Executive Compensation Disclosure and Analysis: Amendments to Form 51-102F6 Statement of Executive Compensation

Lorway Gosse, Toronto

General

Issuers should be aware that, beginning October 31, 2011, publicly traded companies will be required to provide enhanced disclosure related to executive compensation, as well as any risks associated with the company’s compensation practices.  The amended Form 51-102F6 Statement of Executive Compensation (“Form 51-102F6”) is meant to provide investors with greater insight into the company’s methods for tying managerial incentives to the company’s performance and to highlight any risks that might arise from the compensation plans adopted by the board.

The new requirements are in part a result of the Canadian Securities Administrators’ (“CSA”) findings from their 2009 compliance review of a sample of public companies’ executive compensation disclosure. The CSA found that, while the great majority of sampled companies generally met the then-existing disclosure requirements, most issuers still had to improve their disclosure for future filings.  The CSA also considered a number of recent international developments, including the new compensation and corporate governance disclosure requirements contained in the Dodd-Frank Wall Street Reform and Consumer Protection Act adopted by the United States Securities and Exchange Commission.

The Amendments

A particularly important amendment to Form 51-102F6 is the addition of Sub-Section 2.1(5), which creates an obligation to disclose whether the board adequately considered the implications of the risks related to its compensation policies and practices.  This disclosure must include a discussion of: (a) the extent and nature of the board’s role in risk oversight; (b) the methods used to identify and mitigate practices that might encourage “inappropriate or excessive risks”; and (c) any identified risks that might reasonably have a material adverse effect on the company.  Currently, companies are required to disclose the nature of their compensation plans and what those plans are intended to reward, but the required new disclosure will also consider how those compensation plans might expose the company to potential hazards by encouraging management to take excessive risks that may not be in the company’s best interests.

For example, in addition to describing performance goals, perquisites, events that trigger awards, etc., companies will now be required to disclose, among other things, unlimited incentive plans, performance goals that are weighted heavily toward short-term objectives, and practices which award incentives upon accomplishment of a task while the risk to the company associated with that task extends over a significantly longer period of time.  Heightened transparency in these matters is meant to provide investors with greater comfort that performance benchmarks are aligned with the company’s long-term interests.

The amendments also require that companies disclose: (a) where they are exempted from the normal requirements to disclose performance goals on the basis that disclosure would be prejudicial (as well as why the exemption applies); (b) whether any members of management are permitted to purchase financial instruments designed to hedge against or offset a decrease in the market value of securities held by management; and (c) information about any compensation advisor retained by the company, including the advisor’s mandate, other work the advisor has done for the company, and a breakdown of fees paid for each service provided.

Seek Advice

Familiarity with the above-described amendments and the risks associated with operating in a given industry will be crucial in ensuring ongoing disclosure compliance.  Legal counsel can play an important role in developing explicit policies that address the risks related to compensation plans, as well as assisting with drafting the required executive compensation disclosure and analysis.  Because these amendments took effect on October 31, 2011, it is very important to direct the necessary attention to articulating appropriate policies and practices, as well as preparing to properly inform investors of the steps a company has taken to align managerial incentives with shareholder interests.

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Why the Supreme Court Said No

Andrew M. Robinson, Toronto
Megan Mackey, Toronto

On December 23, 2011, the Supreme Court of Canada (the “Supreme Court”) issued its decision to reject the federal government’s attempt to create a central body to regulate securities across Canada.  Recommendations for national securities regulation in Canada are not new, but this was Canada’s first attempt at implementing a national scheme.  Here we provide some background on proposed legislation and the reason the Supreme Court held it was unconstitutional.

The Proposed Legislation

Securities have always been regulated by the provinces, in accordance with the Constitution Act, 1867.  It is well established that the provinces, and not the federal government, have the power to regulate securities within their borders.

The federal government proposed a comprehensive national regime of securities regulation that would have governed all aspects of securities. The legislation’s stated purposes were to provide investor protection, to foster fair, efficient and competitive capital markets, and to contribute to the integrity and stability of Canada’s financial system. The proposed scheme, which mirrors existing provincial legislation, would have applied only to provinces which opt-in to it.  The hope was that eventually all or most provinces would opt-in.  The ultimate goal was to harmonize existing provincial legislation by creating a single securities statute to reflect both domestic and international best practises.

The legislation, had it been finalised, would have regulated all aspects of securities including the registration and conduct of dealers, prospectus and disclosure requirements, take-over bids and issuer bids, insider trading and self-dealing, investigations, enforcement, and civil liability for both primary and secondary market disclosure.  The scheme would have created a national commission responsible for the administration of Canadian securities law and an independent adjudicative tribunal.

The proposal to regulate securities at a national level, a marked departure from the status quo, was not universally well received. While Ontario supported the proposed legislation, Alberta, Québec, Manitoba, New Brunswick, British Columbia, and Saskatchewan opposed it. Alberta, Québec, Manitoba, and New Brunswick felt the proposed legislation trenched on provincial jurisdiction to regulate contracts, property, and professions. British Columbia and Saskatchewan supported the idea of a national securities regulator if it could be achieved in a manner that respected the division of powers between the federal and provincial governments.

The Legal Challenges to the Proposed Legislation

In what is called a “Reference”, both Québec and Alberta, the two provinces most opposed to the scheme, referred the legislation to their respective Courts of Appeal and asked the courts to provide an opinion on the constitutionality of the proposed scheme. Both Courts of Appeal found that the legislation was unconstitutional.

The federal government launched its own Reference, asking the Supreme Court of Canada to determine whether Parliament had the authority to enact the proposed legislation. A Reference directly to the Supreme Court is a more efficient method of ultimately determining the constitutionality of federal legislation since References from provincial Courts of Appeal are subject to a final appeal to the Supreme Court in any event. The federal government, seven provinces, and eight interest groups all made submissions to the Supreme Court at a hearing in April, 2011.

The question referred to the Supreme Court was narrowly framed. The federal government asked the Supreme Court to determine whether it has the ability to regulate securities as part of its jurisdiction over “trade and commerce” under section 91(2) of the Constitution Act, 1867.

The Decision by the Supreme Court

The Supreme Court held that the federal government could not comprehensively regulate securities on a national level under its power to regulate trade and commerce.  Specifically, the Supreme Court stated that the proposed legislation, as drafted, would not be valid under s. 91(2) of the Constitution Act, 1867. The proposed act overreaches federal jurisdiction because it attempts to regulate all aspects of securities on an exclusive basis.

The Supreme Court expressly stated that it would not determine whether a single federal regulator was preferable to multiple provincial schemes. Efficaciousness and policy considerations are not relevant to the constitutionality of legislation and were not considered by the Supreme Court. The legal challenge thus turned solely on the interpretation of the Constitution Act, 1867.

The validity of the legislation came down to the breadth of the federal government’s ability to regulate trade and commerce.  The federal government’s primary argument in support of the legislation was that economic activity has become so interprovincial and international in nature that it now falls entirely under federal power.  The fact that the proposed legislation largely replicated existing provincial schemes, however, suggested that the securities market has not transformed.  The legislation was ultimately found to be unconstitutional because it would descend into industry-specific regulation and displace provincial legislation entirely.  For example, registration requirements applicable to securities dealers in Saskatchewan or Québec are not relevant to the national interest in competitive capital markets, and do not fall within the federal government’s general powers to regulate trade and commerce.

Portions of the act would fall under federal jurisdiction and would otherwise be valid, such as the regulation of systemic risks that threaten the marketplace as a whole. These include provisions relating to derivatives, short-selling, credit ratings, urgent regulations, and on data collection and sharing. The Supreme Court held, however, that the validity of the proposed legislation should be judged as a whole.  The Supreme Court would not approve some portions of the proposed legislation and not others.

The Supreme Court held that, while the proposed act was unconstitutional, a more cooperative approach remains available: one that recognises the provincial nature of securities regulation (i.e. licensing traders) while allowing Parliament to deal with genuinely national concerns (i.e. systemic risks).  It remains to be seen whether the federal government will pursue a less comprehensive federal securities regime to address systemic risks.

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CSA Expresses Concerns and a Warning for Issuers using Mass Media to Advertise

Melissa Ghislanzoni, Toronto

Issuers who advertise by way of television, radio, internet, social media and/or print will need to be particularly vigilant that such advertising is in compliance with applicable continuous disclosure requirements and is not misleading to investors.

The warning to issuers comes in the form of Staff Notice 51-336 - Issuers Using Mass Advertising (the “Staff Notice”) published on September 13, 2011 by the Canadian Securities Administrators in Alberta, Ontario, Québec, Nova Scotia, New Brunswick and the Northwest Territories (collectively, the “CSA”).

According to the Staff Notice, the CSA will be monitoring issuer’s advertisements for breaches of applicable securities laws and determining whether such advertisements are misleading to investors or generally contrary to the public interest. The CSA will also take appropriate regulatory action, including a review of such issuer’s continuous disclosure and/or the securities issued.

The Staff Notice was issued in light of the CSA’s observation of a number of junior issuers using short television spots in order to boost interest in their stock. The CSA noted that stock exchange listed issuers tend to prominently feature their ticker symbols in their advertisements, while unlisted issuers tend to provide contact information for further enquiries. The content of these advertisements is mainly focused on the issuer’s positive prospects and other positive aspects of the issuer’s business.

Accordingly, the CSA is concerned that advertisements for the purpose of promoting interest in an issuer’s securities may not comply with the issuers’ continuous disclosure requirements under securities laws. The CSA expressed a further concern that such advertisements may be misleading to investors. Moreover, the CSA is of the view that advertising to promote trading in an issuer’s securities does not reflect positively on issuers or on the Canadian capital markets.

The CSA reminds issuers of the restrictions on marketing and advertising during the distribution of securities, and on advertising conducted in furtherance of a distribution of securities.  The Staff Notice reiterates the need for advertising to be in compliance with securities laws, especially in the resource industries. Mass advertising and social media in particular pose additional challenges for oil & gas and mining issuers who must each ensure that their disclosure is compliant with National Instrument 51-101 – Standards of Disclosure for Oil and Gas Activities and National Instrument 43-101 – Standards of Disclosure for Mineral Projects, respectively.

The Staff Notice is not concerned with advertising campaigns legitimately aimed at promoting the services of an issuer, or at raising public awareness about the issuer. While the CSA is primarily focused on advertisements aired on TV, the Staff Notice states that it is equally applicable to advertising conducted via social media, print, radio or internet.

Miller Thomson LLP has lawyers in offices across the country with the expertise and experience to assist issuers in ensuring their marketing activities – whether they are in print, on television or conducted via social media – are in compliance with all applicable securities laws.

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CSA Staff Consultation Note 45–401

Rhea Solis, Calgary

Review of Minimum Amount and Accredited Investor Exemptions

On November 10, 2011, staff of the Canadian Securities Administrators (“CSA”) published CSA Staff Consultation Note 45-401 (“45-401”).  45-401 advises that the CSA is conducting a review of the minimum amount prospectus exemption and the accredited investor prospectus exemption contained in National Instrument 45-106 Prospectus and Registration Exemptions (“NI 45-106”).  As part of the review, the CSA is consulting with stakeholders, including investors, issuers, dealers and legal and other advisors and is asking stakeholders to provide them with their written comments.

As background to 45-401, on April 1, 2011, the CSA published for comment a proposed new regulatory regime for certain securitized products in a Notice of Proposed National Instrument 41-103 Supplementary Prospectus Disclosure Requirements for Securitized Products (“41-103”).  Among other things, the new regulatory regime would narrow the class of investors who can buy securitized products on a prospectus-exempt basis, and require issuers of securitized products to provide disclosure at the time of distribution, as well as on an ongoing basis.  While NI 41-103 is focused on the distribution of securitized products in the exempt market, the CSA will consider the comments received in response to that Notice as part of their general review under 45-401.

In regards to the minimum amount exemption, the CSA is seeking comment on the following options regarding the exemption: a) maintaining the status quo; b) adjusting the $150,000 threshold including periodically indexing it to inflation as the threshold for the minimum amount was set in 1987 and has not been changed or adjusted since; c) limiting the use of the exemption to certain investors such as institutional investors; d) using alternative qualification criteria; e) imposing other investment limitations; or f) repealing the exemption.

In regards to the accredited investor exemption, the CSA notes that the thresholds for individuals to qualify as an accredited investor were originally set by the Securities and Exchange Commission in 1982 and adopted by the CSA in the early 2000s.  The thresholds have not been changed or adjusted for inflation since. The CSA is seeking comment on the following options: a) retaining the exemption in its current form; b) adjusting the income and asset thresholds; c) using alternative qualification criteria for individuals; d) limiting the exemption to certain investors, such as institutional investors; e) imposing other investment limitations; or (f) ensuring compliance with qualification criteria, including independent third party certification.

The consultation period is open until February 29, 2012.  In early February 2012, Miller Thomson LLP will be submitting our comments to the CSA.  Therefore, we encourage you to discuss 45-401 and its impact on capital raising with a member of our team so we are able to capture your comments in our submission.

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