Canada: Significant Changes To Canada's Exempt Market For Life Science Companies

Life Science companies in Canada are very interested in securities law related to access of capital from the exempt market (eg. accredited investors). As part of its ongoing review of the exempt market in Canada, the Canadian Securities Administration ("CSA") recently finalized and released important amendments to National Instrument 45-106 Prospectus and Registration Exemptions (to be retitled National Instrument 45-106 Prospectus Exemptions) as well as the Companion Policy to NI 45-106 (NI 45-106 and CP45-106) and other related instruments. This regulatory development will have a significant impact on life science issuers, registrants and investors alike. Some of the most popular prospectus exemptions in NI 45-106 are being overhauled and new prospectus exemptions introduced, including a version of the friends, family and business associates exemption in Ontario and a new exemption aimed at asset-backed commercial paper. These changes, which came into force on May 5, 2015, will have implications for life science issuers' subscription agreements, offering memoranda and compliance practices, among other things, while dealers and other registrants will need to understand the implications of the amendments on their ability to make recommendations to clients about exempt market securities.

The amendments are the result of the CSA's review of the exempt market in Canada and, in particular, whether the prospectus exemptions that were available in NI 45-106 remained relevant in light of economic developments and the perceived need for more protections for retail investors.

Overview of Key Changes

  1. Accredited investor exemption (AI Exemption)

    • Ontario joins the rest of the country in permitting fully managed accounts to purchase investment fund securities under the managed account category of the AI Exemption, without regard to the nature of the underlying account holder
    • The definition of accredited investor is being expanded to add a new higher-wealth category of individual accredited investor with net financial assets of more than $5 million (this is the same category of individual who qualifies as a "permitted client" for other purposes)
    • Certain family trusts will now qualify as accredited investors
    • Individual accredited investors with net financial assets of less than $5 million will be required to complete and sign a risk acknowledgement form before or at the same time of a purchase of securities under this exemption
  2. Minimum amount investment exemption (MA Exemption)

    • The MA exemption is no longer available to individual investors
  3. Friends, family and business associates exemption (Ontario) (FFBA Ontario Exemption)

    • A version of the friends, family and business associates exemption which is largely harmonized with the exemptions available in other jurisdictions in Canada, will now be available for use in Ontario
    • The FFBA Ontario Exemption is not available for use by investment fund issuers and, like the version of this exemption in Saskatchewan, will require the investor, the individual at the issuer with whom the investor has a relationship, and the issuer to complete and sign a risk acknowledgement form
    • The founder, control person and family exemption currently in NI 45-106 and available to Ontario market participants, including investment funds and their founders and control persons, as well as their families, will be repealed
  4. Short-term debt exemption (Short-term Debt Exemption)

    • The credit ratings required to distribute short-term debt, which is primarily commercial paper, under the Short-term Debt Exemption have been modified
  5. Short-term securitized products exemption (Securitized Products Exemption)

    • A new exemption has been introduced to allow for the prospectus-exempt distribution of short-term securitized products that meet certain conditions

The Implications of the New Amendments

NI 45-106 has particular impact on issuers – including investment fund issuers and investment fund managers. Not only are the exemptions changing, but the CSA's expectations on issuers' compliance with the prospectus exemptions have significantly increased, as illustrated by the additional detailed commentary provided by the CSA in CP45-106.

Update Subscription Agreements – As subscription agreements generally include references to the AI Exemption or MA Exemption, issuers should review and update these agreements to ensure that the new requirements are met, for example, by including a risk acknowledgement form for individual accredited investors, who don't meet the new net financial assets test noted above and to ensure that compliance with the new requirements is appropriately documented.

Update Offering Memoranda (OM) – If an OM is provided in connection with a prospectus exempt trade, the OM should be reviewed to ensure that the terms of the AI Exemption and MA Exemption, and the subscription instructions, reflect the updated rules. If an OM has been prepared to meet the "OM exemption" requirements set out in section 2.9 of NI 45-106 (the OM exemption is available in certain provinces, most notably British Columbia and is not affected by the amendments) the OM needs to be updated to include updated audited annual financial statements no later than 120 days after the financial year end of the issuer (that is, by April 30 for an issuer with a December 31 year-end). Issuers and fund managers who are in the process of updating their OM to include updated financial statements should also review the OM to ensure that the terms of the prospectus exemptions are correctly described.

Update Compliance Policies and Procedures – Issuers (and their managers in the case of investment fund issuers) should review, update and/or prepare compliance policies and procedures to reflect the amended rules and increased guidance in NI 45-106.

Registrants, particularly exempt market dealers, will need to ensure that dealing representatives, as well as executive and compliance staff understand the nature of the changed prospectus exemptions that issuers can use to issue securities to their clients, as well as the enhanced record-keeping and "know your client" expectations that these amendments will have on their dealings with clients.

Review Agreements with Selling Dealers – If an issuer wishes to rely on a selling dealer to help document the availability of a prospectus exemption (for example, that the investor meets one of the financial tests set out in the definition of "accredited investor"), that may need to be better reflected in the subscription agreement and/or a dealer agreement. This is particularly relevant given the CSA's enhanced guidance on their expectations in this area in CP45-106.

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