The Globalization of Securities Enforcement

Litigators are raising concern over increased cross-border cooperation powers for regulators
Litigators are raising concern over increased cross-border cooperation powers for regulators

A recent amendment to the Ontario securities regime that allows the province’s regulator to quietly disclose information across borders is a troubling development in Canadian securities enforcement, say senior lawyers who work in the area. Anyone involved with a corporation whose shares trade on the Toronto Stock Exchange should pay attention. A TSX listing automatically makes them a reporting issuer in Ontario, which means they are answerable to the Ontario Securities Commission regardless of where the company is actually headquartered.

The amendment expanding the OSC’s powers to share information is one of a trio of changes tucked into a large budget bill that came into effect this summer with little media attention.

The disclosure provision is the one causing the most consternation because it authorizes the OSC to share compelled evidence, provided under order, with law enforcement and regulatory agencies at home and abroad without having to notify those being investigated beforehand.

While the OSC always had the right to disclose information to the US Securities and Exchange Commission and others, it was required first to inform the party who provided the testimony so they could request a hearing if they objected or ask for appropriate safeguards. Not any more.

“This should be of concern to all Canadians,” says William Brock, a litigator at Davies Ward Phillips & Vineberg LLP in Montréal. “With these changes, once you give information to the securities commission you lose control over it. The commission can do a number of things with the information they obtain – in many cases without the consent and without even informing the targets – including sharing it with the SEC.

“The SEC has its own powers and can give your information to whoever it wants, including the US Justice Department. So you just don’t know where your information is going to end up.”

Québec has a similar disclosure provision, says Brock, and there are real ramifications for those placed under securities investigation, even when their information stays in Canada. It can be shared with the Canada Revenue Agency, for example.

John Keefe, a securities litigator at Goodmans LLP in Toronto, says Ontario’s expanded disclosure provision clearly creates an entirely new level of risk for anyone placed under OSC investigation.

The commission has broad powers to subpoena people and compel them to submit to examination under oath, while forbidding them from disclosing the fact they are even being investigated.

“It has almost a star-chamber quality to it. The process can be quite draconian,” says Keefe. “One of the protections that was given to those people being interviewed in those circumstances was at least that what was being said would not be disclosed outside the boundaries of that investigation without leave.

 “Giving the OSC the power to do that raises questions about how far those answers can go and whether there is any protection against self-incrimination, because the protections against self-incrimination that would apply to Canadian proceedings may not apply at all to foreign proceedings.

“This causes very serious potential problems for those being investigated. It creates a real dilemma and may very well be challenged.”

Any challenge would likely be rooted in the Canadian Charter of Rights and Freedoms, says Keefe.

The Charter specifies that a witness who testifies in any proceeding has the right not to have evidence they provide used to incriminate them in any other proceeding (perjury charges are the exception).

That might appear to prohibit handing incriminating evidence over to a foreign regulator who is not bound by the Canadian Constitution. But an Alberta court felt otherwise.

Like Québec, Alberta has a disclosure framework similar to the one recently adopted by Ontario. The question of whether the provincial regulator has the authority to share transcripts of interviews and other information to the SEC was challenged before the Court of Queen’s Bench.

The court ruled in 2008 that the securities commission could share information, including compelled testimony from a person or company being investigated for securities violations, with the US agency. Justice Karen Horner held it does not violate Charter rights provided there is not a criminal probe open at the same time.

Should criminal proceedings arise at a later date, she wrote, she believed that both the Securities Act and case law would prevent the use of such compelled testimony in Canada. And there is no evidence that compelled evidence would be admissible in a US criminal proceeding, she added.

David Tupper, a litigator at Blake, Cassels & Graydon LLP in Calgary, says the way the ruling was written clearly does not slam the door on another challenge.

 “The court did say they weren’t considering what would happen if the disclosure was for criminal-enforcement purposes,” he says, “so they didn’t close the field that that might create Charter issues.

“The problem is in the US, they have an absolute Fifth-Amendment right against self-incrimination, but once an answer is given it’s out there and can be shared. In Canada, the notion has typically been you don’t have that same right against self-incrimination in the context of an investigation, but there are limits on the sharing between bodies for different purposes. That’s absolutely the concern with the Ontario changes.”

The Ontario amendments have been creating buzz in Alberta, he says.

 “Ontario is gathering some interest because of the concern about due process and self-incrimination and things like that. And I completely understand their concerns. The absence of a notice provision obviously tends to foreclose an opportunity to make some arguments around self-incrimination.”

 That is not the only amendment Ontario adopted that has securities practitioners predicting more risk and uncertainty on the road ahead. Another amendment causing some concern broadens the definition of insider trading.

Traditionally, insiders were banned from trading shares of a company that was “proposing to make a take-over bid.” That prohibition has been expanded to situations where an issuer is “considering or evaluating” a take-over bid.

Jeffrey Leon, co-head of the litigation group at Bennett Jones LLP in Toronto, says it’s an important change.

“What this means is an issuer no longer has to have gone so far as to propose a transaction. If you’re considering or evaluating a transaction, then that can be caught by the new insider trading provisions.

“In terms of widening the net, I think that legislative change makes sense if you’re trying to identify those people who trade on non-public information to their advantage.”

What the expanded insider-trading rules mean for TSX-listed companies and those associated with them is that they will have to be very careful that their blackout policies comply with the new amendment so they don’t come up against the tripwire, he says. The challenge is it’s not clear at what point the OSC will determine insiders are “considering” a deal.

“That’s the rub. What does considering mean? It will be a question to determine the point at which that comes into play.

“Is it as soon as somebody wakes up one morning and says maybe they should look at a transaction? Or does it have to reach a certain stage before the provision kicks in?”

Some of those same concerns also overlay the third Ontario amendment, which expands fraud and market manipulation provisions to include “attempts.”

Ontario’s securities regime now says a person or company must not “attempt to engage” in any fraud or market manipulation violation, directly or indirectly. What constitutes an “attempt to engage” in fraud raises new questions, says Leon.

“All of this seems to be designed to catch conduct that both the legislature and regulator think is contrary to capital markets and should be prohibited, which is fine. But it will require the courts to determine what it all means.

“And it involves an expansion of powers that I think is questionable as to whether it is really necessary and fair.”

The expansion of powers appears to be coming as part of a larger movement toward tighter securities enforcement following the 2008 global financial meltdown, says Clarke Hunter, QC, a senior partner at Norton Rose Fulbright Canada LLP in Calgary.

“If you look at securities trends you have to start with the growing influence of globalization on enforcement and regulation in particular,” says Hunter. “You see Canadian regulators adopting standards created in the US by the SEC.”

The US regulator has been extremely active in securities enforcement in recent years, creating special prosecution units and bringing charges against corporate giants such as Goldman Sachs, J.P. Morgan, Credit Suisse and Citigroup.

With intense international competition for global capital, Canada can’t afford to have other jurisdictions seen as incorporating higher regulatory standards, Hunter says. “I think that’s the rationale for some of these changes in Ontario.”

Brock at Davies says the OSC, which formed a serious offences unit earlier this year, appears to be trying to take a page from the SEC’s playbook. He believes it sounds a worrying note.

“I am apprehensive frankly that Canada is moving to a US model of aggressiveness,” he says. “One of the concerns I have is we don’t necessarily have the expertise in the prosecutorial authorities and budgets which allow for it. I think this is of real concern.

“We don’t have a judicial system like they have in the United States, and I’m not sure we necessarily want one.”

 

Sandra Rubin is a freelance legal affairs writer.

Lawyer(s)

William Brock John A. Keefe David Tupper Jeffrey S. Leon Clarke Hunter