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PREPARATION AND FILING OF OFFERING MEMORANDA AND REPORTS OF EXEMPT DISTRIBUTION UNDER NATIONAL INSTRUMENT 45-106
The exempt market has been the focus of increased attention by the regulators over recent years and guidance provided in notices issued by the Canadian Securities Administrators (CSA) on April 26, 2012 show that this trend continues. The guidance is contained in two staff notices: Multilateral CSA Staff Notice 45-309 Guidance for Preparing and Filing an Offering Memorandum under National Instrument 45-106 Prospectus and Registration Exemptions [available here] (the OM Notice); and CSA Staff Notice 45-308 Guidance for Preparing and Filing Reports of Exempt Distribution under National Instrument 45-106 Prospectus and Registration Exemptions [available here] (the Exempt Report Notice). The notices contain guidance for issuers and other participants in the exempt market on a number of key issues relating to the preparation, use and ling of an offering memorandum (OM) and reports of exempt distribution under National Instrument 45-106 Prospectus and Registration Exemptions (NI 45-106).
Among other things, the notices describe common deciencies observed by the regulators and provide useful, and in some cases surprising, guidance regarding the regulatory expectations for disclosure in OMs prepared in connection with the prospectus exemption contained in section 2.9 of NI 45-106. In addition, the notices also discuss the potential consequences of non-compliance a clear reminder that the CSA have and will continue to take action when these requirements are not met. Perhaps most importantly, the notices remind issuers that the use of prospectus exemptions under NI 45-106 is subject to regulatory oversight and monitoring, and demonstrate that CSA staff will review lings required by NI 45-106 (including OMs and reports of exempt distribution) or an issuers or underwriters reliance on the availability of a prospectus exemption for the issue and sale of securities. This bulletin highlights some of the key issues raised in the notices.
Omitting key terms of material agreements Omitting compensation disclosure Inadequately disclosing management experience Disseminating material forward-looking information not included in the OM Failing to comply with financial statement requirements Improperly certifying an OM. Several of these deciencies are discussed below. Failing to update the OM when distributions are ongoing The CSA has observed a number of issuers making distributions under the OM exemption but using a stale-dated OM. An OM can become stale-dated either as a result of the certicate ceasing to be true or the annual nancial statements included in the OM becoming outdated. An OM prepared in connection with the OM exemption must contain a certicate stating This offering memorandum does not contain a misrepresentation. A misrepresentation is generally dened as: (a) an untrue statement of a material fact; (b) the omission to state a material fact that is required to be stated; and (c) an omission to state a material fact that is necessary to be stated in order for a statement not to be misleading. The certicate on the OM must be true on (a) the date the OM is prepared and the certicate is signed; (b) the date the OM is delivered to a purchaser; and (c) the date the securities are distributed to such purchaser. For example, if there is a change in material facts disclosed in an OM, such that the certicate in
Using an incorrect form of update Failing to include sufficient information to make an informed investment decision Inadequately disclosing the issuers business Failing to provide balanced disclosure Inadequately disclosing available funds and use of available funds
the OM is no longer true after delivery of an OM to a purchaser, the issuer is unable to distribute securities under that OM until the issuer updates that OM (which must include a newly dated and signed certicate page) and provides that OM to the purchaser, and the purchaser must re-sign the agreement to purchase the securities. Inadequately disclosing the issuers business Under NI 45-106, OMs must provide sufficient information about an issuers business and the development of the business to enable a prospective purchase to make an informed investment decision. The OM Notice notes that some issuers have provided very little disclosure about their business and its development, and provides guidance on the type and nature of disclosure that is expected by the CSA, in particular for mortgage investment entities, investment funds, real estate development entities and entities with interest in rental properties. Issuers should review this guidance carefully. As well,the OM Notice reminds issuers that the OM certicate mandates disclosure of all material facts regarding the issuer and its business.
rather, they are only to disclose sources of funding that are currently available (such as nancing that has been arranged through a bank). This is an interesting clarication given that on a plain reading the terms required and available would have much different meanings. We hope that the CSA amend Form 45-106F2 and Form 45-106F3 to reect the guidance in the OM Notice. Start-up issuers often have failed to include interest payments or cash distributions as intended uses of available funds in OMs when the issuer does not or will not have other sources of funding of cash ow to meet such obligations, other than net proceeds of the offering. For example, a start-up issuer that requires three years for its proposed project to begin generating cash ow that offers bonds with a 10% coupon to prospective purchasers, is required to disclose that 30% of the offering proceeds will be used to fund interest payments on the bonds if no other sources of funding are available. Many issuers have used generic descriptions
Inadequately disclosing available funds and use of available funds Highlights of the OM Staff Notice on this topic include: In Item 1.1 Funds of Form 45-106F2, the CSA has stated that the line item Additional Sources of Funding Required actually means Additional Sources of Funding Currently Available to the issuer, which the issuer plans to combine with the available funds from the offering. The notice indicates that issuers are not to disclose that they need additional sources of funding in this line item;
for Item 1.2 - Use of Available Funds of Form 45-106F2, such as for the purposes of investment and eligible properties and, then, stated the entire amount of the available funds being used for such purpose. However, Form 45-106F2 requires issuers to provide a detailed breakdown of the intended uses of available funds. For start-ups, this may include capital costs, general and administration costs, and sustaining capital until the issuer expects to be self-sufcient. While Form 45-106F2 does not prescribe specic line items, issuers should carefully consider if the disclosure
they provide in this table is sufcient for a prospective purchaser to make an informed investment decision and if omission of material information would constitute misrepresentations. Issuers often fail to adequately disclose payments made to related parties as required by the instructions to the Use of Available Funds table. Inadequately disclosing management experience The CSA note that, in many cases, issuers inadequately disclose management experience. Often the disclosure of management experience is overly promotional in nature or is too generic or insufcient for a prospective purchaser to evaluate managements background and ability to operate the issuers business. For example, a general statement such as has over 15 years of real estate experience is too generic and could be misleading without further explanation, depending on the nature of the experience. To enable a prospective purchaser to make an informed investment decision, the CSA indicate that an issuer should ensure that the description of managements previous experience and occupations is accurate, relevant and clearly described rather than simply listing prior occupations.
from disseminating any material forward-looking information during the course of distribution of securities unless that material forward-looking information is set out in the OM and, accordingly, is certied by the certicate. Further, such material forward-looking information must comply with sections 4.A.2 and 4.A.3 of National Instrument51-102 Continuous Disclosure Obligations. Failing to comply with nancial statement requirements The CSA note that in many cases issuers were not complying with the OM nancial statement requirements, including audit requirements. Issuers that offer securities using the OM exemption are required to comply with accounting principles and standards of a publicly accountable enterprise (other than some limited exemptions within New Brunswick). Issuers should carefully review the instructions in Form 45-106F2, as well as National Instrument 52-107 Acceptable Accounting Principles and Auditing Standards to ensure that their nancial statements comply with the appropriate rules.
Disseminating material forward-looking information not included in the OM The CSA has observed that some issuers relying on the OM exemption have provided prospective investors with material forward-looking information that was not included in the OM (such as information regarding expected returns). Item A.12 of the instructions to Form 45-106F2 prohibits issuers
deciencies in reports of exempt distribution that have been led with the securities regulators, which include: Failing to use the correct form Failing to file report on time Failing to pay the required fee
is generally 10 days after the distribution. However, investment funds have the option of ling on an annual basis, within 30 days of their nancial year end when relying on section 2.3 (accredited investor exemption), 2.10 (minimum investment of $150,000 exemption) or 2.19 (additional investment in investment funds exemptions) of NI 45-106. However, this option is not available for investment funds using the OM exemption (in jurisdictions where such exemption is available). Relying on unavailable prospectus exemptions In some instances, issuers have not disclosed the correct prospectus exemptions that were used. Form 45-106F1 and Form 45-106F6 must indicate the appropriate prospectus exemption for each purchaser in Schedule I. This may require the issuer or underwriter to report (in Schedule I) multiple exemptions relied on for the same purchaser in circumstances where the distribution is made in more than one jurisdiction and the same exemption is not available in those jurisdictions. For example, an issuer or underwriter relying, in Alberta, on section 2.5 of NI 45-106 (family, friends and business associates exemption, which is not available in Ontario) and, in Ontario, relying on section 2.7 of NI 45-106 (founder, control person and family Ontario exemption) for a distribution to the same purchaser, would identify both sections 2.5 and 2.7 of NI 45-106 in Schedule I as the applicable prospectus exemptions relied on for that particular purchaser. Failing to disclose all commissions and
Relying on unavailable exemptions Failing to disclose all commission and nders fees
Failing to provide complete information regarding convertible or exchangeable securities distributed Improperly reporting distributions under the minimum amount exemption Failing to certify the report. Several of these deciencies are discussed below. Failing to use the correct form The required form for a report of exempt distribution is Form 45-106F1 Report of Exempt Distribution, except in British Columbia where, subject to certain exemptions, the required form is Form 45-106F6 British Columbia Report of Exempt Distribution. The CSA have observed issuers or underwriters ling a Form 45-106F6 outside British Columbia. However, the ling of a Form 45-106F6 is only accepted in British Columbia. If a distribution occurs in British Columbia and elsewhere in Canada, the issuer or underwriter is required to le a Form 45-106F6 with the British Columbia Securities Commission and le a Form 45-106F1 in the other applicable jurisdictions, unless exemptions from the requirement to use Form 45-106F6 are available (see BC Instrument 45-533 Exemptions from Form 45-106F6 [available here]). Failing to le reports on time The deadline for ling a Form 45-106F1 or Form 45-106F6
nders fees Some issuers or underwriters are not reporting compensation paid in
connection with a distribution. In some of these cases the payment was not disclosed because the parties did not call it a commission or nders fee. However, Form 45-106F1 requires an issuer or underwriting to disclose compensation received or to be received by any person in connection with a distribution. Compensation includes commissions, discounts or other fees or payments of a similar nature
which result from a distribution of securities, regardless of what the payment is called. For example, a brokerage fee or nance fee for a syndicated mortgage is compensation in connection with a distribution. Compensation does not include payments for services incidental to the distribution (such as clerical printing, legal or accounting services).
Please contact the authors or your usual lawyer in BLGs Securities & Capital Markets Group if you would like further information regarding these requirements. ms
AUTHORS
Jason Brooks Vancouver 604.640.4102 jbrooks@blg.com Jonathan Doll Calgary 403.232.9659 jdoll@blg.com M. Scott Wilson Calgary 403.232.9505 mswilson@blg.com ms
Regional Leaders
Derrick Armstrong Fred Enns Jeremy Farr Philippe Tardif Nigel P. Cave nc Calgary 403.232.9430 darmstrong@blg.com
Montral 514.954.2536 fenns@blg.com Ottawa 613.787.3511 jfarr@blg.com Toronto 416.367.6060 ptardif@blg.com Vancouver 604.640.4161 ncave@blg.com
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