Industry groups balk as regulators propose to step up their oversight on transactions in this unregulated arena

By James Langton | Mid-November 2015

THE EXEMPT MARKET in Canada has become a popular arena for companies to raise funds in recent years simply because this market is largely outside the regulated sphere. But as securities regulators take greater notice of the exempt market, they risk smothering it.

Canadian securities regulators have become increasingly keen on the exempt market over the past couple of years. In a bid to boost the raising of capital, particularly by small companies, regulators have been busy crafting new prospectus exemptions.

For example, in late October, the Ontario Securities Commission (OSC) unveiled a new offering memorandum (OM) exemption. And several other provinces have revised their existing OM exemptions, both to align them with the new OSC exemption and to bolster investor protection.

Earlier last month, regulators in Alberta and Nunavut proposed a new startup exemption designed to mimic the crowdfunding exemptions that recently were adopted in several provinces. Ontario is expected to introduce its own crowdfunding exemption this month.

Back in August, the Canadian Securities Administrators (CSA) proposed the introduction of a new, harmonized report for exempt distributions. While this report is supposed to ease reporting by firms active in the exempt market by establishing a single report that can be used throughout the country to make required regulatory filings, there are serious concerns with the CSA's plan.

According to comments submitted on the CSA proposal, most industry players are supportive of harmonized reporting, but they also are worried about the planned increase in the volume and detail of information the regulators are seeking to collect. Indeed, the CSA is looking to increase dramatically the amount of information the regulator collects about the firms raising money in the exempt market, the distributions those firms are making to raise those funds and the participants in those deals.

Regulators are planning to require this stepped-up reporting for a couple of reasons. First, to enhance their understanding, and oversight, of the exempt market. Second, to improve the transparency of these markets by publishing more information about the market activity.

In mid-October, the OSC also announced that it would begin publishing summaries of exempt distribution reports on its website.

Yet, some in the investment industry are concerned that ramping up disclosure demands on exempt market issuers will create an overwhelming new regulatory burden that will erode the appeal of issuing in that market.

For example, a number of comments warn that foreign issuers are not likely to bother to issue securities in the Canadian market if those issuers have to increase substantially the amount of information reported to regulators.

"We believe that, if adopted, the proposed report will have a significant chilling effect on private placements in Canada," says the comment from Davies Ward Phillips & Vineberg LLP (DWPV) of Toronto. That comment suggests that the proposals will make raising money in the exempt market in Canada less attractive for issuers, therefore also making accessing foreign securities via private placement more difficult for Canadian institutional investors.

Other critics of the proposals, such as the Investment Industry Association of Canada (IIAC), worry that the proposed changes raise concerns regarding efficiency, privacy, security and competitiveness for domestic firms.

For example, according to the IIAC's comment: "It appears the purpose of the proposed report has expanded from requiring the issuer to provide sufficient information to track compliance with the regulation, to providing the regulators and the public with significantly expanded disclosure, which, in certain cases, does not provide additional investor protection, and raises privacy and confidentiality concerns that may discourage issuers and certain investors from participating in such transactions."

The IIAC's comment warns that certain elements of the information the CSA is seeking could be used by competitors, or by firms dealing with an issuer, to gain a strategic advantage in the marketplace.

While the IIAC comment acknowledges that reporting certain additional information to the regulators may help them oversee the market, that comment also suggests that public disclosure of this information is not necessary.

The comment from DWPV argues that even the regulators shouldn't have access to this information: "In our view, the purpose of exempt trade reporting is to allow securities regulators to monitor compliance with prospectus and registration exemptions.

"The proposed report," the DWPV comment continues, "should not be used as a fishing expedition or information gathering exercise about the affairs of companies that have every right to operate - within the confines of the law - as private entities."

The regulators maintain that to expand the amount of information they collect from issuers is necessary to help monitor systemic risk, better understand the firms that are operating in the exempt market and enable the regulators to draw connections between both firms (issuers and dealers) and individuals (executives and directors).

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