Canada: New Game Rules For "Closed Companies"!

Last Updated: July 12 2006
Article by Jocelyn Lafond

On September 14, 2005, the Securities Act (Québec) (the "Act") was amended, and Regulation 45-106 respecting Prospectus and Registration Exemptions ("Regulation 45-106") and Regulation 45-102 respecting Resale of Securities ("Regulation 45-102") came into force.

How does this affect you?

The Act, which generally applied only to companies whose securities were listed on an exchange and subjected the issuance and transfer of securities of such companies to formalities such as the preparation of a prospectus and the registration as a dealer, now applies equally to all companies that issue securities (in other words, shares, options and debt instruments such as debentures and bonds) and to any person having acquired such securities who transfers them.

The main purpose behind the amendment of the Act and the adoption of Regulation 45-106 and Regulation 45-102 was to harmonize the Québec prospectus and registration exemptions with those of other Canadian provinces and territories.1

For the most part, Regulation 45-106 provides for exemptions from preparing a prospectus and registering as a dealer, while Regulation 45-102 provides for conditions authorizing legal persons or individuals who acquired securities under a prospectus exemption to resell them without being required to prepare a prospectus. These new changes come as a relief to public corporations, since the prospectus exemptions they rely on are now harmonized from coast to coast.

But for all other companies, the amendment to the Act does nothing to simplify their operations, as the exemption from the application of the Act that applied to "closed companies" has been repealed. "Closed companies" have become "private issuers."

"Closed company" – "private issuer": What difference does it make?

Entrepreneurs might see this as a matter of semantics, but legal advisors must learn new terminology and a whole new way of counselling clients who want to issue or resell securities.

A "closed company" was an entity whose constating documents restricted the transfer of shares, limited the number of shareholders to 50 and prohibited public offerings. A "private issuer" is an entity (company, corporation, etc.) that is not a reporting issuer (i.e. an entity whose securities are generally listed on a stock exchange), whose securities are subject to restrictions on transfer and are beneficially owned directly or indirectly by not more than 50 persons.

Furthermore, to qualify as a "private issuer," companies must only have issued securities to those classes of persons listed in Regulation 45-106. Those include directors and officers, employees, founders, certain family members, as well as the "close personal friends" and "close business associates" of these directors, executive officers or founders. The list also includes persons who already hold the company’s securities and "accredited investors." An "accredited investor" is specifically defined as financial institutions, investment dealers, certain government bodies, or individuals who meet certain financial criteria either in respect of their assets or their income.

Why bother being a "private issuer"?

Companies that meet the criteria of "private issuer" can issue securities to those persons listed above without being required to prepare a prospectus or register as a dealer. They will not have to file any notice whatsoever with the Autorité des marchés financiers ("AMF") or pay any fees. In this new context, the obligations of "private issuers" under the Act are no different from what they were when these entities were known as "closed companies." If a company that qualifies as a "private issuer" was to issue securities to a person not on the list set out in Regulation 45-106, it would forever lose its status as a "private issuer" and be required to issue its securities under prospectus and registration exemptions prescribed in the Act or in Regulation 45-106. Depending on the exemption it relies on, a company will have to file a report of exempt distribution with the AMF on or before the 10th day following the issuance of the securities and pay fees to the AMF based on the value of the issued securities.

To meet the criteria of "private issuer," companies that qualified as a "closed company" before September 14, 2005 have until October 12, 2007 to amend their constating documents to include a restriction on the transfer of all of their securities (and no longer only their shares, in the case of corporations), although they need not do this for non-convertible debt instruments. Striking the 50-shareholder limit and public offering prohibition from their constating documents would also be a good idea, as these provisions have become inappropriate and needlessly restrictive. Companies must also make sure that their securities have only been issued to those classes of persons listed in Regulation 45-106, and they would be well advised to obtain representations from subscribers specifying what class of persons they belonged to at the time the securities were issued.

What about the transfer of securities?

Before September 14, 2005, the resale of securities issued by a "closed company" was exempted from the application of the Act. This exemption has since disappeared, and the vendors of the securities of any issuer, even "closed," must rely on an exemption from preparing a prospectus and registering as a dealer if they want to avoid these cumbersome formalities.

For non-reporting issuers, including "private issuers," these exemptions are for the most part set out in Regulation 45-106 and are based on the fact that the persons acquiring these securities belong to one of the classes of persons listed in the Regulation. Those who sell the securities should obtain representations from purchasers specifying to what class of person they belong. However, no notice need be sent or fee paid to the AMF when securities are transferred.

What are the consequences of violating the Act?

Any natural or legal person who violates the Act, including Regulation 45-106, will be liable to penal and civil sanctions. Penal sanctions range anywhere from $1,000 to $5,000,000, depending on the violation.

Legislative infractions also carry civil sanctions ranging anywhere from revision of the price paid for a security to the outright cancellation of a transaction. Anyone who requests a review or cancellation can also seek damages.


Reporting issuers have welcomed the amendment to the Act and the adoption of Regulation 45-106 with open arms. However, for the former "closed companies", these new rules are a burden since it makes transactions more complex for them and their security holders, and more costly due to the resulting legal analysis.


1. See, in this respect: New Exemptions: Prospectus and registration exemptions, Pierre-Yves Châtillon, Catherine Isabelle, Lévy Bazinet, Beyond Results, Spring 2005.

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.

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