1. Copyright © 2004 McGraw-Hill Ryerson Limited 1 PART 4 – FORMS OF BUSINESS  Chapter 18 – Securities Regulation Prepared by Douglas H. Peterson, University of Alberta

2. Copyright © 2004 McGraw-Hill Ryerson Limited 2 SECURITIES REGULATION Introduction Historical Development of Securities Regulation Securities at Law Purpose and Administration of Securities Regulation Mechanics of Regulation

3. Copyright © 2004 McGraw-Hill Ryerson Limited 3 SECURITIES REGULATION Registration Disclosure Conduct of Trading Insider Trading Proxy Voting and Proxy Solicitation Takeover Bids Investigation and Enforcement

4. Copyright © 2004 McGraw-Hill Ryerson Limited 4 INTRODUCTION SECURITIES LEGISLATION - AIM To provide the mechanism for the transfer of securities To ensure that all investors have the ability to access adequate information in order to make informed decisions To ensure that the system is such that the public has confidence in the marketplace To regulate those engaged in the trading of securities To remove or punish those participants not complying with the established rules

5. Copyright © 2004 McGraw-Hill Ryerson Limited 5 INTRODUCTION Security – a document or other thing that stands as evidence of title to or interest in the capital, assets, property, profits, earnings, or royalties of any person or company, including any document commonly known as a security A corporation is one full of promises System requires integrity and efficiency

6. Copyright © 2004 McGraw-Hill Ryerson Limited 6 INTRODUCTION Outline of Securities Legislation Nature of securities Method of distribution and trading Obligations Registration

7. Copyright © 2004 McGraw-Hill Ryerson Limited 7 HISTORICAL DEVELOPMENT Roaring twenties - beginning of assets being held broadly across the spectrum Many investments wiped out in the Great Depression Led to government intervention Securities Frauds Prevention Act 1928 Precursor to Ontario Securities Commission Various revisions over the years

8. Copyright © 2004 McGraw-Hill Ryerson Limited 8 SECURITIES AT LAW Security – open ended for purposes of law Catch and Release system – securities law catches all and then releases those exempt Anything that can be termed as a security is a security Exemptions: those matters usually covered by other legislation Increase in items defined as a security a reflection of the growth in financial markets

9. Copyright © 2004 McGraw-Hill Ryerson Limited 9 PURPOSE OF SECURITIES REGULATION Purpose: Efficiency and Integrity Providing protection to investors from unfair, improper or fraudulent practices; and Fostering fair and efficient capital markets and confidence in capital markets Problem: Balance – confidence with over burdensome regulation

10. Copyright © 2004 McGraw-Hill Ryerson Limited 10 ADMINISTRATION OF SECURITIES REGULATION Securities regulation with provincial boards – securities commissions SRO’s – Self Regulatory Organizations Investment Dealers Association Stock Exchanges Mutual Fund Dealers Association Impose obligations on their member firms

11. Copyright © 2004 McGraw-Hill Ryerson Limited 11 MECHANICS OF REGULATION Regulate Who can trade Service providers are registered and licensed How trades take place Requirement of disclosure of pertinent information Special protection in special circumstances; proxies, takeover bids, insider trading No regulation of what is being offered Caveat Emptor – “let the buyer beware” Securities regulation does not get into the business wisdom of particular investments

12. Copyright © 2004 McGraw-Hill Ryerson Limited 12 MECHANICS OF REGULATION Issue: What is regulated? Registration and licensing - prescribes manner in which trading is conducted Disclosure – timely and accurate material information Special Protection Proxies Takeover bids Issuer bids Insider trading

13. Copyright © 2004 McGraw-Hill Ryerson Limited 13 REGISTRATION Registration and Licensing requirements Any company or person acting as an intermediary in trading of securities must be registered as a dealer or salesperson Required for underwriting Licensing requirements Education and training Examinations for competency Administered by SRO’s Exemptions: relates to profession in giving advise Bankers, lawyers, accountants, financial media commentators

14. Copyright © 2004 McGraw-Hill Ryerson Limited 14 DISCLOSURE True, full and plain disclosure of all material facts Two principles of disclosure: Prospectus disclosure – document stating detailed particulars about the issuer and the security Continuous disclosure - material facts or changes – that affect the security after issuance

15. Copyright © 2004 McGraw-Hill Ryerson Limited 15 PROSPECTUS DISCLOSURE Prospectus – public document required by law before securities are issued, revealing material facts about that security and its issuer, with such true, full, and plain disclosure that a potential investor may make an informed decision as to the friskiness and price of that security Trading – prospectus does not confer any rights to stock-exchange trading Exemptions – under the Act where prospectus not necessary – relates to trade in question not to the security

16. Copyright © 2004 McGraw-Hill Ryerson Limited 16 PROSPECTUS DISCLOSURE Purpose: to provide information so a potential investor can make an informed decision Used when new securities are brought to market Prospectus – a public document required for issuance of new securities Reveals information about the security Relevant to the security not to trading

17. Copyright © 2004 McGraw-Hill Ryerson Limited 17 PROSPECTUS DISCLOSURE Issuers – those who raise funds through the distribution of securities Prospectus includes: Price and number of securities to be issued The net proceeds expected Fees of underwriting How funds will be used Business risk factors of the issuer Financial statements Other relevant reports or opinions

18. Copyright © 2004 McGraw-Hill Ryerson Limited 18 PROSPECTUS DISCLOSURE Filing Procedure Prospectus filed with relevant securities commission Once filed and securities issued become known as a “reporting issuer” Short Term Prospectus – available to qualified reporting issuers

19. Copyright © 2004 McGraw-Hill Ryerson Limited 19 PROSPECTUS EXEMPTIONS Own account, not for resale Financial institutions, the Crown, municipalities, other specific exemptions Isolated Trade Specific security of own issue, part of amalgamation, collateral for debt, stock dividend Sophisticated Investor – for own account Substantial minimums – varies ($97,000 - $150,000) Small Group No more than 50 prospective arms-length and sales to no more than 25

20. Copyright © 2004 McGraw-Hill Ryerson Limited 20 CONTINUOUS DISCLOSURE Reporting Issuers’ Continuous obligation to file and disclose All material information that would affect valuation of securities Includes routine and event-specific information Annual and quarterly basis file financial statements Material Change Report – filed when material change in affairs of issuer (good or bad)

21. Copyright © 2004 McGraw-Hill Ryerson Limited 21 ELECTRONIC FILING AND DISCLOSURE SEDAR – System for Electronic Document and Analysis and Retrieval Allows electronic filing and disclosure to public via the internet Holds most documents legally required to be filed

22. Copyright © 2004 McGraw-Hill Ryerson Limited 22 CONDUCT OF TRADING Rule: Act and SRO’s place responsibility on intermediaries to “Know their clients” Know their investment objectives Requires disclosure Avoid conflicts of interest Note: structuring trading activity for a trader’s own gain or to the preference of one customer is prohibited

23. Copyright © 2004 McGraw-Hill Ryerson Limited 23 CONDUCT OF TRADING Examples: Large block – try to slip ahead with personal order Rapid buy/sell transactions out of own inventory – creates a “frenzy” at a “pumped price” Stock looks better on dealers books; and Could be “pumped and dumped” at a considerable profit

24. Copyright © 2004 McGraw-Hill Ryerson Limited 24 INSIDER TRADING Issue: nature of the relationship between the person with the knowledge and the company itself Deducted from afar – okay Insider or “special relationship” – a violation “trading on undisclosed information” Insiders – directors, senior officers of company or affiliates, subsidiaries, parents, shareholders with more than 10% and the company itself (the company is its own insider)

25. Copyright © 2004 McGraw-Hill Ryerson Limited 25 INSIDER TRADING Special relationship person or company is an affiliate or associate of an insider (business partner, spouse or partner, or relative) Takeover bidder Professional services firm acting for the reporting issuer or takeover bidder Employee of the reporting issuer or professional services firm A person or company that can wind up having a special relationship if they learn of a material fact or change from someone who is already in a special relationship and the existence of that relationship was known or ought to have been known by them

26. Copyright © 2004 McGraw-Hill Ryerson Limited 26 INSIDER TRADING Note: Insiders and special relationships can still trade in those securities Illegality – arises in trading on the basis of undisclosed information Tipping – an offence to pass along privileged information relating to material changes or facts Both tipper and tipee liable to prosecution Must wait until material fact or change has been publicly and generally disclosed

27. Copyright © 2004 McGraw-Hill Ryerson Limited 27 INSIDER TRADING Insiders – must record and submit particulars of their trading activity within 10 days of months end to commission Becomes public record Penalty: imprisonment, up to 1 million in fines, or triple the profit made or loss avoided on the illegal trade

28. Copyright © 2004 McGraw-Hill Ryerson Limited 28 PROXY VOTING AND PROXY SOLICITATION Proxy – a document evidencing the transfer of a shareholder’s voting right to an appointee, either with instructions for voting, or allowing discretion to be exercised by the appointee, at a meeting of shareholders of the corporation Note: most shareholders do not attend annual general meeting – cost, distance, relevance, voting impotence of a small shareholder Proxies address imbalance of “divide and conquer” by Boards Agent – get enough proxies can have sufficient votes to be a force at an AGM

29. Copyright © 2004 McGraw-Hill Ryerson Limited 29 PROXY VOTING AND PROXY SOLICITATION Proxy right – important political weapon in corporate politics Solicitation of Proxies – accompany by a Information Circular Information Circular – discloses who is doing solicitation and their ownership in company Limitations and revocation of proxy must be stated and how proxy is to be employed

30. Copyright © 2004 McGraw-Hill Ryerson Limited 30 TAKEOVER BIDS Takeover – when target is 20% or more Regulations address: Ill informed shareholders knowledge of proposed new management Views of current management Unfair denial or acceptance of bidder’s offers against shareholders wishes

31. Copyright © 2004 McGraw-Hill Ryerson Limited 31 TAKEOVER BIDS How: Bids must be made to all holders of securities of the class being sought Disclose all financial terms Disclose offeror’s existing interest in company Board issues own circular within 10 days of bid with reasons for acceptance or rejection Investors have 21 days to deposit shares with trustee

32. Copyright © 2004 McGraw-Hill Ryerson Limited 32 INVESTIGATION AND ENFORCEMENT Far reaching powers of the commissions Suspend memberships De-listing from an exchange Fines Imprisonment Civil liabilities for misrepresentation Termination of registrations Cease-trading orders Withdraw of exemptions Hand over documents

33. Copyright © 2004 McGraw-Hill Ryerson Limited 33 SUMMARY Securities Regulation Governs the nature of securities Method of distribution and trading Obligations to disclose information as to their risk Purpose: so investors can make informed decisions Governed by provincial legislation Balance Market efficiency Market integrity

34. Copyright © 2004 McGraw-Hill Ryerson Limited 34 SUMMARY Security (definition) Very broad, includes anything that can be Catch and release system True, full, and plain disclosure Prospectus Continuous Issuers Takeover Bids Insider Trading