On February 10, 2012, two groups of Canadian securities regulators each published a different proposal concerning the requirement to become registered as an investment fund manager (IFM) in the provinces or territories of Canada. These proposals respond to comments that the Canadian Securities Administrators (CSA) received on the CSA's proposed amendments to National Instrument 31-103 Registration Requirements, Exemptions and Ongoing Registrant Requirements regarding "non-resident" IFM registration published in October 20101.
The two proposals have quite different conceptual regulatory approaches, which highlights the continued fractured state of Canada's securities regulation regime. The CSA's October 2010 proposed amendments to NI 31-103 have been abandoned (although one proposal is based on similar principles) in favour of two different proposed instruments.
- Regulators in British Columbia, Alberta, Saskatchewan, Manitoba, Prince Edward Island, Nova Scotia, Northwest Territories, Yukon and Nunavut (the Policy jurisdictions) published proposed Multilateral Policy 31-202 Registration Requirement for Investment Fund Managers (MP 31-202) for comment. MP 31-202 provides guidance on when an IFM would need to register in those nine jurisdictions. The Policy jurisdictions propose a narrow interpretation of the existing legislative requirement to register as an IFM: an IFM would only be required to register in one of these jurisdictions if it directs or manages the business, operations or affairs of an investment fund in that jurisdiction. MP 31-202 sets out the factors the Policy jurisdictions consider relevant in determining if this condition is satisfied. We expect that many non-resident IFMs would not be required to register in these jurisdictions, even if the investment funds that the IFM manages have investors in one or more of these jurisdictions.
- Regulators in Ontario, Québec, New Brunswick and Newfoundland and Labrador (the Rule jurisdictions) published proposed Multilateral Instrument 32-102 Registration Exemptions for Non-Resident Investment Fund Managers (MI 32-102) and Companion Policy 32-102CP for comment. This rule and policy provides for when an IFM would need to register in those four provinces and sets out specific registration exemptions. MI 32-102 builds upon the CSA's October 2010 proposals and interprets the legislative requirement to register broadly, but provides certain exemptions. Under this approach, an IFM would be required to register in the jurisdiction where its head office is located, but also in one or more of the Rule jurisdictions if either the investment fund or the IFM "distributes or has distributed investment fund securities" in those jurisdictions, subject to the exemptions set out in MI 32-102. Under MI 32-102, we expect that IFMs offering investment funds in these jurisdictions will have to register in the Rule jurisdictions, in addition to their principal jurisdiction.
Currently, pursuant to transition provisions contained in National Instrument 31-103 Registration Requirements, Exemptions and Ongoing Registrant Obligations that expire on September 28, 2012, Canadian IFMs are required to register in the category of IFM only in the province or territory where they have their head office, and non-Canadian IFMs are not required to register. The two groups of regulators propose to deal with these temporary exemptions as follows:
- The Policy jurisdictions propose to issue orders such that IFMs required to be registered in those jurisdictions under MP 31-202 would have until September 28, 2012 to apply for registration; and
- The Rule jurisdictions propose to adopt new temporary exemptions such that IFMs required to be registered in those jurisdictions would have until December 31, 2012 to apply for registration.
Neither proposal includes the "grandfathering" exemption that was contained in the October 2010 CSA proposed amendments to NI 31-103, whereby exemptions would be available for an IFM with investment funds that had investors in the jurisdiction that were acquired before the effective date of the new regime. We consider this to be a significant deficiency.
These proposals assume that both MP 31-202 and MI 32-102 will be in force on or before September 28, 2012.
Comments are due on both MP 31-202 [available here] and MI 32-102 [available here] by April 10, 2012. We expect to provide comments on these proposals and would be pleased to assist you in providing comments.
PROPOSED NARROW INTERPRETATION/POLICY APPROACH – THE POLICY JURISDICTIONS
Under MP 31-202, an IFM would only be required to register in one of the nine Policy jurisdictions if it directs or manages the business, operations or affairs of an investment fund in that jurisdiction. In determining if registration is required in one or more of these jurisdictions, an IFM must consider what investment fund management activities it is conducting in these jurisdictions. Certain activities are set out in MP 31-202 as examples of functions and activities of an IFM (the regulators have stated that no single function or activity would be determinative):
- Establishing a distribution channel for its funds
- Marketing its funds
- Establishing and overseeing a fund's compliance and risk management programs
- Overseeing the day-to-day administration of a fund
- Retaining and liaising with the portfolio manager, custodian, dealers and other service providers
- Overseeing the portfolio management function
- Preparing a fund's offering documents, preparing and delivering unitholder reports
- Calculating net asset value
- Calculating, confirming and arranging payment of subscriptions and redemptions, and arranging for the payment of distributions.
Under MP 31-202, IFM registration will not be required solely because of the presence of security holders in a jurisdiction and/or the solicitation of investors in a jurisdiction, unlike the CSA's October 2010 proposal and MI 32-102. It is clear under MP 31-202 that an IFM will be required to register in one or more of these nine jurisdictions if it "directs or manages the business, operations or affairs of an investment fund" from a physical place of business in one or more of the jurisdictions.
Notwithstanding our overall support for the general approach taken by the Policy jurisdictions, which we recommended in our comment letter on the CSA's October 2010 proposals, we have concerns about some of the items on the list of IFM activities in MP 31-202. For example, "marketing the fund" relates to distribution of and trading in securities, which applies to registered dealers and not to the function of an IFM. We recommend that the Policy jurisdictions clarify that wholesaling or marketing a fund to registered dealers in a particular jurisdiction should not be a factor to consider in determining whether the IFM registration requirement is triggered. Another area that requires more guidance relates to the outsourcing of certain activities of an IFM. It is not clear in MP 31-202 when oversight of service providers to which certain IFM functions have been outsourced would trigger a registration requirement. This issue would be of concern to those IFMs who contract with portfolio managers located in another province to manage the assets of the fund. Given the registration status of the portfolio manager in that province, we do not consider it appropriate that the IFM also be required to be registered in that province. IFMs that operate outside of Canada will need additional clarity about any funds that they have established under the laws of a jurisdiction in Canada, but which are managed outside of Canada, particularly where the IFMs delegate services to Canadian service providers.
PROPOSED BROAD INTERPRETATION AND EXEMPTION APPROACH – THE RULE JURISDICTIONS
Under MI 32-102, an IFM will be required to be registered in one or more of the four Rule jurisdictions if it has a place of business in those jurisdictions. The Rule jurisdictions also take the view that the distribution of investment fund securities in one of these jurisdictions is a "significant connecting factor" to those jurisdictions, which triggers the IFM registration requirement. Unless one of the proposed exemptions described below applies, registration would be required in each of these four jurisdictions where an IFM distributes or has distributed investment fund securities in the jurisdiction. The rationale given by the regulators for this view is that having securityholders in a jurisdiction gives rise to investment fund management activities in that jurisdiction, such as delivering financial statements and other periodic reporting, calculating net asset value and fulfilling redemption and dividend payment obligations. They consider that the risks associated with these activities give rise to investor protection concerns that warrant regulatory oversight through registration.
Two exemptions from the IFM registration requirement are proposed in MI 32-102:
Exemption where there are no securityholders or active solicitation in the local jurisdiction The registration requirement will not apply to an IFM if it does not have a place of business in the local jurisdiction and if one of the following applies:
- The fund(s) have no securityholders resident in the local jurisdiction
- The fund(s) or the IFM has not actively solicited residents in the local jurisdiction to purchase securities of the fund(s).
Under proposed Companion Policy 32-102CP, the concept of "active solicitation" is very broad, and includes "intentional actions" taken by a fund or the IFM to encourage purchases of the fund's securities such as:
- Direct communication with residents to encourage purchases of the fund
- Advertising in Canadian or international publications or media (including the internet) if it is intended to encourage purchases of the fund by residents of the local jurisdiction, either directly from the fund or in the secondary market (general image or perception advertising would not fall within this category)
- Purchase recommendations made by a third party (e.g., a dealer) to residents of the local jurisdiction, if that party is entitled to be compensated by the fund or IFM for those recommendations or a subsequent purchase.
It is unlikely that any IFM who distributes securities of its funds on a national basis, particularly where it has filed a prospectus in each province and territory of Canada for those funds, would ever be able to rely on this exemption. Exemption where only permitted clients invest in a fund
The registration requirement will not apply to an IFM if all securities of the fund(s) managed by the IFM and distributed in the local jurisdiction were distributed under a prospectus exemption to a permitted client2, provided all of the following apply:
- The IFM does not have its head office or principal place of business in Canada
- The IFM is created under the laws of a foreign jurisdiction
- The fund(s) is not a reporting issuer in any jurisdiction of Canada
- The IFM has submitted to the securities regulatory authority in the local jurisdiction a completed Form 32-102F1 Submission to Jurisdiction and Appointment of Agent for Services for International Investment Fund Manager
- The IFM has provided a specified notice to its permitted clients regarding its non-resident status.
- In addition, to rely on this exemption, the non-Canadian IFM must:
- Notify the applicable securities regulatory authorities each year that it relied on the exemption and provide the total assets under management attributable to residents of the local jurisdiction
- File with the applicable securities regulatory authority a completed Form 32-102F2 Notice of Regulatory Action and must update that notice within 10 days of any change to the information previously provided.
The Rule jurisdictions modified the above exemption from that which was first proposed by the CSA in October 2010 by removing the limitations on the value and percentage that Canadian investors could hold for this exemption to be available.
We note that the Policy jurisdictions have not provided for these exemptions. Their different regulatory approach is expected to lead (generally) to a conclusion that an IFM of the nature described in the proposed MI 32-102 exemptions will not be required to register as an IFM in the Policy jurisdictions.
Notice to investors by registered international investment fund managers
MI 32-102 will require registered IFMs whose head office or principal place of business is located outside of Canada to provide securityholders in the local jurisdiction a specified notice regarding their non-resident status. This notice requirement would not come into effect until March 31, 2013.
IMPLICATIONS OF REGISTRATION FOR INVESTMENT FUND MANAGERS
Non-Canadian IFMs that are not otherwise registered in any category in any Canadian jurisdiction and that would be required to be registered in certain Canadian jurisdictions, if MP 31-202 and MI 32-102 are adopted, will be subject to proficiency and conduct requirements, such as Canadian-based proficiency requirements that would apply to the firm's chief compliance officer, and would be subject to, among other things:
- Capital ($100,000 minimum) and insurance requirements
- Financial reporting obligations (annual and quarterly financial statements) " Conflicts of interest management
- Record keeping obligations
- Compliance system requirements, including having written policies and procedures
- Certain reporting to securityholders (trade confirmations and account statements)
- Canadian IFMs are already subject to these requirements as a result of being registered as an IFM in their principal jurisdictions.
IFM registration in multiple jurisdictions also raises issues related to:
- Extra-provincial corporation registration requirements
- The costs associated with IFM registration, including regulatory filing fees, and whether they can be paid by the applicable investment funds
- The status in other provinces for financial institutions that rely on the IFM registration exemption available in Ontario (section 35.1 of the Securities Act (Ontario))
- The status of the "passport" registration regime under this bifurcated regulatory regime. The applicable CSA members did not discuss the implications of their proposals on the various "passport" regulatory instruments.
1. See Canadian Securities Regulators Propose Registration for Non-Resident Investment Fund Managers Investment Management Bulletin November 2010 Borden Ladner Gervais LLP [available here].
2. Permitted client has the same meaning in MI 32-102 as it does in NI 31-103 and is a sub-set of "accredited investor".About BLG
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.