing bidder will
come in with a better bid and that is to the benefit of the target sh) but if auction process disappears altogether
(first bidder walks away) then may not be an appropriate strategy
0earch for white knight (alternative bidder with terms better as determined by the bod) & whether the bod has
serving the interest of the sh in mind or other ob%ective that will result in the self)interest being served
(accommodating a friendly bidder)
6epurchase of shares (issuer bid) & target can buy back sec of its holders in the alternative to having a change of
control occur by an outside bidder purchasing the sec & issue is who is making the best offer and it enhances
premium then appropriate tactic
0how)stopper defense & engaging in litigation in order to delay or make a hostile bid disappear (alerting
competition bureau or launching hearings before the sec commission into terms of bid or way they ac5uire toe)hold
e'g' #anfor/0locan or go before the court and argue that terms of bid are violation of corporate law #C case &
whether regulators should hear the terms of bid or whether court should b/c deals with breach of fiduciary duty)
:edia games & advertising addressed to target sh re pros and cons of tendering (.ir #anada)
Payment of a break fee & works with white knight/competing bidder & offers a break fee if offer not successful to
compensate for time and effort of making the competing bid & does the fee merely make the competitor come
forward or does it create a disincentive (so sig that makes first bidder walk away)
o C- Shareholdin's and Sha% Communications & commission said bf not in and of themselves an improper
defense tactic but how much is payable to the competing bidder re whether serving the interests of the target
sh is the issue & ,the 5uantum of a specific fee could, in our view, result in the agreement to pay such a fee
being an improper defensive tactic' Gowever a break)up fee in an appropriate amount could, in our view, be
properly agreed to by a target company if it were necessary to agree to it in order to induce a competing bid to
come forward- and a reasonable fee is $ or 3O of the value of the transaction as a whole
1reak fees & paying a fee to a competing bidder (other than hostile bidder) to induce them to enter into the arena;
their use is acceptable but issue is how much is payable & $ or 3O is acceptable (but some have been as high as A
"/$O) but this can be a large amount of money considering the amount of a large transactions
<irectors and their fiduciary duties to the issuer & defensive tactics take the decision away from shareholders and into
the hands of the 14< (whether acting in shareholders best interest as opposed to own self)interest is what the court
looks at)
6evlon duty & where directors responding to hostile take)over they canNt %ust say no & positive duty to solicit
competitive bids
#anada back off from this position b/c if issuer has a ma%ority shareholder then they hold the fate of the bid b/c if
they donNt tender then the bid wonNt be successful therefore positive obligations of 14<s are more relaxed p' IMH
goes through the %urisprudence around the 6evlon duty (ok for defensive tactics without saying they have to solicit
competing offers)
o what extent is it appropriate for sec regulators to examine whether directors are fulfilling their fiduciary duties in the
context of hostile take)over bids & not appropriate to get something that is for the courts to determine under corporate
law statutes but hard to draw the line b/w 5uestions of whether there has been sufficient protection of target
shareholders and whether directors have fulfilled their fiduciary duties to the issuer
Re CW Shareholdings and Shaw Communications (whether directors are fulfilling their fiduciary duties in the context of
hostile take)over bids)
Facts: #C was a hostile bidder for a target issuer CI# and CI# solicited a competing bid from 0haw' CI# entered into
pre)ac5uisition agreement which included a break fee for 0haw in the event that their bid didnNt succeed and an asset option
(of purchasing key assets of CI# assuming the bid was unsuccessful)' #C goes before the courts and the sec commission!
40# & re5uest to cease trade the 0haw bid & prevent the shareholders from tendering; court & re5uest to set aside the pre)
ac5uisition agreement b/w CI# and 0haw'
Issue: Chat is the 40#Ns role in determining the appropriateness of the tacticsF
Ratio:
#ommissions have the %urisdiction to cease trade a take)over bid where it would be in the public interest to do so, and
that the existence of improper defensive tactics on the part of the target company could constitute an appropriate basis
on which the #ommissions could exercise their cease trade powers & it can be appropriate to consider whether the 14<
of the target has failed to fulfill its fiduciary obligations re deciding a cease trade transaction (regulators have the
authority where it is in the public interest to do so and can use evidence of improper tactics to do that)
6e remedies! only able to cease trade and cannot set aside the agreement (have to go to the court to do that)
6egulators must look at what the implications are to the shareholders of cease trading the bidF & what the hostile bidder
would do if the cease trade was ordered (would they increase bid or change terms to meet concerns of target
shareholders) but #C said they wouldnNt amend or improve bid in any way if the cease trade was ordered & what is the
motivation of #CNs hearingF hey want the competing bid to go away but not willing to make any further inducements
for the shareholders (arguing they should be the only ones on the table b/c the tactics were unacceptable but regulators
not concerned with tactics/fiduciary duties but with implications/interests of the shareholders)
#ease trading has risky conse5uences for the shareholders b/c bid may not go through
$ important points & regulators have less flexibility re remedies than the courts and in the context of a hostile take)over
bid, only concerned with the implications of their decision on the target shareholders (as opposed to whether the
directors have fulfilled their fiduciary duties) i'e' analysis is results)oriented and less interested in the motivations of
directors re defensive tactics (acting in the interests of the target shareholders or in their own self)interest)
NP 62-202
0tarting point for analysis for any contested take)over bid
6ecognition that take)overs play an important role in the economy by acting as a discipline on corporate management
and as a means of reallocating economic resources to their best uses ("'"("))
6ecognition that primary ob%ective of takeover bid provisions is the protection of the bona fide interests of the
shareholders of the target company and a secondary ob%ective is to provide a regulatory framework within which
takeover bids may proceed in an open and even)handed environment so that shareholders of the target company can
make a free and fully informed decision ("'"($))
herefore regulators look at (") whether tactics open up or close doors for opportunities for target shareholders; ($)
whether tactics abusive of target shareholders; (3) whether use is auction promoting or auction limiting
(3) arget company tactics will be examined where they are abusive of shareholder rights & poison pills ($ kinds)
creating flexibility or closing down opportunities for shareholders
(A) enumerated transactions are broad and can capture all tactics
Re Royal Host Real Estate Investment Trust
Facts: #hip E target (investment trust & entity that issues sec to investors)' 6oyal Gost E hostile bidder (investment trust)
made unsolicited offer for #hip (both in hotel business & business synergy motivation)' #hip formed committee which
recommended a poison pill (approved by 14</trustees)' .pplication to cease trade the poison pill' #hip wanted permitted
bid to be open for I> days (time to find an acceptable competing bid)'
Issue: Chether poison pills as defensive tactics are improper'
Ratio:
Poison pills are not inherently improper but there is a point at which it is time for it to go (not improper by definition
but at some time they outlive their usefulness & point is to give time to find likely alternative bids i'e' if stall long
enough the original bidder will walk and takes away decision from the shareholders)
#ourt looks to (") if adopted in advance vs' whether adopted after the pill & if before then shareholders approved it
(goes to the fact that they approved the delay of a take)over bid) and ($) evidence as to whether the 14< is actually
using the time to solicit competing bid (auction)limiting rather than auction)enhancing)
9numerate factors used to determine whether a poison pill should be cease)traded or not
Chether shareholder approval of the rights plan was obtained
Chen the plan was adopted
Chether there is broad shareholder support for the continued operation of the plan
he si7e and complexity of the target company
he other defensive tactics, if any, implemented by the target company
he number of potential, viable offerors
he steps taken by the target company to find an alternative bid or transaction that would be better for the
shareholders
he likelihood that, if given further time, the target company will be able to find a better bid or transaction
he nature of the bid, including whether it is coercive or unfair to the shareholders of the target company
he length of time since the bid was announced and made
he likelihood that the bid will not be extended if the rights plan is not terminated
Chen applied to the facts, effectively some are more important than others (knew they couldnNt put an advance pill in
place b/c wouldnNt be approved therefore didnNt put it before the shareholders but expert evidence that there could have
been a competing bid & compromise b/w what the bidder and target wanted & I> days or cease trade few days after the
hearing & some additional time to find a competing bid but not to the extent they were asking for)
#ompeting bidder did come forward and it was accepted by the target shareholders
Critical Issues in Mergers and Acquisitions Offensive and Defensive Mechanisms (Article)
.c5uiring a oe)Gold
. bidder can purchase shares of a target before announcing, or being re5uired to make, a formal take)over bid'
0ometimes, this offensive techni5ue is referred to as ,ac5uiring a toe)hold-'
.dvantages!
he bidder will be in a better position to achieve its minimum threshold in any subse5uent bid
he toe)hold ac5uisitions may lower the bidderNs overall ac5uisition cost, since most formal take)over bids are
made at a premium to market price while toe)holds can often be ac5uired at market price
:ay afford the bidder a form of ,financial insurance- to cover the bidderNs out)pocket)costs if there is a successful
competing bid'
<isadvantages!
0hares ac5uired by a bidder in advance of making a formal take)over bid cannot be counted in calculating whether
the bidder is entitled to rely on the 8>O compulsory ac5uisition right under applicable #anadian corporate
legislation'
1y accumulating target shares, the potential bidder may inadvertently tip the market about the possibility of a take)
over bid which can lead to a higher trading price for the targetNs stock and make it necessary for the initial take)
over bid offer to be made at a price higher than originally contemplated by the bidder
.ccumulating target shares can also alert potential competing bidders, as well as the targetNs own board of
directors, particularly if there is no li5uid market for the targetNs shares'
If the target has a shareholder rights plan in place, the bidder should review the plan carefully before ac5uiring a
toe)hold, to avoid triggering the poison pill inadvertently'
?ock)Dp .greements
?ock)up agreement & a contract between a bidder and a significant shareholder of the target whereby the bidder agrees
to make a bid on particular terms (including price) and the shareholder agrees to deposit his shares to the bid'
/ives the bidder a significant level of comfort as to the success of the bid
4ppressive & unfairly disregards the interests of minority shareholders
If the target has a shareholder rights plan in place, the bidder should review the plan carefully before entering onto a
lock)up agreement, to avoid triggering the poison pill inadvertently
.greements with arget
(o 0hop #lauses & to induce a potential white knight to negotiate a friendly transaction, a target company may agree to
a no)shop or window)shop clause in a pre)merger agreement with that white knight!
. ,no)shop- provision & provides that, sub%ect to limited exceptions (typically to comply with the directorsN
fiduciary duties), the target company will not encourage, seek, solicit, provide information to or negotiate with
third party bidders
. ,window)shop- clause & allows the seller to respond to unsolicited offers by supplying confidential information
and to consider certain competing bids
1reak fees & it is common for a white knight to demand that the target company pay certain amounts (commonly called
bust)up, breakup, termination, or goodbye fees) if its proposed transaction is not completed as planned'
WC & Partly, the inducement is paid to compensate the bidder being wooed for its time, efforts, costs and lost
opportunity in putting forward the opposing bid; partly the break fee is purely and simply bait to lure another party
into the arena in order to generate a free for)all for the pri7e
Kustification for break fees is that they are sometimes necessary to induce prospective bidders to make ,fully)
priced- bids' Cithout a bust)up fee as a source of compensation, a friendly bidder runs the risk of being a ,mere
stalking horse- for the subse5uent bidders and having to absorb the significant costs of mounting a bid, which
include professional fees, financing commitment fees and other expenses'
<epending upon their amount, break fees may discourage bidding wars because the successful bidder who ac5uires
a company after a break)up fee has been agreed to must indirectly absorb the fee that the target company has
agreed to pay to the unsuccessful bidder' *or this reason, the main issue surrounding break)up fees is their 5uantum
because the higher the fee, the greater the chilling effect on prospective competing bids' #ompeting bidders may
claim that the si7e of the fee sets the competing bids on an uneven level'
In #anada, it is not uncommon for break fees to exceed $O, perhaps because the aggregate transaction values tend
to be smaller in #anada
.sset 4ptions ) the target offers a desired potential bidder (i&e&, a white knight in the context of a hostile take)over) an
option to purchase certain assets of the target as an inducement to enter the bidding
CI# & the granting of an asset option to a potential bidder may be proper where it is done to induce a bidder to
come forward provided that ,it strikes a reasonable commercial balance between its potential negative effect as an
auction inhibitor depressing shareholder value and its potential positive effect as an auction stimulator enhancing
shareholder value'-
reasury 4ptions & another techni5ue available to a bidder wanting to protect its deal with the target from competing
offers is for the bidder to receive stock options from the target company' he stock options permit the friendly bidder to
ac5uire shares of the target, usually at a price e5ual to the friendly bidderNs offer price' hese stock options allow the
white knight to benefit economically from any higher competing offer, by exercising the option and tendering its shares
to the competing bid
(egotiating away the poison & when the target company has a shareholder rights plan, it is customary for the pre)
merger agreement to re5uire the target company waive or redeem the plan in respect of the white knightNs offer'
.lternatively, the redemption or waiver of the rights plan may be a condition precedent to executing a pre)merger
agreement' :ost shareholder rights plans provide that ,a waiver for one is a waiver for all-' In other words, if the target
company waives the pill to facilitate one bidder, it must do the same for all other bidders
SECURITIES LAW ENFORCEMENT
9nforcement is a central part of the 40#Ns mandate and takes up a material share of their time and resources
FORMS OF ENFORCEMENT ACTION
Chen securities laws are, enforcement actions can be one or more of A forms!
#riminal #ode prosecution for certain specific violations
@uasi)criminal prosecution
.dministrative enforcement action
#ivil court proceeding
.lthough only one of these avenues of enforcement involves a hearing before the 40#, the 40# plays a critical
+gatekeeping+ and 5uasi)+ prosecutorial+ role with respect to the other enforcement channels
here are also securities law provisions authori7ing investigations and examinations into possible infractions, including
measures for interprovincial reciprocal enforcement and assistance
4ther bodies that play a role in policing the markets & stock exchanges or other recogni7ed self)regulatory
organi7ations, such as the Investment <ealers .ssociation of #anada
he 40. also provides certain civil remedies that are in addition to any remedies that might otherwise be available at
common law, which may be pursued by private plaintiffs who have been harmed by particular securities law infractions
9'g' most important of these statutory civil remedies are found in s' "3> (civil liability for misrepresentations in a
prospectus), s' "3>'" (liability for misrepresentations in an offering memorandum), s' "3" (liability for
misrepresentations in a take)over bid circular, an issuer bid circular, or a director2s circular), s' "33 (liability for
nondelivery of a re5uired prospectus or bid document), and s' "3A (liability for certain insider)trading violations)
Criminal/Quasi-criminal Provisions
@uestion of the public interest power of the #ommission
4ptions available when there has been a breach of sec law
#riminal #ode & hardly ever any charges laid but there are provisions p' 3AI)3AB (material false statement with intent
to induceTs' A>>; wash sales & buy and sell to give the impression of activity) & carry much more severe penalties but
high threshold of proof and involve enforcers outside the sec regulators, who are less familiar with sec issues
1ill p' H$8 & add offence of insider trading in the #riminal #ode in order to indicate the seriousness of the infraction
6eaction of regulators to the addition (handout) & language that describes the offence ),knowingly using inside
information-) will render it difficult to prosecute therefore want to change to ,making use of inside information- in
order to lower the burden of proving the offence
s' "$$ more likely to be used rather than the #ode & 5uasi)criminal section
(")(a) & misleading or untrue statements to the 40#
(")(b) & docs that are submitted (re5uired under sec law) that have a misrepresentation
(")(c) & general offence of contravening 4( sec law
o a,b,c & guilty of an offence and liable for fine of less than JH: or less than H years imprisonment
($) & but due diligence offence re preparation of items in a,b
(3)
(A) & insider trading & fine E JH: or triple to the profit/loss avoided
(ew s' "$I (proposed) & signals that there should be a specific provision against fraud and market manipulation in the
.ct (%ust like adding insider trading offence into the #ode signals the importance of that offence)
1ut not attached to a specific sanction (unlike s' "$$) & not sure as to how to handle it yet therefore not in effect yet
1) Criminal Code
I #riminal #ode provisions that describe offences that relate to trading in securities!
"' :ost important & s' A>> provides that it is an indictable offence to engage in the following activities!
Qmake, circulate, or publishR a prospectus, a statement or an account, whether written or oral, Qknown to beR false in
a material particular with intent!
(a) to induce persons, whether ascertained or not, to become shareholders or partners in a company,
(b) to deceive or defraud the members, shareholders or creditors, whether ascertained or not, of a company, or
(c) to induce any person to
i' entrust or advance anything to a company, or
ii' enter into any security for the benefit of a company
a person convicted under s' A>> is liable to a maximum penalty of "> years imprisonment
$' 0ection 3M>($) & ,Q.ffectingR the public market price of stocks, QorR shares+ +by deceit, falsehood or other fraudulent
means ''' with intent to defraud-
3' 0ection 3M" & using the mails ,for the purpose of transmitting'''circulars concerning schemes devised or intended to
deceive or defraud the public, or for the purpose of obtaining money under false pretences-
A' 0ection 3M$ & manipulating the price of traded securities through devices known collo5uially as matched orders and
wash sales
H' 0ection 3M3(") & committing certain acts +with intent to make gain or profit by the rise or fall in price of the stock of
an incorporated or unincorporated company+ but without the intention of actually ac5uiring or selling, as the case may
be, such shares
I' 0ection 3MA, 6eg' s' AB & selling shares (in the case of a broker who holds shares purchased on margin for a
customer) in the same issuer from his or her (that is the broker2s) own account where that sale intentionally reduces the
amount of such shares that the broker ought to be carrying for all of his or her customers
#onstitutional law issue & these provisions were in place before the complex securities laws and well)funded provincial
securities regulatory authorities therefore there is the existence of both federal and provincial legislation in this area &
b/c many of the actions prohibited by the #riminal #ode, also constitute offences under provincial securities statutes,
are the relevant provincial or federal legislative provisions ultra vires the respective legislature that purports to enact
themF
6' v' 0mith (0##) & the court determined that there was ,no repugnancy- b/w Qnow s' A>> of the #odeR and Q now
s' "$$ of the 40.R & they could continue to co)exist because the provincial provision was not one ,the pith and
substance of which is to prohibit an act with penal conse5uences- (the main purpose of the provincial enactment
was ,to ensure the registration of persons and companies before they are permitted to trade in securities, coupled
with what is essentially the registration of the securities themselves- and the prohibition and penal conse5uences of
the 40. section were ,merely incidental-) therefore s' "$$ did not constitute criminal law and so did not encroach
on a matter of exclusive federal legislative authority
2) Quasi-criminal Prosecution
a) Offences
s' "$$(") creates specific securities law offences! (a) and (b) include false, misleading, or incomplete information in
various disclosure documents or in submissions to securities regulators and (c) is a catch)all offence committed
whenever a person or company +contravenes 4ntario securities law'+
4n conviction, the guilty party is normally liable to a maximum fine of J" million, or a term of imprisonment of two
years, or both but if the breach is a violation of s' BI (unlawful insider trading) then the maximum fine can exceed J"
million which prohibits unlawful insider trading (s' "$$(A))
hese are 5uasi)criminal offences tried before a %udge, but a prosecution under section "$$ cannot be commenced
unless the 40# consents (s' "$$(B)) and once the 40# consents, 40# staff assist in the prosecution function
Prosecutors bear the burden of proving their case +beyond a reasonable doubt+ (b/c punishments involve
fines/imprisonment)
b) Unlawful Insider Trading
0pecial fines may be imposed when a person or company is convicted of engaging in unlawful insider trading
Dnlawful insider trading can generate significant ill)gotten gains and regulators may find sophisticated unlawful
insider)trading activities difficult both to detect and to prosecute successfully (high potential gains for violators and low
probability of detection) therefore additional insider)trading penalties
. person or company convicted of insider trading (contrary to s' BI) is liable to a fine that is not limited to J"million,
but that can be as great as ,an amount e5ual to triple the profit made or loss avoided ''' by reason of the contravention-
(s' "$$(A)(b))
,profit made- and ,loss avoided- defined (s' "$$(I))
he provision refers to a fine and not ,treble damages- (D0 regulatory statutes) but statutory civil liability for unlawful
insider trading (s' "3A)
he civil damages to which a guilty party is exposed are not a multiple of the profit made or losses avoided by that
person, but rather are based on the actual losses incurred by the innocent party to the offending trade
Chere an +insider, affiliate or associate+ of a reporting issuer carries out a wrongful trading in the securities of that
issuer, the trader is also liable to account to the issuer itself (s' "3A(A))
3) Administrative Enforcement Action
Enforcement Orders - Scope of s. 127
:ust be in the public interest to make the order & nature of the public interestF
0pecific orders!
"' :arket participants & brokers, analysts, investment dealers (market professionals who must be registered
$' :ost common & cease trading power
o problem is that it is a blunt instrument b/c no one can trade (,innocent shareholders- who are finding out about
managementNs violations at the same time as the regulators and may want to sell their shares and rid
themselves of the issuer)
o thinking of fine)tuning it such that it only applies to management of the issuer
o 40# (P HB)I>3
o #0. HB)3>" & when it is appropriate to issue a management cease trade order (e'g' when there is a failure to
file *0 on time) & allows sec generally to continue to be traded
o #ease trade order vs' 3'
3' 9limination of exemptions
o denial of exemptions used to impose a ceasation of trading of specific individuals
o default obligation is that you must be registered in order to trade but exemption when use registrant (if take
away that exemption then re)imposing registration re5uirement & and unlikely for commission to register
them)
A' argeted at market professionals
H' 4rder for compliance (like s' "$M power for an order) & grounds relate to documents re5uired to be filed (if
issuer insisted that its prospectus be filed but not in compliance with the rules)R
I,B,M' 4rder to be reprimanded, resign, prohibited from acting as director or officer of issuer & imposed directly on
officers and directors
o 0upposed to be used prospectively & used to regulate and protect the capital markets rather than used to punish
people for violations (that is the courtNs %ob)
o 6eprimanding & blurring distinction b/w administrative powers and criminal sanctions; is this to prevent their
sanctionable behaviour in the future (future)oriented purpose) or punishing for the past (find the behaviour
reprehensible)
o ,person or company- & can reprimanding be used against sec lawyersF 9'g' Cilder in U1: (preparation of
disclosure documents and liaison b/w U1: and sec commission re re5uests for further information and
responses by U1: to those re5uests) & sec commission shouldnNt have the ability to sanction lawyers (s' "$B
not broad enough to capture professionals b/c considered an express power to do so and it was dropped
therefore not intended) but re%ected b/c section doesnNt restrict lawyers but lawyers can be sanction in other
ways than reprimanding!
whistle)blowing rule in the D0 & lawyers must tell on their clients that they have provided advice and the
client isnNt using
lawyers must do this up the ladder informing in #anada but only within the issuer & but client)
confidentiality
8' .dministrative penalty
o :L( said they donNt have this power but this is out of date & received it b/c regulators need it to be able to be
effective and other provinces have had it for a number of years
o 1lurring distinction b/w regulators vs' courts & what is the difference b/w administrative penalty and a fineF &
e'g' more procedural protections e'g' defences re fines
o 1efore this power they would enter into monetary settlements
o :oney is used to improve investor education resources & prevent fraud, market wrong)doing, etc'
">' <isgorgement
(A) :ust conduct a hearing in order for someone to make arguments b/c significant powers
s' "$B'" & allows regulators to order the person or company to pay the costs of the investigation (principle & cost
recovery but argument that this is going too far b/c they know that no matter what happens, someone else will pay for it
e'g' <inini re insider trading)
Chat sorts of behaviour triggers a s' "$B hearingF Chen is it in the public interest to make a s' "$B orderF <efinition of
public interest doesnNt re5uire a specific breach in order to find that the public interest %urisdiction is available
a) Introduction
he 40# has the authority under s' "$B of the 40. to make various orders in the public interest
4rders under section "$B may provide, among other things, for the following!
0uspension or termination of registration or recognition under securities law or imposition of conditions in respect
of such a registration or recognition
#essation of all trading in a specific security (a +cease trade order+)
6emoval of exemptions otherwise provided for by securities law
. review of a market participant2s practices
6elief from provision or amendment of certain disclosure documents by a market participant
6eprimand of a person or company
*orced resignation of a person as an officer or director of an issuer, or prohibition against a person becoming an
officer or director of an issuer
Power to fine & power to impose fines/administrative penalties
he 40# may make an order under section "$B of the 40. only after a hearing (s' "$B(A))
Power to 6eprimand .ny Person or #ompany! he 40#2s enforcement power is not limited to registrants under the
40. or even to market participants (s' "(")), but rather extends to any ,person or company-
Preventive vs' 6emedial! he 40#2s public interest %urisdiction allows it to act only to prevent future abuses, not to
punish past conduct
.ctions riggering the #ommission2s Public Interest <iscretion! he 40# has, from time to time, purported to exercise
its public interest %urisdiction to prevent actions it perceives to be abusive, even where the letter of the law has not been
violated
he 1luntness of the #ease rade 4rder! (ot infre5uently, a cease trade order can actually harm the very people
(public investors) that the 40# is seeking to protect
.ppropriate 0tandard of Kudicial 6eview! #ourts have shown the 40# considerable deference by adopting an
intermediate standard of %udicial review when a decision of the 40# has been appealed
9nforcement of #ommission <ecisions! 40# decisions can become enforceable as orders

b) Power to Fine
he 40# has the authority to impose fines pursuant to s' "$B and to make an award of costs in respect of any hearing or
investigation (prior to the power to fine the 40# adopted the practice, in certain cases, of negotiating substantial
settlement payments in some high)profile s' "$B cases)
s' "$B'" authority for the 40# to make costs awards & broad, and permits the 40# to make an order for costs following
a hearing, even if a person or company was not found to be in breach of securities law, provided that the 40# considers
that such person or company ,has not acted in the public interest- (s' "$B'"($)(b))
.dministrative penalties & it has been argued that they ought to be regarded as penal, rather than administrative, in
nature (b/c individuals sub%ect to such sanctions ought to en%oy the protections afforded by s' "" of the #harter (the 1#
0upreme #ourt re%ected this argument) (*ohnson v& +C)
c) Power to Reprimand Any Person or Company
Dnder the 40. the word ,person- does not include incorporated entities (s' "(")) & instead it uses the term ,company-
therefore the phrase ,person or company- occurs throughout the 40. whenever a provision is intended to apply not
only to individuals, but also to associations of all sorts ) incorporated or otherwise
his phrase appears in s' "$B(")I & seems uncontentious to conclude that the 40# has the authority to reprimand
anyone when it appears to be in the public interest to do so
Interpretation was challenged Cilder v' 4ntario & the 40# sought to hold a hearing pursuant to s' "$B to determine
whether certain statements made to the 40# by a lawyer in the course of representing a client were misleading,
untrue, or incomplete, and if appropriate based on such determination, to determine whether or not to reprimand
the lawyer'
he lawyer challenged the 40#2s %urisdiction to conduct such a hearing, making the following three arguments!
o "' he allegations against him fell s5uarely within the wording of section "$$, but by choosing to proceed
under section "$B, rather than pursuing the matter in the courts under section "$$, the 40# denied the
applicant certain procedural advantages (including the benefit of the criminal burden of proof)
o $' . reprimand is punitive in nature and therefore beyond the powers of the 40#, which has only a remedial
%urisdiction
o 3' 4nly the ?aw 0ociety of Dpper #anada, the governing body of the 4ntario legal profession, ought to have
the authority to discipline 4ntario lawyers acting in the course of their professional practices
hese arguments were re%ected
In "88>, the 40# proposed a set of amendments to the enforcement provisions of the 40., including one that would
give the 40# the power ,QtRo order a private or public reprimand of a person (including a lawyer ''') for misconduct in
the marketplace, either with or without further sanctions attached- and in "88", new draft proposed amendments were
published, which included provisions that would have empowered the 40# to discipline ,a professional person or
company acting in a professional capacity- where such person or company ,has counseled a breach of the securities
law, assisted in conduct which constitutes a breach of the securities law, or provided an opinion, advice or information
to the #ommission or its staff which is deceptive or misleading- but members of the practising bar ob%ected to the
proposal to grant the 40# such disciplinary powers' Chen the enforcement provisions of the 40. were finally
amended in "88A, the amendments made no specific reference to the 40#2s power to reprimand ,professional persons-
therefore many assumed that the 40# had relented in its pursuit for the power to discipline professionals (they appear
to have been mistaken)
Cilder decision & court re%ected the argument that the legislature2s failure to include specific reference to professionals
meant that the words ,person or company- were to be read as though they excluded professionals
d) Preventive or Remedial Power?
he 40# interprets its power under s' "$B as remedial, rather than punitive'
It is the role of the courts to punish past conduct & the role of the 40# is to try to restrain future conduct that is likely to
be pre%udicial to the public interest in having capital markets that are both fair and efficient (Re :ithras :anagement
/td&)
In Committee !or E7ual Treatment o! Asbestos :inorit# Shareholders v& Ontario 5Se$urities Commission) , the 0##
agreed with this limitation on the 40#2s powers!
s' "$B(") gives the 40# the %urisdiction and a broad discretion to intervene in 4ntario capital markets if it is in the
public interest to do so but that discretion is not unlimited
In exercising its discretion, the 40# should consider the protection of investors and the efficiency of, and public
confidence in, capital markets generally
s' "$B(") is a regulatory provision & the sanctions are preventive in nature and prospective in orientation therefore
it cannot be used merely to remedy 0ecurities .ct misconduct alleged to have caused harm or damages to private
parties or individuals
1/c the 40# has no remedial power it would be improper for the 40# to make an order against a person or company,
no matter how abusive such person or company2s actions were, unless making such an order would prevent future
abuses
.sbestos 0hareholders case & held that certain actions of the @uebec /overnment and the 0ociete nationale de
l2amiante were ,abusive of minority shareholders and were manifestly unfair- but declined to make a s' "$B order
b/c concerned whether the impugned actions had a sufficient connection to 4ntario & the 40#2s public interest
%urisdiction cannot be exercised to punish wrongdoers for past abuses' It can be invoked only if it is necessary to
prevent future harm to 4ntario2s capital markets
e) Actions Triggering the OSC's 1urisdiction
he 40# has the authority to make an order under s' "$B where there has been no breach of securities law
Re Cable$asting /td& & 40# held that it has the authority to issue a cease trade order to stop a proposed transaction that
violated no law, but that nevertheless contravened the ,intent- of securities regulation
his was reiterated in Re Canadian Tire Corp& & (") there is nothing in s' "$B that specifically makes the 40#2s
granting of an order under that section conditional on a finding of a breach of the law and ($) as a matter of policy, the
40# could be severely constrained from fulfilling its mandate to prevent market abuses if it were not permitted to act
until the letter of the law was contravened & therefore the 40# will act when securities laws or policies have been
breached, as well as when the ,animating principles- of securities regulation are violated (however, in the absence of an
actual contravention of securities law or policy, it must ,proceed with caution-)
he difficulty of a regime in which action may be taken for violations of the +spirit+ of a law is that it brings uncertainty
to the law but the 40#2s discretion, although broad, is by no means unlimited
f) The Bluntness of the Cease-Trade Order
#ease)trade order & an order forbidding the trading in securities of an issuer (s' "$B(")$)
Problem & it can be a very imprecise enforcement weapon b/c when an issuer is in default of its obligations under
securities laws and regulators may a cease)trade order in an effort to compel the issuer to bring itself into compliance,
the immediate effects of such a cease)trade order are felt, not by the issuer, but by the holders of the securities that have
been cease)traded who become unable to deal with their interests (unfortunate and paradoxical outcome b/c the goal of
the regulators is to help investors, not hurt them)
he 40# has tried to address the matter by introducing the concept of a ,:anagement and Insider #ease rade 4rder-
(40# Policy HB)I>3) & where an issuer has failed to file certain financial statements as re5uired by the 40., a cease)
trade order can be issued to affect only the securities of the defaulting issuer held by specified managers and insiders &
this would be the only cease)trade order issued, provided the issuer remedies the default within two months and
publishes information in compliance with the ,.lternative Information /uidelines- during the period of default
g) Appropriate Standard of 1udicial Review
*inal decisions of the 40# may generally be appealed to the 4ntario <ivisional #ourt (s' 8("))
he 40# is an administrative tribunal and therefore appeals of 40# decisions must be considered in light of the
applicable principles of administrative law
Proper standard of review a court must apply when reviewing a tribunal decision & courts have shown considerable
deference to such 40# decisions on appeal and have held that the appropriate standard of %udicial review for 40#
decisions on issues relating to its speciali7ed expertise is that of ,reasonableness- (unless the court finds the 40#2s
decision on such a matter unreasonable, it will not be overturned & the court need not agree with the correctness of the
40#2s decision)! ,it cannot be contested that the 40# is a speciali7ed tribunal with a wide discretion to intervene in the
public interest and that the protection of the public interest is a matter falling within the core of the 40#2s expertise'
herefore, although there is no privative clause shielding decisions of the 40# from review by the courts, that body2s
relative expertise in the regulation of the capital markets, the purpose of the .ct as a whole and s' "$B(") in particular,
and the nature of the problem before the 40#, all militate in favour of a high degree of curial deference' Gowever, as
there is a statutory right of appeal from the decision of the 40# to the courts, when this factor is considered with all the
other factors, an intermediate standard of review is indicated' .ccordingly, the standard of review in this case is one of
reasonableness- (Asbestos)
his standard of review is not necessarily applicable when the 40# renders decisions outside of its area of expertise &
the standard of review is the more demanding ,correctness- standard (Coughlan)
h) Enforcement of Commission Decisions
.lthough the 40# is not a court, decisions of the 40# may be filed with, and thereby become enforceable as orders of,
the 0uperior #ourt of Kustice (s' "H")
Re Canadian Tire Corporation (#ommissionNs interpretation of its own power to use the public interest power)
Facts:
*amily that controls #
1idder wanted to buy the familyNs control in "8MI
"8M3 & family ac5uired control (3>O to give I>O) and to finance it they created a non)voting class of common shares
(#lass .) and attached coattail provision to the . shares (should there be a bid, the . shares would convert to common
shares & they can therefore secure the familyNs control position)
"8MH & family starts fighting and therefore want to sell their control and dealers want to buy but coattail provision & if
bid made for ma%ority of the common shares, the . will convert to voting shares
0tructure bid so buy A8O of the outstanding common shares therefore donNt trigger coattail but pay family a A>>O
premium over the market price of the shares
Ratio:
#ommission cease)traded the bid
#ontext of coattail and purpose designed to serve
People need certainty and would think sec law would provide this & certainty of the S
#ontent of the public interest is an issue the deleterious effects of a structure of a transaction on the market
confidence & it was an abuse of the capital markets
.busive transaction that affects some shareholders and public confidence & goes beyond unfair (but no way of
measuring public confidence & can look at share price for issuer confidence but how tell when public confidence
e'g' if whole market is down)
Asbestos Minority Shareholders v. OSC
Facts: In "8BB, the @uebec /overnment decided to take control of .sbestos #orp', a leading asbestos producer in the
province (wanted to get in the business of promoting asbestos manufacturing in the province)' 3>O of the common shares
were held by minority shareholders resident in 4ntario while /< #anada, a subsidiary of an .merican company, held the
controlling interest' @uebec incorporated the 0(. a #rown corporation wholly owned by the province to get control' In
"8M", @uebec reached an agreement with the .merican company pursuant to which 0(. would ac5uire voting control of
/< #anada and, therefore, indirect control of .sbestos' <espite statements made in previous years by the @uebec :inister
of *inance suggesting the prospect of a follow)up offer to the minority shareholders of .sbestos (prior to private agreement
exemption & used to make whatever offer want but must make follow)up offer to minority shareholders), @uebec announced
that it did not intend to make such an offer' In response to that announcement, the shares of .sbestos fell to a four)year low
(set up new class of shares of /< that the 0(. could buy and agreement b/w 0(. and /< D0 (put and call agreement &
after time, could buy the shares) so that /< D0 would allow for a tax)deferral of the gains from the transaction' :inority
shareholders of /< annoyed by being shut out and agreement causes share price to fall)' *ive years later, 0(. purchased
the remaining common shares of /< #anada' he appellant sought redress pursuant to s' "$B of the 4ntario 0ecurities .ct
(then s' "$A), specifically for an order removing @uebec2s and 0(.2s trading exemptions' he 40# determined that the
transaction was not a take)over bid and this finding was not appealed' 9ven though the 40# found that the actions of the
@uebec /overnment and 0(. were abusive of the minority shareholders of .sbestos and were manifestly unfair to them,
the 40# declined to exercise its public interest %urisdiction under s' "$B("), para' 3, and take away @uebec2s trading
exemption in the 4ntario capital markets' he <ivisional #ourt set aside the decision, holding that the 40# had erred by
imposing two %urisdictional prere5uisites to its s' "$B("), para' 3 %urisdiction! a +transactional connection+ with 4ntario and
a conscious motive to avoid the takeover laws in 4ntario' he #ourt of .ppeal reinstated the 40#2s decision
Ratio:
Cas there a follow)up offer re5uired b/c it was a take)overF (no indirect offer provision then) & no
he 40# panel held that the transaction was not a take)over bid, nor a deemed take)over bid, under the .ct' hus,
the transaction was not a breach of the .ct and no follow)up offer was re5uired under its express provisions or the
regulations thereunder (this finding was not appealed)
0hould they exercise their cease trading power b/c there was an infringement against the public interestF
he 40# noted that it does not need to find a breach of the .ct or of the regulations thereunder in order to exercise
its s' "$B %urisdiction but that it should be cautious in exercising its s' "$B %urisdiction, and should not use its open)
ended nature to correct perceived abuses regardless of a connection with 4ntario'
he 40# considered A factors!
o (i) whether the transaction had been designed to avoid the animating principles behind the legislation and the
rules respecting take)over bids,
o (ii) whether the transaction was manifestly unfair to public minority shareholders,
o (iii) whether there was a sufficient nexus with 4ntario to warrant the 40#2s intervention, or whether the
transaction was structured to make an 4ntario transaction appear to be a non)4ntario one, and
o (iv) whether the transaction was abusive of the integrity of the capital markets in the province
<espite moral argument (previous statement that would provide offer to minority shareholders) there
wasnNt a sufficient nexus to 4( %urisdiction and transaction not structured to be abusive
3 issues on appeal!
"' Chat is the nature and scope of s' "$B %urisdiction to intervene in the public interestF
o ?inks public interest %urisdiction to all of the sec law ob%ectives (see how the statute determines what the
public interest is)
he public interest %urisdiction of the 40# is not unlimited' Its precise nature and scope should be
assessed by considering s' "$B in context' wo aspects of the public interest %urisdiction are of particular
importance in this regard' *irst, it is important to keep in mind that the 40#2s public interest %urisdiction
is animated in part by both of the purposes of the .ct described in s' "'", namely +to provide protection to
investors from unfair, improper or fraudulent practices+ and +to foster fair and efficient capital markets
and confidence in capital markets+' herefore, in considering an order in the public interest, it is an error
to focus only on the fair treatment of investors' he effect of an intervention in the public interest on
capital market efficiencies and public confidence in the capital markets should also be considered & but
cases after this decision still focus only on investor protection
o Public interest order should be preventive rather than punitive
s' "$B is a regulatory provision & the purpose of the #ommission2s public interest %urisdiction is neither
remedial nor punitive; it is protective and preventive, intended to be exercised to prevent likely future
harm to 4ntario2s capital markets & this is consistent with the ob%ective of regulatory legislation in
general' he focus of regulatory law is on the protection of societal interests, not punishment of an
individual2s moral faults
regulatory & neither remedial nor punitive and for prevention of future harm (only if necessary to regulate
capital markets in a future)oriented way and not to sanction wrong)doers & that is for courts to do) but
hard to draw line & only way can predict future is to analy7e the past
$' Chat is the appropriate standard of reviewF
o ?evel of deference & expertise but no privative clause therefore standard is reasonableness
3' <id the 40# make a reviewable errorF
o he 40# placed significant emphasis on the transactional connection factor but it was entitled to do so in
order to avoid using the open)ended nature of s' "$B powers as a means to police too broadly out)of)province
transactions' #apital markets and securities transactions are becoming increasingly international and there are
overlapping regulatory %urisdictions governing securities transactions' 4ne of the fundamental principles that
the 40# has to consider is that the integration of capital markets is supported and promoted by the sound and
responsible harmoni7ation and co)ordination of securities regulation regimes (s' $'"(H))' . transaction that is
contrary to the policy of the 4ntario 0ecurities .ct may be acceptable under another regulatory regime' hus,
the 40#2s insistence on a more clear and direct connection with 4ntario in this case reflects a sound and
responsible approach to long)arm regulation and the potential for conflict amongst the different regulatory
regimes that govern the capital markets in the global economy'
4) Civil Court Proceedings
(ot shareholder suits but the 40# bringing application to court for an order for compliance
s' "$M & application that isnNt complying with sec law and (3) lists remedial powers of the court (e'g' if made an order
under s' "$B and didnNt comply)
s' "$M hardly ever exercised by the regulators therefore little practical importance (time delays in applying and politics
i'e' donNt want the courtNs ,help-)
s' "3H derivative action on behalf of an issuer that has been damaged re insider trading context & if the issuer doesnNt
take such an action against the insider trader then the 40# can launch the action on behalf of the issuer
?imit & 40# must believe that the issuer has a cause of action
#ompany wonNt do it themselves b/c the people who decide to launch the action are the same people who have
likely engaged in the insider trading
(ot in the same part as s' "$M therefore different limitation periods apply
Part ==II & attracts s' "$8 limitation period
Part ==III & attracts s' "3M limitation period
a) Introduction
In addition to the 40#2s own fairly limited administrative sanctions and the 5uasi)criminal enforcement mechanism for
which it essentially acts as a gatekeeper, the 40# has the power under the 40. to apply to the 4ntario 0uperior #ourt
for a declaration and a conse5uent remedial order in cases of securities law violations (s' "$M) & the court has broad
remedial powers under s' "$M and is free to exercise those powers to make any order, notwithstanding any penalties or
administrative sanctions already imposed under ss' "$$ and "$B for the same violations
s' "$M lists "I orders that a court is authori7ed to make (but the list is not exhaustive) (s' "$M(3)) & e'g' the court can
order a person or company to pay compensation, make restitution, (s' "$M(3)("3) and pay general or punitive damages
(s' "$M(3)"A)
he 40# must determine whether or not to seek an order that an issuer is not in compliance with the 40. & an
individual investor cannot
1reach of the 40., unless specifically provided, does not entitle individuals to a private right of action (Stern)
b) Actions on Behalf of an Issuer
Chen a person in a special relationship with a reporting issuer violates the 40.2s insider)trading prohibitions, that
person, among other things, is accountable to the reporting issuer (s' "3A(A))
here are similar remedies available when persons or companies improperly make use of special information
concerning the investment program of a mutual fund or portfolio manager (s' "3A(3))
he problem with statutory civil remedies is that the onus is on the issuer to bring the action but the insider (or insiders)
who breached the prohibitions may be the same corporate officers or directors who normally decide whether to
authori7e the issuer to commence legal proceedings (therefore derivative actions are allowed pursuant to corporate
statutes)
he 40. provides for a derivative)type action to assist in the enforcement of claims under ss' "3A(3) and "3A(A)!
0ection "3H & where a reporting issuer or mutual fund has a cause of action under s' "3A, but does not pursue it, the
40#, or any securityholder of the reporting issuer or mutual fund, may apply to the court for an order permitting
the 40# or the securityholder to commence or continue the action
5) Limitation Period
0ection "$8'" & six)year limitation period from the date of the occurrence of the last event on which the proceeding is
based for the commencement of enforcement proceedings
1efore "88A amendment & the limitation period began to run from the date on which ,the facts upon which the
proceedings are based first came to the knowledge of the #ommission-, which gave rise to interpretation 5uestions
0ection "$8'" is a default provision that applies only in the absence of specific limitation periods provided for
elsewhere in the statute e'g' s' "3M (provides shorter limitation periods for the 40.2s statutory civil remedies) and s'
"3I (provides shorter limitation periods for actions that seek the rescission of certain contracts)
6) Investigations, Examinations, and Interim Property Preservation Orders
<etermining whether there are grounds for investigation
s' "" & accounts for the fact that sec law is provincial; broad re kinds of information that can be gathered; accompanied
by s' "3 & compelling testimony
s' "M (in connection with s' "3) & if the investigators have to decide whether to compel testimony b/c they have to
proceed by s' "$B enforcement order or to launch a 5c action they (re 5c canNt use some of the testimony already
gathered)
a) Power to Order
40# has broad powers to order investigations (s' "") and narrower powers to order financial examinations of market
participants (s' "$) to further the 40#2s mandate to regulate capital markets and enforce compliance with securities
laws
he power to order both an investigation and an examination may be exercised, not only to enforce 4ntario securities
law, but also ,to assist in the due administration of the securities laws or the regulation of the capital markets in another
%urisdiction- (ss' ""(")(b), "$(")(b))
40# also has the power to issue a direction to any person or company re5uiring that person or company to retain and
hold ,funds, securities or property of any person or company- (s' "$I)
b) Charter Implications
Persons carrying out such an investigation or examination have broad powers & e'g' the power to summon witnesses
and to compel them to testify under oath (s' "3), which is a controversial power
+C Se$urities Commission v& +ran$h & 0## considered a provision in the 1#0. similar to s' "3 of the 40., and
re%ected the argument that the provision offended sections B and M of the #harter
o #ourt 5uoted (e%im v& +ritish Columbia & the ,protective role- of securities commissions ,gives a special
character to such bodies which must be recogni7ed when assessing the way in which their functions are carried
out under their .cts-
o #ourt held that the purpose of the 1#0. ,%ustifies in5uiries of limited scope- that serve ,an obvious social
utility- and necessarily involve compelling testimony
o 1/c the testimony is not elicited for the purposes of incriminating the deponents and the individuals would be
entitled to claim evidentiary immunity (i'e', to ensure that any evidence taken is not subse5uently used against
them), the court concluded that the provision did not violate section B of the #harter
o 0ection M of the #harter & the court noted that what is an ,unreasonable- search or sei7ure depends on the
context and cited with approval Thomson Ne1spapers /td&! ,the degree of privacy the citi7en can reasonably
expect may vary significantly depending on the activity that brings him or her into contact with the state- &
applying this principle to the securities arena, the court asserted that ,persons involved in the business of
trading securities do not have a high expectation of privacy with respect to regulatory needs that have been
generally expressed in securities legislation-
o his low expectation of privacy, coupled with the relatively unobtrusive method of demand for production
contemplated by the 1#0. and the nature of the documents to be produced (i'e', business, rather than personal
documents) satisfied the ma%ority of the court that the provisions do not contravene section M of the #harter
c) Confidentiality of Information
4rders made under s' "" or s' "$ are confidential and can be disclosed only as permitted under s' "B (s' "I)
.ll information ac5uired pursuant to s' "3, including the name of anyone examined, is not to be disclosed
hese s' "I restrictions apply to everyone with knowledge of an order made under s' "" or s' "$, or of an examination
conducted under s' "3, including the 40# itself
0ection "B exceptions to these prohibitions against disclosure & e'g' permit a court, in the context of a prosecution
initiated by the 40#, to compel production to enable a defendant to make a full answer and defence (s' "B(H)); a person
conducting an investigation or examination under the 40. is permitted to disclose or produce information for the
purpose of conducting the examination, or for the purpose of a proceeding initiated by the 40# (s' "B(I))
s' "B is concerned with the circumstances under which the 40# can authori7e the disclosure of information when the
40# considers +that it would be in the public interest+ to do so
+is$otti v& Ontario Se$urities Commission & #. considered the principles that ought to guide the 40# in determining
whether to disclose information ac5uired pursuant to an 40#)ordered investigation (decided prior to the statutory
amendments that added ss' "I and "B, which is essentially a codification of the prior law)
Coughlan v& W:C nternational /td& & court overturned the 40#2s decision to permit certain transcripts and other
documents produced in connection with a s' "3 investigation to be disclosed to a third party, Cestminer, who was a
defendant to a civil action commenced in another %urisdiction ((ova 0cotia) and argued that the information was
relevant to its defence of that action
he investigation began with a failed (ova 0cotia gold mining company
Cestminer had ac5uired control of the company by way of a hostile take)over bid in "8MM and subse5uently
discovered that the company did not possess valuable gold reserves and so alleged that the former #94 (#oughlan)
had made misrepresentations about the firm & the 40# conducted an investigation that included examining
#oughlan under oath
Cestminer sued #oughlan (and others) in 4ntario
#oughlan sued Cestminer in (ova 0cotia, alleging conspiracy to in%ure
#oughlan2s (ova 0cotia action succeeded & the court held that #oughlan had acted honestly and in good faith, and
had not breached the 40.'
#oughlan attempted to form and finance a new company but when the underwriter engaged to help finance the new
company learned of the pending 4ntario action against #oughlan, it withdrew & the new company then collapsed,
and certain guarantors of the company2s debts were re5uired to honour their guarantees
he guarantors brought the (ova 0cotia action against Cestminer that then prompted Cestminer to seek disclosure
of the evidence previously furnished by #oughlan to the 40#
In ruling that the 40#2s decision to permit such disclosure was unreasonable, the court noted (") that the public
interest in maintaining the confidentiality of such information did not end when the 40#2s investigation ended or
when the limitation period under the 40. for commencing proceedings had elapsed (they were relevant factors in
considering the issue of whether disclosure is in the public interest but they were not determinative) and ($) the
40# gave #oughlan express assurances of confidentiality (although the 40# is not bound in law to honour such
assurances, they ought not to be ,simply dismissed out of hand as not binding- and although the 40# ,was not
bound by the doctrine of legitimate expectations to exercise its discretion in a particular way,- it ought to have
taken the doctrine into account
#ourt was critical of the 40#2s procedure for disclosure & the 40# ought to have inspected the material to be
disclosed to determine whether only part of the material obtained would need to be disclosed, given the specific
policy reason being invoked to %ustify the disclosure
d) Costs
he 40# has the authority, following a hearing on a matter, to order a person or company who was the sub%ect of an
investigation to pay the costs of the investigation (s' "$B'")
STOCK EXCHANGES AND SROs
he 40# plays the primary role in the enforcement of securities laws
0ecurities exchanges (recogni7ed under s' $"(")) such as the 09 and self)regulatory organi7ations (who must apply
under s' $"'" to be recogni7ed) such as the I<. and :arket 6egulation 0ervices Inc' (60 Inc'), also police their
members and others
09 & regulates the conduct of companies whose securities are listed on the 09 and participating organi7ations (i'e',
the securities firms that have access to the 09 trading system) with $ enforcement tools!
0uspension of trading and delisting of an issuer2s securities & the criteria are set out in the 09, #ompany :anual,
and relate to financial or other matters intended to ensure that listed companies meet the 5uality standards of the
09
he 09 may suspend trading in, or delist, a company2s securities where the company fails to comply with any of
the re5uirements of the 09 (s' B"3) or with any disclosure re5uirements imposed by the 092s own policies or the
applicable securities law (s' B"A)
09 has broad disciplinary powers, including the power, among other things, to impose any of the following!
o 6eprimands
o *ines up to J" million or three times the amount of any financial benefit accruing to a person committing a
violation
o 0uspension or termination of a person2s status as a participating organi7ation
1ut since "88B the 09 essentially has delegated its regulation of participating organi7ations to other 064s,
including the 60 and the I<., who has similar powers to discipline its members and certain of its members2
employees when such people violate securities laws (reprimands, monetary penalties similar to 09Ns and
termination of rights, or expulsion from the I<.) and can negotiate settlement agreements