The Ontario Securities Commission (OSC) has suspended the registration of Emerge Canada Inc. for capital deficiency, which is a breach of securities law.

“There is no timeline or certainty as to when Emerge Canada will bring itself into compliance with the working capital obligations,” stated the OSC in a decision released Thursday.

The OSC had placed the firm’s 11 ETFs under a cease-trade order on April 6 for failing to file its financial statements.

As reported by Investment Executive last month, Emerge’s suite of six ARK ETFs was due more than $2.5 million in receivables from Emerge as of June 30, 2022 — an amount that had grown more than fivefold over two-and-a-half years.

Today’s OSC decision states that receivable is now approximately $5.5 million, which represents about 5% of the assets held in the six ARK ETFs as of May 10.

The decision also shows that affiliated firm Emerge US owes Emerge Canada $4.5 million as of Sept. 30, 2022 and approximately $3.4 million as of April 10.

The OSC found that the U.S. receivable was “not readily convertible into cash,” saying that Emerge cannot include its receivable in its calculation of excess working capital or as a current asset on its balance sheet. Investment fund managers are required to have minimum working capital of $100,000.

The decision stated that Lisa Langley, CEO and chief compliance officer of Emerge Canada, and president of Emerge US, had made “repeated attempts to raise funds, but to date no transaction has been completed that would fully discharge the related-party receivable.”

The OSC also stated that Emerge Canada must exclude the value of crypto tokens that it had declared as part of its working capital requirement.

As of Mar. 31, Emerge Canada submitted that it had a working capital deficiency of $1.5 million, before excluding the U.S. receivable and the crypto tokens.

The decision states that Emerge Canada “knew or ought to have known that it was working capital deficient in September 2022, and was likely deficient at some point prior to Sept. 30, 2022.”

Along with suspending Emerge Canada, the OSC permitted Emerge to conduct an orderly wind-down of its current business, which may include winding down the 11 ETFs under a cease-trade order.

The OSC also is allowing for the possibility of Emerge to arrange for another firm to assume responsibility for the 11 ETFs.

BMO Global Asset Management began offering versions of three ARK funds in November.

In Emerge’s submission to the OSC, the firm argued a windup of the Emerge ETFs would be overly punitive because Emerge Canada is unable to pay the $5.5 million it owes to the Emerge ARK ETFs until Emerge US pays off its receivable in full. Further, Emerge said that “forcing a sale of the assets of the funds may occur at liquidation values.”

The $5.5-million figure represents about 5% of the assets held in the six ARK ETFs as of May 10.

However, Debra Foubert, director of the compliance and registrant regulation branch of the OSC, stated that registrants “without sufficient working capital cannot be permitted to continue to operate for extended periods of time, without placing investors at risk and diminishing public confidence in Ontario’s capital markets.”

Foubert acknowledged Emerge’s innovation efforts in her decision.

“While I applaud the fact that Emerge is breaking ground as North America’s first all-women investment team managing innovative and socially responsible investment strategies, it did not form any part of my decision as the regulatory requirements apply equally to all registrants, in the absence of specific exemptions,” she wrote.

In a statement, Emerge Canada said it was considering its next steps in light of today’s decision.

What the suspension means for clients

Clients who hold Emerge’s ETFs have been unable to trade them since April 6, leading many to wonder when their money would be accessible. Emerge’s suspension at least shortens the waiting game, said Yves Rebetez, partner with Credo Consulting Inc. in Oakville, Ont.

“The timeline has been significantly reduced,” Rebetez said. “The potential cloud of having to wait for their money to be put back in their hands for an underdetermined period has been lifted. I would expect for all of this to be resolved in relative short order.”

The OSC’s decision requires Emerge to “act promptly” to wind down their funds or have another firm assume them.

Clients who still want exposure to the ARK strategies could consider the three ETFs offered by BMO or the U.S.-traded ETFs offered by ARK Investment Management LLC, Rebetez suggested.

During the cease-trade order, the funds’ custodian, RBC Investor Services, has been reporting a daily net asset value (NAV) for each of Emerge’s 11 ETFs. Performance over the past month has been poor, but year-to-date performance for the ARK ETFs has seen a rebound.

Rebetez cautioned that the windup could result in investors receiving an amount below NAV, because “something that was labelled an asset in the calculation of these ETFs’ and mutual funds’ net asset value turns out to be not a realizable asset.”

As for the larger implications of Emerge’s suspension, “I would expect auditors are going to be paying more attention” to investment funds’ financial statements, Rebetez said. “Quite clearly, investors are going to be paying more attention.”

BDO Canada LLP, which resigned as Emerge’s auditor in November, did not immediately respond to a request for comment.

Rebetez also lamented the effect this situation could have on the market for smaller players in Canada, particularly in an environment where large players are already hesitant to make room for new and untested products on their shelves.

“No one’s going to get fired for buying [a blue-chip stock like] IBM,” he said. “The day something goes wrong with the Tier 2 or Tier 3 player, the advisor or firm might get some flack.”

He added that small players will have trouble growing to the size where large firms feel confident adding them to their shelves if initial distribution proves difficult.

This article was updated to clarify the receivable owed by Emerge US to Emerge Canada.