Multilateral Instrument 51-105 - Issuers Quoted in the U.S. Over-the-Counter Markets (the "Rule") is expected to come into force on July 31, 2012 in all Canadian provinces and territories except Ontario. The Rule aims, by regulating disclosure requirements, to address damages to the reputation of Canada's capital markets by U.S. over-the-counter ("OTC") companies who have historically traded their shares on the Canadian marketplace without adequate public disclosure. In British Columbia a less restrictive form of the Rule, B.C. Instrument 51-109 ("51-109"), has been in force since 2008. The Canadian Securities Administrators ("CSA") have found that since 2008 and the adoption of 51-109 in British Columbia, certain OTC issuers had been migrating to other Canadian jurisdictions and thus a need had developed for a more widespread rule.
The Ontario Securities Commission is not adopting the Rule, stating that it has investigated the issue and will continue to monitor for any evidence of abusive activity being conducted in Ontario in order to determine whether it may become necessary to propose amendments to the Securities Act (Ontario).1
Who is Caught by the Rule?
The Rule will apply to any issuer ("OTC Reporting Issuers") whose:
- securities have been assigned a ticker symbol by the Financial Industry Regulatory Authority (FIRA) in the U.S. (the "TSD" being the ticker symbol date);2 and
- who meets one or more of the following three tests for a significant connection to a Canadian jurisdiction:
- business is directed or administered from the local Canadian jurisdiction;3
- promotional activities are carried out from the local Canadian jurisdiction;4 or
- before the issuer was assigned a ticker-symbol on a U.S. OTC market, the issuer distributed a security to a person resident in the local Canadian jurisdiction.
The Rule will not apply to issuers that are listed on certain larger "designated exchanges" (including but not limited to, the TSX, TSXV, Alpha Exchange Inc., the CNSX or the NASDAQ) as such exchanges impose reporting requirements on issuers.
Resale Restrictions and Hold Periods
The Rule contains restrictions on the sale of securities as follows:
No other Canadian hold period legends will apply. The Rule prevents the use of the trade exemption for a private agreement in the face of a take-over bid.5 It also limits the amount of securities that can be issued for services.
OTC Reporting Issuers will be required to meet the same periodic disclosure requirements as domestic 'venture issuers' under National Instrument 51-102 Continuous Disclosure Obligations. These requirements include filing an annual information form ("AIF"), management's discussion and analysis and audited financial statements. The Rule also imposes timely disclosure requirements and obligations to file public disclosure on SEDAR. If an OTC Reporting Issuer (an "SEC filer") completes filings with the Securities and Exchange Commission (the "SEC"), the OTC Reporting Issuer will be able to comply with the Rule by using documents filed with the SEC.
Other than the requirement to file an AIF, OTC Reporting Issuers will be treated as venture issuers, meaning they will have the longer filing deadlines for annual and interim financial statements and business acquisition reports than non-venture issuers. The Rule will, however, impose filing requirements in addition to standard venture issuer requirements, including insider reports for insiders,6 personal information forms for directors, officers, promoters or control persons, and in certain circumstances, the most recent registration statement filed with the SEC.
Except in British Columbia, issuers who are not SEC filers are granted a transition period in order to allow them time to engage auditors and prepare financial statements; the first AIF and financial statements required to be filed will be for periods beginning after January 1, 2012.
The CSA does not expect compliance will be significantly costly for SEC filers as many of the SEC forms will be eligible for filing in Canada. It will be more costly for non-SEC filers who do not yet have audited financial statements and for oil and gas companies who will need to begin to comply with National Instrument 51-101 – Standards of Disclosure for Oil and Gas Activities or, in the case of mining companies, National Instrument 43-101 – Standards of Disclosure for Mineral Projects.
Exiting the Regime
After being an OTC Reporting Issuer for at least one year, an OTC Reporting Issuer can apply to cease to be an OTC Reporting Issuer if:
- its business is not and has not been for at least one year directed or administered in or from a Canadian jurisdiction, at least one year has passed since the last date of promotional activities in Canada, and more than one year has passed since the TSD;
- a class of securities of the OTC Reporting Issuer becomes listed or quoted on a "designated exchange" (and it is thus subject to that exchange's reporting requirements); or
- if an order is made by the securities regulatory authority in the Canadian jurisdiction that it is no longer a reporting issuer in that Canadian jurisdiction.
In Quebec, an application will need to be made to the securities regulatory authority for a decision that the issuer is no longer an OTC Reporting Issuer.
Implications for the Canadian Capital Markets
Recently, Canadian exchanges have become more inquisitive when dealing with OTC-based companies. The Rule, which represents one of the broadest reaches we have seen by the CSA to non-Canadian domiciled issuers, adds virtually consolidated commission support to this sentiment and signals a palpably more aggressive position may follow in the future.
Oftentimes issuers may find themselves traded on an OTC Market without their own application due to the request of a U.S. broker/dealer. It is thus possible that issuers who have engaged in some kind of limited activity in Canada could inadvertently find themselves subject to a new public reporting scheme which requires fairly substantial labour time and cost. These compliance costs will have to be considered by US companies contemplating entrance to the Canadian markets outside of Ontario.
The CSA has indicated that where the application of the Rule would be unjust an exemption will be considered. For example, if an issuer has been forced to drop off a "qualifying exchange" such as the NASDAQ, or if an issuer is already subject to another continuous disclosure regime that is not caught by the Rule. It remains to be seen if the enforcement of the Rule will result in a chilling effect on the marketing of U.S. private placements in Canada.
* Brian Cheung is currently a summer student at Aird & Berlis LLP.
1 Canadian Securities Administrators, Notice, "Multilateral Instrument 51-105 Issuers Quoted in the U.S. Over-the-Counter Markets" (10 May 2012) at 9.
2 A ticker symbol can be assigned by FIRA when an issuer is quoted on any U.S. OTC market (including the OTC Bulletin Board) or grey markets (unofficial broker trading channels).
3 An OTC issuer's business will be considered to be "directed or administered" from a jurisdiction if: (a) its head office, or another office where executive functions take place is located in that jurisdiction; (b) some or all of its directors are located in that jurisdiction; or (c) any director, officer, consultant or other person who carries out executive functions for the issuer does so from an office in that jurisdiction, or is resident in that jurisdiction. It will not include issuers who only have an asset (such as a mineral property or warehouse), sales personnel or an expert, in the jurisdiction.
4 "promotional activities" in a jurisdiction will include communications through an investment newsletter or other publication that promotes, or reasonably could be expected to promote, the purchase or sale of securities of the OTC issuer and will generally be considered to include providing information to potential investors who request information. This can include the employment of an individual or firm to issue communications through an investment newsletter or to provide information to potential investors or potential private placement purchasers. It does not include dissemination of information or the preparation of records in the ordinary course of business to promote the sale of products or services of the issuer and to raise public awareness of the issuer or activities performed to comply with another law or regulation.
5 Section 4.2 of Multilateral Instrument 62-104 Take-Over Bids and Issuer Bids, private agreement exemption.
6 An insider of an OTC Reporting Issuer that is incorporated outside of Canada and is an SEC filer is exempted from insider reporting requirements if the insider files insider reports with the SEC under U.S. federal securities law. However, an insider of an OTC Reporting Issuer that is exempted from filing insider reports under U.S. federal securities law must file insider reports in Canada.