On December 19, 2008, the Canadian Securities Administrators published for comment National Policy 58-201 Corporate Governance Principles and National Instrument 58-101 Disclosure of Corporate Governance Practices, together with amendments to National Instrument 52-110 Audit Committees (the Proposals).
The Proposals contemplate three major changes to the existing corporate governance and audit committee requirements:
- relaxing the standards of independence for directors by removing the existing bright-line tests;
- replacing the current corporate governance guidelines with nine core corporate governance principles; and
- replacing the current 'comply or explain' disclosure requirements for corporate governance practices with more general disclosure based on the new principles.
The Proposals respond to the concerns of issuers with controlling shareholders who are currently disqualified from being considered to be independent as well as the concerns of small issuers. The Proposals are also intended to remove any suggestion of prescribed minimum standards or best practices in corporate governance and provide issuers with additional flexibility.
The Definition Of Independence
Under the Proposals, a director will be considered to be independent if he or she:
- is not an employee or executive officer of the issuer; and
- does not have, or has not had, any relationship with the issuer, or an executive officer of the issuer, which could, in the view of the issuer's board of directors having regard to all relevant circumstances, be reasonably perceived to interfere with the exercise of his or her independent judgment.
This definition is similar to the existing definition of independence except that it captures relationships that are reasonably perceived to interfere with independent judgment, rather than relations that are reasonably expected to do so.
The more significant change is the elimination of the specific relationships that categorically disqualify directors from being considered to be independent. The proposed companion policy to NI 52-110 sets out a non-exhaustive list of relationships that could affect an individual's independence and suggests that the board should review material relationships between a director and the issuer when assessing independence; however, there are no longer any clearly prohibited categories of individuals other than current employees or executive officers of the issuer. Under the Proposals, it is possible that a controlling or significant shareholder of the issuer, or his or her nominee, could be considered to be independent, depending on the board's assessment of that individual's involvement with management of the issuer. Similarly, board members who were recently employed by the issuer, received consulting fees from the issuer or have direct or family relationships with the issuer's auditor or advisors will no longer necessarily be disqualified from being considered as independent.
As under the current rule, all audit committee members of a non-venture issuer will be required to be independent. However, the proposed changes allow boards of directors considerable discretion as to the composition of an issuer's audit committee. The new definition of independence includes an objective standard – whether a relationship could be reasonably perceived to interfere with the exercise of independent judgment. The issuer is also required to disclose for each member of the audit committee the relationships with the issuer or its executive officers that were considered by the board and to discuss why the board considered that director to be independent. However, with the removal of the bright-line tests, it will be difficult to challenge the board's determinations.
The independence requirements in the United States under the Sarbanes-Oxley Act of 2002 and the rules of the U.S. stock exchanges are more restrictive than those contemplated by the Proposals. This divergence may make it more difficult for issuers with securities listed in the United States to take advantage of the increased flexibility allowed by the Proposals. Exemptions from certain of the U.S. requirements are available to Canadian issuers. However, given the renewed focus on corporate governance, issuers may face pressure from investor groups against making any changes that could be perceived as lowering governance standards.
Replacement Of Guidelines With Principles
Proposed National Policy 58-201 Corporate Governance Proposals sets out nine core principles that issuers should consider in designing their corporate governance structures:
- Create a framework for oversight and accountability – An issuer should establish the respective roles and responsibilities of the board and executive officers.
- Structure the board to add value – The board should be comprised of directors that will contribute to its effectiveness.
- Attract and retain effective directors – A board should have processes to examine its membership to ensure that directors, individually and collectively, have the necessary competencies and other attributes.
- Continuously strive to improve the board's performance – A board should have processes to improve its performance and that of its committees, if any, and individual directors.
- Promote integrity – An issuer should actively promote ethical and responsible behaviour and decision-making.
- Recognize and manage conflicts of interest – An issuer should establish a sound system of oversight and management of actual and potential conflicts of interest.
- Recognize and manage risk – An issuer should establish a sound framework of risk oversight and management.
- Compensate appropriately – An issuer should ensure that compensation policies align with the best interests of the issuer.
- Engage effectively with shareholders – The board should endeavour to stay informed of shareholders' views through the shareholder meeting process as well as through ongoing dialogue.
Most of these proposed principles address the areas covered by the current corporate governance guidelines, but in a more general fashion. Instead of indicating practices that an issuer should adopt, the proposed policy includes commentary and examples of ways in which an issuer can achieve the underlying objectives of each principle. In addition, by explicitly addressing conflict of interest, risk management and communications with shareholders, the proposed policy is somewhat broader than the existing guidelines. However, the content of the proposed policy generally reflects the basic duties of a board of directors and should not be controversial.
The disclosure requirements for corporate governance practices will be updated to correspond to the above principles. Under the Proposals, issuers will no longer be required to indicate whether they have complied with specific guidelines or explain why they have not. Generally, the new proposed requirements will require disclosure regarding board members, any practices or policies adopted in furtherance of the core corporate governance principles and consultants or advisors retained by the issuer in relation to those policies and practices. Codes of business conduct will no longer have to be filed but the applicable standards will need to be summarized. The new proposed requirements will apply to both venture and non-venture issuers. Accordingly, venture issuers will be subject to more extensive disclosure requirements than under the current rule.
The CSA noted that their review of disclosure under the current requirements revealed that issuers often provide inadequate disclosure of their corporate governance practices. The additional flexibility in disclosure of corporate governance practices may prompt issuers to reassess their corporate governance practices and disclosure. However, given general nature of the proposed disclosure obligations, issuers may not be required to significantly change their level of disclosure. Investor concerns, rather than the prospect of regulatory review, are likely to remain the primary motivation for issuers to consider enhancements to their governance practices and disclosure.
The CSA has requested comments on the Proposals by April 20, 2009. Please note that the Alberta Securities Commission has included additional specific requests for comment as Appendix A to the Proposals. The ASC is concerned that the Proposals my not substantially improve the current rules. The CSA has indicated that they intend to provide at least six months advance notice of implementation of the Proposals. Please click here for a copy of the Proposals.
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