The Capital Markets Modernization Taskforce was established in February 2020 and mandated to make recommendations to modernize Ontario’s capital markets regulation. An initial report was published in July 2020 for consultation and received significant feedback. A product of input from over 110 stakeholders, the taskforce released its final report on January 22, 2021.
In part 5, the final instalment of this series, we discuss the recommendations designed to modernize the way financial firms, capital markets intermediaries and other market participants operate.
Financial firm regulation
- Restricted relationship between commercial lending and capital markets: The taskforce received feedback that independent investment dealers are often excluded from business opportunities in favour of firms who maintain a commercial lending relationship with their clients. Although tied selling is already illegal under federal law, the taskforce recommends enhancing restrictions by requiring an attestation of a senior officer of a registrant that such conduct did not occur each time the registrant provides such capital markets services to a reporting issuer with whom the affiliated commercial lender has a banking relationship. The taskforce notes a commercial lending relationship would give rise to a “connected issuer” relationship under National Instrument 33-105 and recommends that it require engaging an independent underwriter. The recommendation bans restrictive clauses such as rights of first refusal in engagement letters.
- Increased competition for access to investment products: Based on feedback that independent investment funds and firms face significant barriers to gaining access to bank-owned distribution channels for their products, the taskforce recommends that the OSC publish guidance on the makeup of new product committees, such as adding dealing representative representation and prohibiting related and proprietary product divisions from having input on the committee’s decision making. The taskforce recommends that dealers that sell proprietary products (a) document why they chose not to distribute an independent product and (b) provide quarterly reports to the OSC regarding the independent versus proprietary products sold to clients. Measures would prescribe periodic diligence requirements for dealers to evaluate their products’ competitiveness against comparable products.
- Expanded role for exempt market dealers: The taskforce recognized that exempt market dealers (EMDs) provide critical services to small issuers and start-ups but are often not permitted to continue supporting these issuers through their IPOs and other prospectus offerings. The taskforce recommends allowing EMDs to participate in prospectus offerings and to work with the OSC and exchanges to become able to sponsor reverse takeovers.
- Private equity investment funds: The taskforce recognized that private issuers are staying private longer, meaning they require a greater pool of private capital. Retail investors face significant barriers from participating in the private markets. The taskforce recommends creating a retail private equity investment fund model that would accommodate liquidity restrictions of private equity investments
Capital markets plumbing
- Block trades: U.S. firms face less complexity when executing large orders outside of a marketplace. In Canada, these trades are required to be executed on the market putting Canadian firms at a competitive disadvantage. The taskforce recommends cross-border bought-deal transactions be exempt from the marketplace requirement provided that the transaction is greater than 5% of the public float and greater than $500 million in value.
- Access to capital for independent dealers: Certain collateral requirements and other rules imposed by clearing agencies and regulatory bodies limit or restrict access to critical sources of capital and liquidity for dealers, especially independent dealers. The taskforce recommends that the OSC work with IIROC to expand the sources of debt available to independent dealers in respect of underwriting commitments, including potentially eliminating priority claims for chartered banks or extending priority to other lenders. The taskforce recommends that the OSC work with CDS to address the impact of collateral requirements for independent dealers in certain circumstances.
- Private placements: Sophisticated Canadian institutions face onerous disclosure requirements when participating in international private placements, which are not aligned with requirements applicable to foreign firms. The taskforce recommends that the OSC provide an exemption from conflicts of interest disclosure by large sophisticated investors in connection with private placements. This recommended exemption was recently granted by the OSC.
- Short selling: Canada’s short-selling regime is not aligned with other major international jurisdictions and is not sufficient to ensure securities are available to borrow before short sales are entered into the market. The taskforce recommends that “naked” short selling be prohibited, other than in the case of “easy to borrow” (such as liquid) securities.
- Market data feeds: The taskforce noted many investors do not have access to real-time, consolidated equity market data as a result of data feed costs. The taskforce recommends that the CSA complete its review and undertake a formal consultation of a regulatory framework to address fair and cost-effective access to individual and consolidated market data.
- Marketplace outages: In light of recent high-profile market outages, the taskforce recommends that the OSC review impediments to moving trading between marketplaces and the effect such outages has on pricing mechanisms.
Proxy voting system
- Universal proxies: Currently at a contested shareholders meeting, each security holder receives universal proxies, from management and dissidents, which may result in confusion and a difficult voting process. The taskforce recommends adopting mandatory universal proxies for contested meetings and mandatory reporting of the voting results.
- Voting with borrowed shares: In response to the risk of voting by investors without an economic interest in the issuer’s shares, the taskforce recommends that the OSC provide guidance as to when it will intervene in relation to empty voting. The taskforce also recommends that the OSC set up a technical implementation committee involving proxy voting intermediaries to establish a framework to enable intermediaries to confirm voting entitlement.
- Single SRO: Currently, many dealers operate on dual platforms and are jointly regulated by both IIROC and MFDA. The taskforce recommends creating a single self-regulatory organization governing capital markets participants. The new SRO would regulate all advisory firms, investment dealers, mutual fund dealers, portfolio managers, exempt market dealers and scholarship plan dealers. The Canadian Securities Administrators are on track to release their own specific recommendations this summer.
- Novel products: In response to the OSC’s limited ability to respond to novel products, such as crypto products or new types of derivatives, the taskforce recommends empowering the OSC to definitively designate such products as being securities, derivatives or neither.
- Intervention in M&A: The taskforce recommends new powers that would enable the OSC to intervene in M&A matters, such as the ability to rescind abusive transactions and prohibit certain participants from exercising voting rights.
- Regulatory sandbox: The taskforce recommends that the OSC and Ontario’s Financial Services Regulatory Authority collaborate to enable timely regulatory relief for companies with innovative business models that are subject to overlapping regulatory oversight. The regulatory sandbox would build in appropriate safeguards through the use of registration, guidance and exemptive relief and reduce costs and regulatory burden to allow businesses to test new and innovative products, services and business models.
- Supporting economic growth and innovation: The taskforce supports the OSC’s innovation initiative and recommends that its office of economic growth and innovation play a primary role in facilitating such growth and innovation. The taskforce recommends the office identify challenges faced by small business, conduct outreach and education programs and identify areas of improvement for capital markets regulation.
- Open data: The taskforce recommends that the OSC work to develop and implement an open data framework. The U.K.’s approach of creating a synthetic environment with test data was identified as a potential initiative.
The taskforce’s final report can be accessed here: https://www.ontario.ca/document/capital-markets-modernization-taskforce-final-report-january-2021