Securities in Flux

Canadian securities law has seen a raft of recent changes, including a new national securities model, a take-over bid regime, proxy regime reform, a push for proxy advisor regulation and new listing exemptions

Despite its long history of peacekeeping abroad, there is one bitter divide Canadians cannot manage to bridge right in their own backyard: a national securities regulator.

It’s not for lack of trying. There have been several pushes for a national regulator. The most recent, in 2011, was slapped down by the Supreme Court of Canada on the grounds that securities regulation is provincial jurisdiction.

The result is the country’s securities landscape remains balkanized with 13 separate provincial and territorial regimes.

The push to unify them has not died down, the idea of imposing a national regulator has simply given way to a plan to create a cooperative single regulator.

The problem is, some provinces are not cooperating.

Alberta and Québec – two of the country’s largest financial jurisdictions – have said “no thank you,” as have Manitoba, Nova Scotia, Newfoundland and Labrador, Nunavut and Northwest Territories. Québec is actually challenging the scheme in court.

That leaves Ontario, British Columbia, New Brunswick, Prince Edward Island, Saskatchewan and the Yukon working with the federal government to create a new Cooperative Capital Markets Regulatory System.

Under a memorandum of agreement, each has agreed to adopt a uniform Act regulating its own capital markets. For its part, Ottawa will introduce the Federal Capital Markets Stability Act covering criminal matters across the country as well as anything relating to systemic market risk, which is within federal jurisdiction.

The plan for a cooperative regulator was moving along at a brisk pace when the Conservative government dissolved the government, called an election, and proceeded to get swept from office by Justin Trudeau’s Liberals.

In his mandate letter to the new finance minister, Prime Minister Trudeau outlined more than two dozen financial priorities. The plan for a cooperative regulator was not among them.

“The former Conservative government was a big, big believer in a national regulator and really championed this,” says Stephen Halperin, Co-chair of the corporate securities group at Goodmans LLP in Toronto. “I don’t know that it is the same priority or has the same impetus under the Liberal government.”

It may just be that the new government has other fish to fry early in its first mandate, he says. Still, the cooperating provinces can’t do this without Ottawa.

The sentiment on Bay Street – Canada’s Wall Street – remains “overwhelmingly supportive” of the plan.

“That’s an Ontario view,” says Halperin, who is based in Toronto. “You get a different view in the oil patch. Alberta’s new government has said flat out it’s not interested in participating. But on the Street, the people I deal with at the Bar and in the banking and investment communities think it’s ridiculous we don’t have a national regulator.”

Kent Kufeldt, Regional Leader of the corporate and capital markets group at Borden Ladner Gervais LLP, says from his Calgary office that the proposed cooperative model raises some difficult questions.

“How are the various cooperating parties going to deal with each other — and how are they going to cooperate with those provinces that are not in?” he asks. “There’s going to be an adjustment phase for how they’re going to administer it. That could lead to uncertainty and delay.”

Kufeldt, who also works out of his firm’s Vancouver office, believes the current “passport” system works well, and says there is concern that issuers not suffer in any potential change.

“In situations where you need to engage with securities commissions for relief from regulatory requirements, are they going to have a consistent approach? Are they going to take longer to arrive at decisions because they’ve got a new system in place?

“You’re going to have a period of adjustment for sure as they figure it out, and that could impact timing on transactions where you need to engage with regulators, where you need regulatory relief of certain provisions.”

In the meantime, the absence of a national regulator hasn’t held the provinces back from a sweeping overhaul of the country’s take-over regime. It was done through the Canadian Securities Administrators (CSA), an umbrella group of provincial and territorial regulators.

One of the major changes they adopted may lead to an interesting development on the shareholder activism front.

The changes that have everyone buzzing are the new provisions requiring bidders to keep their offers open for a minimum of 120 days, up from 35 days, and the one forcing companies to offer a mandatory10-day extension once minimum tender conditions have been met and they’ve said they’ll be taking up the shares.

“It’s a complete game changer, and it’s supposed to be a game changer, because it shifts the balance towards the shareholders and the board to deal with a hostile bid,” says Neil Kravitz, Coordinator of the capital markets group at Davies Ward Phillips & Vineberg LLP in Montréal.

It may also be a game changer for activists.

Canada is viewed as an activist-friendly regime, at times drawing high-profile Americans such as Carl Icahn and Pershing Square’s Bill Ackman north of the border. The new rules may force activists of all sizes and nationalities to change their tactics, says Edward Waitzer, a partner at Stikeman Elliott LLP in Toronto.

“Boards will be able to mount defenses for longer if they want so activists will probably focus more on proxy fights and other forms of engagement,” he says.

Waitzer, a former chair of the Ontario Securities Commission, also sees new players emerging on the Canadian activist scene starting with Canadian institutional investors who, as a group, have historically remained fiercely private about their battles.

“Institutional investors have been promoting more accountability on the part of management and I think that’s going to come full circle,” he says. “As public attention focuses more on gaps in retirement income-security systems within Canada, I think the level of accountability demanded of them will increase. They’ll be expected to account for things like whether they’re long-term investors and how they’re exercising their proxies, so I expect that’s going to make them more willing to engage directly with activists.”

Waitzer says he has also recently started seeing funds that specialize in appraisal arbitrage “poking around in Canada.”

The funds operate by buying shares of a target company after a proposed merger or sale is announced and dissenting on the grounds the value is too low. They ask the court to set a fair value for share prices. If the courts hold that fair value is more than the buyout price, they get the higher price plus interest at a rate set by the judge. In the US, interest is normally higher than market rate — making it a good investment.

“I think the impetus for activists testing the waters on exercising dissent rights is a natural consequence of them coming up to Canada generally,” Waitzer says. “They tend to seek and obtain aggressive advice, and the exercise of dissent rights is a well-developed product line in the US, which makes sense for them to test out in the Canadian market.

“My own view is that the legal framework here is less favorable to dissenters, so I’d be surprised to see this develop significant momentum. That said, one should never underestimate the potential for success in aggressive litigation tactics.”

Halperin at Goodmans says it’s a concern that they’re surfacing in Canada because “it’s just another stream of potential transaction disruption. You’ll often see a limit on dissents in an M&A transaction — a condition if more than 5 per cent or sometimes 10 per cent of the deal is represented by a dissenter, the parties have the opportunity to walk away.”

With the changes to the take-over bid regime expected to lead to more and longer proxy battles, Canada’s outdated proxy regime is becoming a concern.

Many securities lawyers say the proxy infrastructure is poorly constructed and, in parts, disconnected, with no common standards for vote reconciliation or for communication among key market participants. Instead, proxy agents use proprietary systems and processes.

Navigating through the process to understand who has the right to vote and whether those votes are being properly tabulated is seen as so complicated and opaque that in some cases it may cast doubt about the accuracy of the result.

In a 2015 progress report on proxy reform issued by the umbrella group of Canadian securities regulators, the CSA acknowledged the system is “antiquated and fragmented and needs to be improved.”

They found widespread over-reporting and over-voting, missing and incorrect omnibus proxies, and intermediaries being left in the dark regarding their voting entitlements. They also found inconsistent vote-reconciliation methods and undetected errors made by meeting tabulators.

US counsel should be aware of the potential for problems if they become involved in a situation in Canada, says Kevin Morris, a corporate and securities partner at Torys LLP in Toronto. He nearly found out the hard way how easily the fragmented system can cause problems.

A couple of years ago a Torys client was involved in a battle for board control. Mid-campaign, Morris says, it was discovered “there were some back-office steps that weren’t being followed” by the proxy-processing company that was distributing materials to shareholders.

The problem was a recap letter the agent sent to all shareholders. It listed all the board candidates but failed to identify which one management was supporting.

“There was a disconnect between what management’s recommendations were, a shareholder who wanted to follow management’s recommendations, and the piece of paper shareholders got that didn’t show who management nominees were.”

Luckily, he says, “someone contacted them to say, ‘I got this piece of paper and it doesn’t say who your nominees are,’ so we had to deal with the back office. That actually happened, and it’s just one example of the mechanics not working.”

Morris says he’s pleased the CSA is looking at an overhaul, adding that “in the meantime, companies need to be aware that there are all these back-office steps – and potential missteps – they need to be alert to.”

The umbrella group of Canadian regulators didn’t just look at proxy agents, they also looked at proxy advisors as well.

There was a strong call from Canadian issuers to regulate firms like Institutional Shareholder Services (ISS) and Glass Lewis, with complaints they can tilt proxy battles based on sometimes incorrect or incomplete information. Large institutional shareholders pushed back, arguing securities regulators should not interfere in an essentially private business arrangement.

The CSA sided with the institutions and said it would not regulate proxy advisors, just issue guidance on best practices.

Many in the Bar are not happy.

“There is a concern that those firms can have much more influence on the system than perhaps they should,” says Kufeldt at BLG. “I know ISS in particular, I haven’t seen Glass Lewis, is trying to engage folks on how to better work through their system. But to a certain extent that’s a sales pitch for ISS so they can increase their services. I think there still is, within the Bar, the feeling that those organizations carry a lot of weight — perhaps more than is warranted.”

US companies in general carry a lot of weight in Canada. With more than 300 interlisted companies trading on the Toronto Stock Exchange, reducing friction for issuers doing business in both jurisdictions is always on the radar screen.

The exchange recently implemented amendments to its company manual to expand the exemptions available to inter-listed issuers whose primary exchange is other than the TSX.

Eligible companies can benefit from a raft of new exemptions, including a transaction exemption that says, subject to prior approval from the exchange, they will be exempt from rules regarding acquisitions, shareholder approval, prospectus offerings, private placements, unlisted warrants, convertible securities and security-based compensation arrangements, among a number of other things.

Eligible companies will also be exempt from the TSX corporate governance rules, including director election requirements and annual meetings.

Heather Zordel, a securities practitioner at Gardiner Roberts LLP in Toronto, says the Toronto Stock Exchange – whose parent company is publicly traded – is motivated to make things as seamless as possible for the more than 300 interlisted companies that use its platform.

“The big incentive is it helps for their numbers,” says Zordel, who worked at the exchange in the 1990s. “We’re competing for trading. The exemptions reduce known irritants and make it clear that the exchange wants listings from foreign jurisdictions. On a global basis they want to attract parties on the AIM or places like that. That’s what globalization’s all about.

“So they’re saying: ‘We recognize you guys are well regulated and we’re not going to mess around and make your life difficult.’ This is an international business, you’ve got to be looking internationally and making it easy for people around the world to participate in your market.”