Copyright 2009, Blake, Cassels & Graydon LLP
Originally published in Blakes Bulletin on Securities Regulation, January 2009
The Canadian Securities Administrators (the CSA) have published for comment proposed revisions to the existing corporate governance and audit committee regimes (the Current Materials). The CSA are requesting comments on revised versions (the Proposed Materials) of the following:
(i) National Policy 58-201 – Corporate Governance Guidelines (proposed to be renamed "Corporate Governance Principles") (the Governance Policy),
(ii) National Instrument 58-101 – Disclosure of Corporate Governance Practices (the Governance Instrument), and
(iii) National Instrument 52-110 – Audit Committees (the Audit Committee Instrument), and the related Companion Policy 52-110CP.
The Proposed Materials depart from the prescriptive language used in the Current Materials in favour of a more principles-based corporate governance framework. The CSA state that they are intended to enhance the standard of governance and confidence in the Canadian capital markets. The comment period for the Proposed Materials ends on April 20, 2009. If the proposals are accepted, the CSA have stated that they intend to provide at least six months' advance notice of implementation in order to allow issuers time to familiarize themselves with the new corporate governance and audit committee regimes.
The basic structure of the Proposed Materials is to set out principles-based governance guidelines and to require issuers to disclose the practices they use to achieve the objectives of each such principle.
PROPOSED GOVERNANCE POLICY
The CSA recognize that there is no single model of good corporate governance and that the structures and practices that are most appropriate will vary among issuers. The proposed Governance Policy reflects this recognition in that it does not purport to establish minimum standards or "best practices", but rather it would establish governance principles that a board would need to consider.
Although many of the key guidelines from the current Governance Policy are proposed to be retained, the proposed Governance Policy would recast and broaden corporate governance guidelines under the following nine core corporate governance principles:
1. Create a framework for oversight and accountability. An issuer should establish the respective roles and responsibilities of the board and executive officers.
2. Structure the board to add value. The board should be comprised of directors who will contribute to its effectiveness.
3. 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.
4. 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.
5. Promote integrity. An issuer should actively promote ethical and responsible behaviour and decision-making.
6. Recognize and manage conflicts of interest. An issuer should establish a sound system of oversight and management of actual and potential conflicts of interest.
7. Recognize and manage risk. An issuer should establish a sound framework of risk oversight and management.
8. Compensate appropriately. An issuer should ensure that compensation policies align with the best interests of the issuer.
9. 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.
Each proposed principle is accompanied by commentary that provides relevant background and explanation, along with examples of practices that could achieve its objectives (collectively, the Governance Principles). While many aspects of the Governance Principles will be familiar to issuers, the proposed Governance Policy is broader in scope than the current Governance Policy as, among other things, the current Governance Policy does not expressly address the subject matter of Governance Principles 6, 7 and 9, which are discussed in greater detail below.
Managing Conflicts of Interest
The proposed Governance Policy states that issuers should have practices in place to identify, assess and resolve actual and potential significant conflicts of interest, such as when there is a significant divergence of interests among shareholders or when a contract, arrangement or transaction is entered into between an issuer and a control person or significant shareholder. The proposed Governance Policy states that the objectives of this Governance Principle can be achieved by establishing an ad hoc or standing board committee to, among other things, identify situations where actual or potential conflicts of interests could arise.
Recognizing and Managing Risk
Pursuant to the proposed Governance Policy, risk oversight and management should focus on identifying the most significant areas of uncertainty or exposure that could have an adverse impact on the achievement of an issuer's goals and objectives. The proposed Governance Policy states that such objectives can be achieved by, among other things, developing, approving and implementing policies and procedures for the oversight and management of certain principal risks.
Engaging Effectively with Shareholders
The CSA state that issuers should engage with shareholders as a means to encourage the board to stay informed of shareholders' views in order to facilitate board accountability to shareholders. Suggested methods of engaging with shareholders include (i) posting on an issuer's website a clear description of the voting process for registered and beneficial shareholders, (ii) giving shareholders the option of voting electronically, and (iii) giving shareholders or proxy holders the option of attending meetings through electronic means.
PROPOSED GOVERNANCE INSTRUMENT
The CSA have stated that coupling the Governance Instrument's current "comply or explain" mandatory disclosure regime with the Governance Policy has resulted in some market participants perceiving the current Governance Policy as prescriptive (which is contrary to the policy's stated objective). The proposed Governance Instrument would replace these disclosure requirements with a new set of more general disclosure requirements based on the Governance Principles discussed above.
The proposed Governance Instrument would require disclosure of practices that an issuer uses to achieve the objectives of the proposed Governance Principles along with certain factual information. While some of the required disclosure will be familiar to issuers who comply with the current Governance Instrument, unlike the Governance Policy, there is very little overlap between the current and the proposed disclosure regimes. Issuers would need to revisit their existing corporate governance disclosure in order to comply with the proposed Governance Instrument. Moreover, the proposed disclosure requirements regarding managing conflicts of interest, risk management and effective shareholder engagement are new. For example, under the proposed Governance Instrument, issuers would be required to disclose, among other things: (i) their practices to identify, assess and resolve significant conflicts of interest and the roles and responsibilities of the members of any ad hoc committee appointed to address a significant conflict of interest, (ii) a summary of any policies on risk oversight and management which they have adopted, and (iii) their practices or policies related to the shareholder voting process or that promote a voting process that is understandable, transparent and robust and facilitates the board obtaining meaningful information on shareholder views.
Under the proposed Governance Instrument, issuers would also be required to disclose the name of any compensation consultant or advisor who assisted the board or the compensation committee since the beginning of the issuer's most recently completed financial year. Issuers would have to disclose (i) when such consultant or advisor was originally retained, (ii) whether such consultant or advisor performed any other work for the issuer and the nature of any such work, and (iii) the aggregate fees billed by such consultant or advisor in each of the last two financial years for professional services relating to executive compensation and professional services other than those relating executive compensation.
In addition, as a result of, among other things, the shift from the "comply or explain" disclosure regime, the proposed Governance Instrument would eliminate the distinction between "venture" (i.e., a reporting issuer that does not have any of its securities listed or quoted on the Toronto Stock Exchange or, with a few limited exceptions, any foreign exchange) and non-venture issuers that exists in the current Governance Instrument. This change would eliminate the reduced corporate governance disclosure regime that venture issuers currently enjoy, and would likely result in higher compliance costs for venture issuers, particularly in the
first year of implementation. The proposed Governance Instrument would also eliminate the requirement that an issuer file a copy of its code of business conduct and ethics on SEDAR(although a summary of any such code of business conduct and ethics adopted by the issuer, along with instructions on how to obtain a copy, would be required to be disclosed).
PROPOSED AUDIT COMMITTEE INSTRUMENT
The proposed Audit Committee Instrument introduces, among other changes, a less prescriptive approach to determining whether a director is independent. This change also affects the proposed Governance Policy and the proposed Governance Instrument as they both define "independent" as set out under the proposed Audit Committee Instrument.
Definition of "Independent"
The current Audit Committee Instrument provides that a director is independent if he or she has no direct or indirect "material relationship" with the issuer, being a relationship which could, in the view of the issuer's board of directors, be reasonably expected to interfere with the exercise of his or her independent judgment. It also goes on to prescribe "bright-line" tests that deem certain circumstances to result in an individual having a material relationship with an issuer. Under the proposed Audit Committee Instrument, a director would be independent if he or she (i) is not an employee or executive officer of the issuer, and (ii) 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.
Also, the bright-line deeming tests would be eliminated. In addition, the CSA have included guidance for assessing independence in the proposed Companion Policy 52-110CP, but ultimately, determining independence is left to the reasonable judgment of the board of directors.
According to the proposed Companion Policy 52-110CP, a director's independence could be affected if he or she:
(a) has been employed by the issuer;
(b) is, or has been, employed by an affiliate of the issuer;
(c) has a close association with an executive officer of the issuer or is actively involved in the day-to-day management of the issuer;
(d) has family ties with an executive officer of the issuer;
(e) has, or had, a significant contractual or other business relationship with the issuer or an affiliate of the issuer, other than as a director, or is a partner, shareholder, director, executive officer or employee of an entity that has such a relationship;
(f) is, or was, a significant professional advisor or consultant to the issuer or an affiliate of the issuer, an executive officer or director of such advisor or consultant, or an employee of such advisor or consultant significantly associated with the service provided; and
(g) receives, or has received, significant compensation from the issuer, other than compensation for acting as a member of the board of directors or of any board committee or fixed amounts of compensation under a retirement plan.
Moreover, the CSA state in their Request for Comment (but not in the Proposed Materials) that while a control person or significant shareholder is not disqualified from being independent, when making independence assessments, boards should consider the control person's or significant shareholder's involvement with the management of the issuer, and, depending on the nature and degree of involvement, this relationship may be reasonably perceived to interfere with the exercise of independent judgment.
The intent of the proposed changes would leave greater discretion to an issuer's board of directors to determine whether a director is independent for the purposes of serving on the audit committee or for other corporate governance purposes, given the removal of the "bright-line" deeming tests. However, as noted in comments by the Alberta Securities Commission, the proposed changes could actually reduce the discretion of an issuer's board to determine whether a director is independent as a result of people second-guessing whether a particular individual could be "reasonably perceived" to have a relationship with the issuer that interferes with the exercise of his or her independent judgment, even though the board, with its more intimate knowledge of the facts, may determine that no such relationship exists.
Also, while the current definition of independence looks at relationships which could "be reasonably expected" to interfere with a director's independent judgment, the proposed definition of independence concentrates on relationships which could "be reasonably perceived" to interfere with such judgment. The CSA believe the concept of perception to be broader than that of expectation and more appropriate in light of the deletion of the "bright-line" tests of independence. Afurther potentially significant change is the inclusion of language that suggests that an individual could never become independent if he or she had previously had a relationship that could "be reasonably perceived" to interfere with his or her independence, even if that relationship had ended (whereas the bright-line tests under the current Audit Committee Instrument in certain cases are limited to a three-year "look-back").
Other Proposed Changes to the Audit Committee Instrument
Other proposed changes to the current Audit Committee Instrument include:
- The introduction of temporary relief from the requirement that all audit committee members be independent (i) for venture issuers that become non-venture issuers, and (ii) in the context of a reverse take-over where the acquirer is either a venture issuer or a non-reporting issuer, subject in either case to certain requirements being satisfied.
- The removal of the existing exemption from the audit committee independence requirements for controlled issuers in light of the proposed new approach to independence.
- The narrowing of the exemption from certain provisions of the Audit Committee Instrument currently provided to certain U.S. listed issuers, and certain subsidiaries of U.S. listed issuers, such that the exemption would only apply where, among other things, such issuers had equity (in the case of the subsidiary exemption) securities listed or quoted on the New York Stock Exchange or Nasdaq Stock Market (in contrast to the current requirements that relate to any securities listed or quoted on any "U.S. marketplace" registered under the U.S. Securities and Exchange Act of 1934). The proposed Governance Instrument would also narrow a similar exemption from corporate governance disclosure for certain subsidiaries of U.S. listed issuers in a similar manner (although such subsidiaries have been, and would still be, subject to the Governance Policy). It is noted that, as is currently the case, the proposed Audit Committee Instrument does not apply to "designated foreign issuers" or "SEC foreign issuers" as defined in National Instrument 71-102 – Continuous Disclosure and Other Exemptions Relating to Foreign Issuers.
- The requirement that, in addition to an issuer not publicly disclosing its financial statements, MD&A or annual or interim earnings news releases without audit committee review (as is currently the case), an issuer not disclose information derived from any such documents without audit committee review.
- Moving the required audit committee disclosure for non-venture issuers sending proxy circulars in connection with director elections to the information circular, instead of the annual information form, as is currently the case.
- New principles-based Canadian corporate governance policy and related disclosure rule as well as revisions to audit committee rule have been proposed
- Proposed corporate governance policy would be similar to, but broader in scope than, the current policy and would, among other things, address three new areas: managing conflicts of interest, risk management and effective shareholder engagement
- Issuers would need to revisit existing corporate governance disclosure to address more general requirements, which would apply equally to "venture issuers" and non-venture issuers, replacing the existing "comply or explain" disclosure regime
- Issuers would need to re-confirm director independence in light of proposed changes to definition, which would eliminate the current "bright-line" tests (other than in relation to employees and executive officers), leaving the determination of independence to a board's reasonable judgment based on principles, having regard to certain prescribed factors
- If proposed changes are brought into force, the CSA intend to provide at least six months' advance notice of implementation
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