Retail investors in Ontario now have access to securities that previously were available only to accredited investors
By: Dwarka Lakhan
The introduction of a new offering memorandum (OM) prospectus exemption in Ontario on Jan. 13 makes raising capital easier for businesses. At the same time, the OM exemption creates new investment possibilities for your clients.
“The introduction of the OM exemption is a big step forward for issuers in Ontario, which previously had to deal with a narrow population of accredited investors or family and friends,” says Peter Dunne, partner, securities registration and compliance practice, with law firm Cassels Brock & Blackwell LLP in Toronto.
Ontario is the last Canadian jurisdiction to adopt such legislation. The OM exemption opens a wide range of exempt-market investment opportunities that have not been available to retail investors before now. The attraction of these investments, which are largely private, are lack of correlation with equities and fixed-income securities, and the potential for higher risk-adjusted returns.
The OM exemption is “in line with the continuing effort by the Ontario Securities Commission (OSC) to facilitate a cost-effective means for issuers to raise capital, especially small and medium-sized enterprises (SMEs), while ensuring the necessary level of investor protection,” says Charlie Malone, partner, corporate, commercial and securities law, with Wildeboer Dellelce LLP in Toronto. The new exemption contains requirements for information disclosure by issuers, which are designed to protect investors.
The OSC’s action follows a collective agreement made on Oct. 29, 2015, with regulators in Alberta, New Brunswick, Nova Scotia, Quebec and Saskatchewan to harmonize exemption requirements. As a result, these five regulators amended their existing rules to bring them in line with Ontario’s. The rules will take effect in these provinces on April 30, pending ministerial approval.
OM exemptions that exist in British Columbia, Manitoba, Prince Edward Island and the Territories remain unchanged, meaning that there will be two forms of exemptions across the country, says Barbara Hendrickson, CEO and founder of BAX Securities Law in Toronto.
As a result, you should be aware of different provincial exemption and investor eligibility rules. In B.C. and Newfoundland and Labrador, for example, these rules are less restrictive than those in Ontario.
Under Ontario’s new rules, the total cost of OM-based securities that an eligible individual can acquire within a 12-month period cannot exceed $30,000. However, eligible individuals who have received advice from a portfolio manager, investment dealer or exempt-market dealer on the suitability of such investments can invest up to $100,000 a year.
(An eligible investor is someone whose net income before taxes exceeds $75,000 – or $125,000 combined in the case of an investor and spouse – in each of the two most recent calendar years and who reasonably expects to exceed that income level in the current calendar year; or an individual whose net assets exceed $400,000. An ineligible individual – someone whose income and assets lie below those thresholds [a.k.a. an “average” retail investor] can invest up to $10,000 a year.)
The existing rule that allows accredited investors (which permits individuals who meet criteria for being designated an accredited investor, or a family member, friend or business associate) to invest in OM securities remains in effect, says Dunne: “These investors can invest an unlimited amount.”
In Ontario, an individual qualified to be an accredited investor must:
– own financial assets of more than $1 million, net of liabilities; or
– have a net income before taxes of more than $200,000 in each of the two most recent years, and have a reasonable expectation of exceeding the same net income level in the current year; or
– have combined net income before taxes with their spouse that exceeded $300,000 in each of the past two years and have a reasonable expectation of exceeding the same net income level in the current year.
Ontario’s new OM exemption imposes additional continuous disclosure requirements on issuers. Previously, non-reporting issuers were not required to provide disclosure on an ongoing basis, says Malone. But, given the potential for increased risk to investors who purchase securities under the exemption, he says, issuers now have to meet new ongoing disclosure obligations.
Under the new, harmonized OM requirements of the bloc led by Ontario, issuers now must file OMs with the appropriate securities regulator in a form prescribed by the OSC, together with any marketing materials used in the distribution process, thus making the documents part of the public record. However, OMs will not be subject to regulatory review prior to the completion of an offering. In the past, Hendrickson notes, issuers were not permitted to include marketing materials in an OM.
Given that OMs now must make reference to any marketing materials used for distribution, says Malone, such materials will be “subject to the same statutory liability for misrepresentation as the offering memorandum.”
In addition to an OM, exempt-market issuers must provide investors with audited financial statements and detailed issuer information during the distribution process. As part of the ongoing disclosure requirements, investors must be given audited annual financial statements accompanied by details of the use of proceeds raised through an OM.
Issuers in Ontario, New Brunswick and Nova Scotia must notify investors within 10 days if discontinuing the business, changing industries or of a change in control of the issuer’s ownership.
All investors in Ontario currently must sign a risk acknowledgement form that indicates that they are aware that they could lose a part or all of their investment when investing in an OM. Now, they must complete two more forms: one confirming their investor status – that is, whether they’re an eligible, non-eligible or accredited investor, or whether they qualify under the family, friends and business associates exemption; in the other, the investor must confirm that they’re complying with the investment limit to which they are subject.
The new exemption levels in Ontario provide investors with a new right of withdrawal from an OM investment within two business days and the ability to take legal action if there is misrepresentation in the information contained in the OM.
The increased costs incurred and time spent complying with the new Ontario rules may make the OM exemption significantly less appealing to many early-stage SMEs, Malone says
However, Hendrickson suggests, most issuers already meet many of the new requirements; thus, they won’t be a burden.
Dunne argues that the new requirements are a leap forward for issuers that want to be “respectable and distinguish themselves in a credible way.”
In the March issue: Helping clients understand exempt-market securities and how they might fit into a portfolio.
the first of three articles in a series on exempt-market investing
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