On December 18, 2008 the Canadian Securities Administrators published for comment proposed National Instrument 55-104 Insider Reporting Requirements and Exemptions, together with a companion policy and related consequential amendments. Comments are due by March 19, 2008.
The proposals are intended to replace the current insider reporting regime with a harmonized set of requirements and exemptions and include a number of significant changes:
- Requiring insider reports from a narrower class of core insiders.
- Introducing the concept of "post-conversion beneficial ownership" which will count securities that may be acquired within 60 days as being held for the purposes of determining insider status.
- Accelerating the deadline for filing insider reports from 10 days to 5 days.
- Introducing the concept of "issuer grant reports" to allow a reporting issuer to report grants of stock-based compensation on SEDAR rather than requiring the insiders to file individual reports on SEDI.
- Requiring a reporting issuer to disclose in its information circular any late filings by its insiders.
The "Reporting Insider" Concept
One of the key proposed changes is to require insider reports from a sub-set of insiders of a reporting issuer. The definition of "reporting insider" includes those insiders that are more likely to (i) have ordinary course access to material undisclosed information concerning a reporting issuer; and (ii) directly or indirectly exercise, or have the ability to exercise, significant power or influence over the business, operations, capital or development of the reporting issuer. For example, rather than including all officers of a reporting issuer, only the chief executive officer, chief operating officer and chief financial officer are explicitly listed. This change should simplify compliance for many large issuers and improve the relevance of insider reports generally. However, in order ensure that the policies underlying insider reporting continue to be satisfied, any insider may become a reporting insider based on access to undisclosed information and ability to exercise power or influence over the reporting issuer.
Significant shareholders are also included in the definition of reporting insider. Beneficial ownership of, or control or direction over, securities carrying more than 10% of the voting rights attached to a reporting issuer's securities is the defining attribute of a significant shareholder. However, the proposals also introduce the concept of a "significant shareholder based on post-conversion beneficial ownership". Similar to deemed beneficial ownership under the take-over bid regime, any securities that may be acquired within 60 days will be considered to be already held, for the purposes of determining insider and reporting insider status.
This change may result in parties becoming insiders of a reporting issuer prior to their gaining any access to information or power to direct the reporting issuer. The existence of conditions to the acquisition of the securities is not relevant to the determination. Accordingly, insider reporting obligations may arise even if it is unlikely that securities will be acquired within the 60-day period due to unfulfilled conditions or because of the securities may only be acquired at premium to the prevailing market price.
As under the take-over bid regime, only those securities considered owned under the post-conversion beneficial ownership provisions are included in the total number of outstanding securities of the reporting issuer. Since the convertible securities held any person or company are typically part of a larger class, this type of partially diluted calculation of ownership may lead to peculiar results. For example, a person holding a small part of a dilutive issuance of convertible debt may appear to hold a disproportionately large interest in the reporting issuer based on the post-conversion beneficial ownership calculations and become a reporting insider, but at the same time may hold less than 10% of the outstanding shares on a fully-diluted basis. Insider reports filed by such a person would be of limited value and may be confusing.
Consequential Amendment To The Early Warning Regime
Proposed NI 55-104 includes 2 types of insider reporting obligations. The primary reporting obligation under Part 3 of NI 55-104 applies to the direct or indirect beneficial ownership of, or control or direction over securities of a reporting issuer as well as interests, rights or obligations in respect of related financial instruments. The supplemental reporting obligation under Part 4 of NI 55-104 applies to agreements, arrangements or understandings that have the effect of altering the insider's economic exposure to the reporting issuer and that are not covered by the primary reporting obligation.
The proposals include an amendment to National Instrument 63-103 The Early Warning System and Related Take-Over Bid and Insider Reporting Issues to explicitly limit the insider reporting exemption provided for eligible institutional investors that file alternatively monthly reports so that it does not extend to the supplemental reporting obligation under Part 4 of NI 55-104. Accordingly, while an eligible institutional investor can elect to file only monthly reports for aggregate changes in ownership that exceed the reporting thresholds set out in NI 62-103 for most transactions, it would be required to report each transaction that falls under the supplemental reporting obligation within 5 days. There does not appear to be any policy rationale to support this difference in reporting. The potential for dual reporting by eligible institutional investors is unfortunate and could increase the burden of compliance. However, since the primary reporting obligation is defined very broadly and incorporates most changes in economic exposure through the definition of related financial instruments, there may be few transactions that would be reportable under the supplemental reporting obligation. We will suggest that the final version of the proposals should provide a clear exemption for all insider reporting obligations under NI 62-103, provided that the insider satisfies the conditions for the primary reporting exemption under Part 9 of NI 62-103 and files alternative monthly reports that disclose significant changes economic exposure.
Disclosure Of Derivatives-Based Economic Positions
Recently there has been considerable international attention regarding the use of derivatives to acquire economic interests in public companies and whether such interests should be disclosed under securities legislation. The proposals indicate that the CSA is aware of regulatory reforms in other jurisdictions and would welcome comments on them from Canadian market participants.
Given the potentially broad interpretation of the terms beneficial ownership, control or direction and related financial instrument, together with the supplemental reporting obligations under Part 4 of proposed NI 55-104, it is arguable that many types of derivative transactions will already be subject to the proposed reporting regime. Any use of derivatives to avoid statutory reporting obligations would also be potentially subject to the securities regulators' public interest jurisdiction. Accordingly, it is likely that any new regulation will focus on the early warning regime.
Please click here for a copy of the proposals.
We would be pleased to assist you in providing your comments to the CSA on these proposals. If you would like more information about the proposals and how they will apply to you, please contact your usual lawyer in BLG's Securities and Capital Markets Group or any of the Securities and Capital Markets Group leaders noted below.