Written By Jeffrey S. Leon, Shara N. Roy, Ranjan K. Agarwal and Jonathan G. Bell

On May 26, 2010, the Government of Canada released the proposed Canadian Securities Act (CSA). To date, the discussion of the CSA primarily has focused on whether the legislation will be found to be constitutionally valid. Should the legislation be upheld, the important issue for market participants could be the potential impact of legislative change on the regulatory scheme.

Current State of Play

The CSA proposes to harmonize the existing provincial and territorial securities legislation into a single federal statute. Currently, each of Canada's thirteen provinces and territories has its own securities regime. The CSA's stated purpose is to eliminate duplication across Canada's different provinces and territories in Canada as well address several other issues with the current regimes.

If adopted, the CSA will be voluntary and each province and territory would be able to choose whether or not to opt in to the proposed national securities regime. In the event a province or territory does not opt into the CSA, its provincial legislation would continue to apply.

The CSA currently is subject to a constitutional reference by the government of Canada to the Supreme Court of Canada. If found constitutional and proclaimed into force, the proposed CSA will differ in certain significant respects from provincial legislation. This update highlights the potential impact on Ontario market participants.

Court Challenge

The federal government has referred the CSA to the Supreme Court of Canada for a ruling on whether the federal government has the proper authority under the division of powers provision of the Constitution to enact a national securities regime. The federal government's anticipated position is that its federal jurisdiction over the “regulation of trade and commerce” (subsection 91(2)), combined with the doctrine of federal paramountcy allows for comprehensive federal legislation to regulate securities. The Alberta and Quebec governments have taken the position that the province's jurisdiction over “property and civil rights” (subsection 92(13)) gives the provinces exclusive jurisdiction to regulate securities within each province.

The Supreme Court has tentatively scheduled a hearing of the reference for April 2011. It is unlikely that the Court will release its decision before late 2011 or early 2012.

Structure and Governance

Under the Ontario Securities Act (OSA), the Ontario Securities Commission governs both the regulation of capital markets and the enforcement of securities laws in Ontario. This structure has long been criticized by those who see an inherent bias in having a single body create the rules and then both investigate and adjudicate alleged breaches of those rules.

The CSA would replace this unitary structure with a division of responsibilities. The Canadian Securities Regulatory Authority (CSRA) proposed under the CSA would be composed of a Regulatory Division and an independent Securities Tribunal.

The Regulatory Division would be responsible for the regulation of capital markets. Led by a Chief Regulator and Deputy Chief Regulators from each region of Canada, the Regulatory Division would, among other things, issue prospectus receipts, grant registrations, vary time periods and issue certain cease trade orders.

The Canadian Securities Tribunal would be responsible for the adjudication of all securities regulatory matters, including enforcement actions and reviews of regulatory decisions. The Canadian Securities Tribunal would be completely independent of the Regulatory Division.

Enforcement

The CSA foresees a comprehensive enforcement framework in which the CSRA would not only have the power to undertake regulatory enforcement actions in front of the Securities Tribunal, resulting in a range of sanctions, but would also have the CSRA play a role in the investigation of securities-related criminal offences (in a manner to be negotiated with each provincial Attorney General).

The CSA contains securities-related criminal offences that are equivalent to those currently contained in the Criminal Code, including offences for securities fraud, market manipulation, insider trading and intentional misrepresentation. Due to the federal constitutional authority for criminal law, these criminal offences would apply under the CSA nationally, in both participating and non-participating jurisdictions, if and when the CSA comes into force.

The Attorney General of Canada and the Attorney General of a province or territory would continue to have concurrent jurisdiction over the prosecution of these criminal offences. The provinces and territories would have a right of first refusal over these prosecutions under an administrative agreement that currently applies to the prosecution of securities-related criminal offences in the Criminal Code.

New Evidence Gathering Powers

New evidence-gathering tools for securities-related criminal investigations are included in the CSA. These tools include the ability to obtain production orders and the creation of a civil immunity regime along the following lines:

• Production Order (written statement): Criminal investigators would be able to obtain a court order to compel entities, such as publicly-traded issuers or brokerage houses, to respond in writing to questions about certain aspects of alleged misconduct;
• Production Order (names): Criminal investigators would be able to obtain a court order to compel a recognized entity to provide a list of registrants who purchased or traded a security during a specified period and to compel a registrant to produce a document that contains the names of all persons on whose behalf the registrant purchased or traded a specified security during a specified period, including the time and date of trades; and
• Civil Immunity: The regime would provide immunity from civil action to persons who co-operate and disclose information to regulatory or criminal investigators that they reasonably believe is true.

The Chief Regulator would have the authority to appoint a person or class of persons as a Designated Person with broad powers to enforce compliance with the CSA.

Expanded Applicability to Other Financial Instruments

The OSA regulates securities, which as currently defined includes most bonds, debentures, notes or other evidence of indebtedness, shares, stocks, units, unit certificates, participation certificates, certificates of shares or interests as well as certain options and futures and a limited number of other instruments.

Pursuant to the CSA, the CSRA would have a clear mandate to regulate a broad range of instruments, including exchange-traded and over-the-counter derivatives. The CSA contains an entire part devoted to the regulation of derivatives and also grants the Chief Regulator the power to designate any security as a derivative.

However, the CSA does not specify how derivatives will actually be regulated. If the legislation is enacted, the specific details, technical requirements and exemptions that relate to many of these substantive provisions will presumably be set out in the regulations and rules to be adopted in accordance with the CSA.

Market Conduct Obligations

Motivated in part by the recent number of high-profile cases of malfeasance in the financial world, the CSA places a global obligation on registrants to deal fairly, honestly and in good faith with their clients. Similarly, an investment fund will have an obligation to exercise the powers and perform the duties of their office honestly, in good faith and in the best interests of the investment fund, as well as exercise the degree of care, diligence and skill that a reasonably prudent person would exercise in the circumstances.

There are also significant positive obligations with regards to conflicts of interest, similar to those that currently exist under provincial and federal corporate and securities regulations. Both registrants and investment funds must identify, disclose and manage conflicts of interest.

During a take-over bid, issuer bid, going-private transaction, related party transaction, business combination, or similar transaction, offerors, offeree issuers, and issuers (as well as their directors and officers) must similarly identify, disclose and manage conflicts of interest.

New Offences

The CSA continues the OSA's prohibition on insider trading and tipping. However, the CSA would add a prohibition on the use of material order information, defined as information related to an unexecuted order or an intention to make a trade if a security's market price would reasonably be expected to be significantly affected by the order or trade (better known as front-running). The maximum penalty for front-running is five years imprisonment and/or a fine of three times the profit made or the loss avoided.

Registrants would also be forbidden from engaging in unfair practices, which is defined as either putting unreasonable pressure on another person or entering into a transaction with a person who is unable or does not have the capacity to reasonably protect their own interest.

Conclusion

Although drawn heavily from current provincial securities regulation, the proposed CSA does contain significant changes for participants in the capital markets in Ontario. What remains to be seen is the practical application of a number of the measures proposed to address long-standing concerns in securities regulation as well as the new realities of the financial market and its products.

First, however, the CSA faces what promises to be a long and hard-fought court dispute. Even if the CSA is found by the Supreme Court of Canada to be constitutional, it is unlikely to become law until 2012, and the impacts of these proposed changes will be unknown for some time thereafter. Stay tuned.