Editor’s note: This column was written by former Inside Track columnist Ermanno Pascutto. Pascutto is the founder, former executive director and member of the board of directors of the Canadian Foundation for the Advancement of Investor Rights (a.k.a. FAIR Canada). He has had a career spanning more than 30 years as a senior securities regulator and legal practitioner in the financial markets in Canada and Hong Kong.
The majority of issuers on the TSX Venture Exchange (TSXV) are struggling to raise additional capital in today’s market. Exploring ways of modifying existing methods of raising capital so that issuers can do so in an effective and cost-efficient basis, while maintaining adequate investor protection, is much needed.
As such, securities regulators are currently consulting on an initiative to allow TSXV listed issuers to raise money by distributing securities to their existing shareholders on a prospectus-exempt basis. Such an initiative is to be supported so long as mechanisms are in place to prevent abuse and ensure fairness to all shareholders — as well as adequate investor protection.
The key components of the proposed exemption are that the TSXV listed issuer is in compliance with disclosure requirements and is offering to sell shares of the same class as is listed on the TSXV to its existing shareholders. The issuer must issue a news release disclosing the proposed offering, including details of the use of proceeds and each investor must confirm in writing to the issuer that as of the “record date” the investor held the type of listed security that the investor is acquiring under the proposed exemption.
A standard four-month hold period will be imposed on securities issued under the proposed exemption. It’s proposed that an investor can purchase up to $15,000 if no suitability advice is provided, but there’s no dollar limit where the investor has received advice from a broker.
The Canadian Foundation for Advancement of Investor Rights (FAIR Canada) supports an exemption that has the key features of rights offerings or private placements in compliance with the TSXV’s private placement rules. These features include a fair opportunity for all shareholders to participate, pro-rata take up and the prevention of abuses by insiders and other market participants. Some suggestions to improve the CSA proposal include:
- Rather than arbitrary limits or no dollar limit, shareholders should be able to purchase additional shares consistent with their existing shareholdings. (For example, if an investor holds 10,000 shares, he or she can purchase up to an additional 10,000 shares.) This would be based on the investor’s holdings as of the record date.
- A “record date” that is some reasonable period of time prior to the date of announcement of the financing (i.e. 30 days) should be mandated to prevent abuse by market participants;
- The TSXV’s private placement rules should be made an integral part of the proposed exemption so as to be enforceable by the securities regulators.
- There should be a limit on the amount raised under the new exemption in any 12-month period to no more than 25% of the number of the outstanding securities of that class.
- Limits should be placed on the amount to which insiders can subscribe to a pro-rata amount where the offering is oversubscribed. For example, if insiders own 10% of the outstanding shares, they should only be able to subscribe for up to 10% of the offering so as to allow all existing shareholders to have equal and fair access to the offering.
- The announcement of the offering should also disclose the holdings of insiders and whether insiders intend to subscribe to the offering in whole or in part. Insiders should be permitted to subscribe only where they disclose an intention to do so.
- Finally, given that investing in TSXV-listed issuers is high risk, FAIR Canada recommends investors be warned that increasing their shareholdings results in increasing their exposure to high-risk investments and that they should consider whether, in light of their portfolio, it’s appropriate to do so.
Rights offering are commonly used in other jurisdictions, such as the U.K., Hong Kong and Australia to raise billions of dollars annually, while they are rarely used in Canada. FAIR Canada encourages securities regulators and other interested stakeholders to examine why rights issuers are not used in Canada.
FAIR Canada believes that such information may lead to successful modifications of the rights offering exemption that will lead to greater capital formation while providing appropriate investor protection. We’re confident that rights offerings can be streamlined to reduce the costs and shorten the time periods so as to make the exemption more attractive to listed companies.
Reform of raising capital should focus on sound concepts such as rights offerings to existing shareholders rather than “flavour of the month” ideas such as equity crowdfunding. Exemptions based on fundamental principles of securities regulation are far more likely to lead to true capital formation, efficient markets and better protection for investors.