The OSC Corporate Finance Branch’s annual report provides an overview of its operational and policy work for fiscal 2021, providing timely guidance for market participants.

The Ontario Securities Commission (OSC) Corporate Finance Branch has published its annual report (Report) which sets out the OSC’s expectations and interpretation of regulatory requirements with respect to capital raising and continuous disclosure matters. The Report is based on the work conducted by the OSC during the fiscal year ended March 31, 2021, particularly with respect to the 1,100 reporting issuers overseen by the OSC, as principal regulator. Notably, in fiscal 2021, 574 prospectuses were filed in Ontario, which represents a nearly 50% increase compared to 2020, in part due to the increase in activity in the cannabis and psychedelics industries. Technology replaced real estate in the top three most active industries, joining cannabis and mining. Based on market capitalization, banking, mining and technology industries remain the largest industries, representing 50% of the reporting issuers under the OSC’s mandate.

Guidance for Issuers

As in previous years, the Report provides helpful guidance and reminders to market participants with respect to a number of topics:

Primary Business Financial Statements

As previously discussed, on August 12, 2021, the CSA proposed changes to Companion Policy 41-101CP to National Instrument 41-101 General Prospectus Requirements related to primary business requirements in an effort to harmonize the financial statement requirements for long form prospectuses where the issuer has made, or proposes to make, an acquisition. While the initial proposal did not include a timeline for adoption of the new guidance, the Report indicates that the proposed changes are expected to become effective in July 2022. The proposed changes are stated to be designed to provide additional guidance on the interpretation of primary business and predecessor entity, including when financial statements would be required. In addition, the proposal:

• clarifies when an issuer can use the optional tests to calculate the significance of an acquisition, and when an acquisition of mining assets would not be considered an acquisition of a business for securities legislation purposes; and
• provides some guidance in circumstances when additional information may be necessary for the prospectus to meet the requirement to contain full, true and plain disclosure.

Non-GAAP Financial Measures

National Instrument 52-112 Non-GAAP and Other Financial Measures Disclosure (NI 52-112), came into force on August 25, 2021, replacing prior CSA guidance with respect to non-GAAP financial measures. As we discussed earlier this year, NI 52-112 addresses disclosure requirements with respect to non-GAAP financial measures, non-GAAP ratios, and other financial measures (e.g., capital management measures, supplementary financial measures, and total of segments measures, as defined in NI 52-112). While NI 52-112 introduces new disclosure requirements if non-GAAP financial measures are disclosed outside of financial statements, NI 52-112 has substantially incorporated the disclosure guidance from CSA Staff Notice 52-306 (Revised) Non-GAAP Financial Measures.

As a reminder, the new disclosure requirements in NI 52-112 apply to issuers’ disclosures for financial years ending on or after October 15, 2021. Practically speaking, this means that for an issuer with a calendar year end (December 31), the first disclosure documents that will need to comply with NI 52-112 will most likely be the reporting issuer’s annual MD&A and earnings release (non-venture).

Distributions Out

As previously discussed, OSC Rule 72-503 Distributions Outside Canada (the Rule) was introduced in 2018 in order to facilitate cross-border offerings by removing the duplicative application of Ontario prospectus requirements where offerings to an investor outside Canada are made in material compliance with the securities laws of the foreign jurisdiction. The exemptions provided in the Rule are popular, with the OSC reporting 620 Reports of Distributions Outside Canada submitted in Fiscal 2021. While the Rule has proven useful to issuers, the OSC has observed certain distributions outside Canada that appear to undermine existing hold periods or provide an unfair advantage to foreign-based dealers. The OSC reminds issuers of the guidance in Companion Policy 72-503 Distributions Outside Canada, which provides that:

• issuers, selling security holders, underwriters and other participants distributions made in reliance on the Rule are expected to take sufficient measures to make it reasonable to conclude that the offered securities come to rest outside Canada (meaning that it should be unlikely that securities will be redistributed back into Canada by an original purchaser outside Canada that has acquired the securities with a view to distribution, rather than investment intent);
• the Rule’s exemptions are intended only for distributions being made in good faith outside Canada; and
• where the OSC becomes aware of conduct that may bring the reputation of Ontario’s capital markets into disrepute, it may assert its jurisdiction and exercise its powers against the above-mentioned participants in the distribution.

The OSC may exercise its discretionary authority to cease trade securities, make orders to prevent conduct contrary to the public interest, and make regulations to foster fairness, efficiency and confidence in capital markets irrespective of whether there is a “distribution” in Ontario in breach of the prospectus requirement in section 53 of the Securities Act (Ontario).

This guidance raises questions about the Rule’s proper interpretation and the types of practices that issuers should adopt to seek to ensure that offered securities come to rest outside Canada, particularly as the Rule’s companion policy explicitly provides that shares distributed pursuant to three of the four prospectus exemptions in the Rule are freely tradeable. Importantly, the Rule only reflects the OSC’s approach to distributions outside Canada which has historically been quite different from that taken by the other Canadian securities regulators.

Concurrent Filing of a Base Shelf Prospectus and Prospectus Supplement

In bought deal offerings, issuers typically file a short form prospectus or a prospectus supplement to an existing base shelf prospectus. However, in 2021, the OSC received several filings from issuers seeking to launch bought deal offerings by concurrently filing a preliminary base shelf prospectus and preliminary draft supplement to qualify the shares under the offering. According to the Report, issuers opted for a concurrent filing structure due to volatile market conditions caused by COVID-19 and to manage signalling risk. Further, as discussed in our blog post from June 2020 regarding the concurrent filing bought deal of WSP Global Inc., issuers may also prefer this structure in order to take advantage of the efficiency of preparing effectively one prospectus under National Instrument 44-102 Shelf Distributions while retaining maximum financing flexibility going forward with the base shelf prospectus in place.

The Report provides the following recommendations for issuers looking to take advantage of this offering structure:

• an issuer should confidentially pre-file both the base shelf prospectus and draft prospectus supplement (both are subject to review);
• an issuer must be cash flow positive; and
• the cover letter accompanying the pre-filed prospectus should include details of the expected deal timeline and submissions on how the issuer is or will be complying with the marketing requirements under both National Instrument 44-101 Short Form Prospectus Distributions and National Instrument 44-102 Shelf Distributions.

The three working-day comment review period (which has temporarily been extended to 5 working days) set out in National Policy 11-202 Process for Prospectus Reviews in Multiple Jurisdictions will be applied once both the preliminary base shelf and prospectus supplement have been filed.

Sufficiency of Proceeds and Financial Condition of an Issuer

OSC staff remind issuers that proceeds being raised under a prospectus, together with the issuer’s other resources, must be sufficient in order to accomplish the purpose of the offering as stated in the prospectus. As we discussed earlier this year, clear disclosure must be included in a prospectus describing the use of proceeds and the issuer’s financial condition, including any liquidity concerns. Where financial concerns are present, the OSC may request additional disclosure, such as:

• details about negative cash flows from operating activities;
• working capital deficiencies;
• net losses; and
• significant going concern risks.

When increased disclosure is not sufficient to address financial concerns, the issuer may be required to change the structure of an offering (by finding additional sources of financing or setting a minimum subscription, for example). The OSC may find the structure of a base shelf prospectus inappropriate where an issuer does not appear to have sufficient cash resources to continue operations or to meet developmental milestones in the next 12 months. In these circumstances, the OSC may request:

• the withdrawal of the base shelf and filing of a short form prospectus with a minimum subscription amount or fully underwritten commitment; or
• the arrangement of additional sources of financing.

In addition, the OSC may question a base shelf offering where the size of the offering is significantly higher than the issuer’s current market capitalization, as this might indicate a potential significant acquisition or change of business. Additional information and guidance is set out in CSA Staff Notice 41-307 (Revised) Concerns regarding an issuer’s financial condition and the sufficiency of proceeds from a prospectus offering as well as section 5.4 of National Instrument 44-102 Shelf Distributions.

Post-Receipt Pricing Prospectuses

The Report notes that there has been an increase in post-receipt pricing (PREP) prospectuses filed under National Instrument 44-103 Post-Receipt Pricing, which allows issuers to omit pricing and other related information. In order assist OSC staff with their review of PREP prospectuses, it is recommended that issuers provide the estimated amount or range of proceeds that is expected to be raised under the offering, especially for issuers that have financial concerns. When PREP prospectuses are filed with bulleted information, OSC staff will also typically request the estimated amounts for any bulleted figures.

If the OSC has financial concerns, additional requests may be made, such as including the proceeds raised in the final base PREP filed, or imposing a minimum offering amount. They may also consider the ability of the issuer to decrease the size of the distribution by 20% in determining the minimum proceeds required to address financial concerns.

Confidential Filing of Prospectuses

As previously discussed here and here, the OSC began accepting confidentially pre-filed prospectuses for review in March, 2020, and issued a press release on January 28, 2021 providing best practice guidance for confidential pre-file prospectuses. Since then, OSC staff have reviewed 88 prospectuses on a confidential basis. The Report outlines helpful guidance with respect to the confidential pre-file process:

• Issuers are reminded to carefully consider whether the draft preliminary prospectus is at an appropriate state for a confidential pre-file. A draft may not be ready for review where:
  • the disclosure falls short of the standard required for a preliminary prospectus;
  • there is no significant prospect of a transaction occurring in the foreseeable future; or
  • the terms and conditions of the offering (and any related transaction) have yet to be settled.
• A deal timeline should be included in the cover letter to assist OSC staff with their review.
• The OSC will generally not review pre-files of non-offering prospectuses (other than for SPAC qualifying transactions, which it has accepted) or prospectuses solely qualifying the issuance of securities on conversion of convertible securities.

Forward-Looking Information in a Prospectus

The Report reviewed common shortfalls and recommendations surrounding the use of forward-looking information (FLI) in a prospectus. Issuers are reminded of the following guidance:

• When disclosing FLI that spans over multiple years: Reasonable and sufficient quantitative and qualitative assumptions to support such information must be provided. The Report explains that FLI must be limited to a time period that can be reasonably estimated, which will generally be considered the end of the issuer’s next fiscal year. Where FLI is presented for multiple years updates should be provided at least annually. Issuers may be asked to disclose policies and processes in the event previously disclosed FLI is withdrawn.
• Where FLI is presented without sufficient support: Issuers may be asked to limit the disclosure to a shorter supportable period. OSC staff may also flag assumptions that are not supported in an issuer’s track record, such as projected aggressive growth targets without the benefit of historical experience, or the absence of detailed explanations for expected changes to financial items.
• Use of non-compliant disclaimers: OSC staff have specifically noted that an offering document should not include disclaimer language stating that the issuer’s auditors have not performed any procedures with respect to FLI and that the auditors disclaim any associations with FLI, as this does not meet the requirements under section 10.1 of National Instrument 41-101 General Prospectus Requirements.

Continuous Disclosure Review Program

The Report discusses the outcomes of the OSC’s continuous disclosure review program, which includes the review of an issuer’s filed documents, website and social media. Where the OSC conducted a full continuous disclosure review of an issuer, in the vast majority of cases, prospective disclosure enhancements were required as opposed to immediate action. As compared to 2020, instances where immediate action was required doubled from 13% to 30%, while instances where no action was required more than tripled from 4% to 15%.

Areas highlighted for improvement include discussion of operations in MD&A and COVID-19 disclosure. In addition, while issuers generally provide disclosure addressing the diversity requirements in National Instrument 58-101 Disclosure of Corporate Governance Practices, the format and content of the disclosure varies between issuers. Issuers should consider presenting data related to the disclosure requirements in a common format. OSC staff remind issuers that CSA Multilateral Staff Notice 58-313 Report on Seventh Staff Review of Disclosure regarding Women on Boards and in Executive Officer Positions (7^th Annual Report) sets out suggested tables in order to improve the consistency and comparability of diversity disclosure. For an in-depth discussion of the 7^th Annual Report, please see here.

Psychedelics

There has been an increase in the past year in the presence of issuers involved in psychedelic drugs, both for medicinal and recreational purposes. Due to the illegality of psychedelics in Canada and various countries issuers should include clear disclosure in a prospectus regarding the regulatory, licensing and legal frameworks applicable to the issuer. OSC staff want to see that risks are clearly identified, understood and managed by the board of directors. Depending on the issuer’s business, the Report explains that it may be appropriate to provide similar disclosures to the expectations set out in CSA Staff Notice 51-352 (Revised) Issuers with U.S. Marijuana-Related Activities. The OSC is continuing to monitor industry developments and will be reviewing filings on a case-by-case basis to determine if any novel business models give rise to public interest concerns not appropriately addressed by disclosure. In these situations, issuers are encouraged to consult with OSC staff on a pre-file basis to discuss the appropriate level of disclosure, potential risks and other novel considerations.

General

Additional interpretive guidance provided in the Report based on trends that emerged in 2020 include:

Audit Committees

• OSC staff have noted that some issuers have inappropriately relied on exemptions in National Instrument 52-110 Audit Committees (NI 52-110) to appoint less than three members to an audit committee. NI 52-110 requires audit committees of non-venture and venture issuers to be composed of a minimum of three members. While NI 52-110 provides certain exemptions regarding independence and financial literacy, OSC staff remind issuers that there are no exemptions regarding the minimum number of audit committee members.
• OSC staff have also identified instances of inadequate descriptions of audit committee members’ biographies or work experience. Disclosure should clearly explain whether an audit committee member has the ability to read and understand a comparable set of financial statements in accordance with section 1.6 of NI 52-110.

Prospectus Disclosure Improvements

• Prospectus Review Outcomes: The most common outcome during a prospectus review continues to be requesting enhanced disclosure requiring material changes to the disclosure in a prospectus.
• Overly Promotional Statements: The Report explains that a common mistake observed is the inclusion of overly promotional statements in prospectuses about an issuer’s business without the provision of sufficient support for such statements, such as growth of certain markets or the business’s size and opportunities.
• Inappropriate Information in Marketing Materials: Issuers are inappropriately including information in marketing materials that is not directly derived from the prospectus.
• COVID-19: As previously discussed here and here, issuers are reminded that prospectuses should contain up to date and timely disclosure of COVID-19 risk factors and impacts, whether directly or, in the case of short-form prospectuses. by reference.

Cease Trade Order – Content Deficiency

• Issuers are reminded of the guidance set out in CSA Notice 51-322 ReportingIssuer Defaults (CSA Notice 51-322) which lists continuous disclosure deficiencies that will generally result in an issuer being noted in default. These deficiencies include:
  • the failure to file certain continuous disclosure documents; and
  • content deficiencies in the issuer’s continuous disclosure.
• Cease trade orders may be issued where a required filing is deficient in terms of content. Examples of content deficiencies are provided in section 2 of CSA Notice 51-322.

Special Purposes Acquisition Corporations

• Special purpose acquisition corporations (SPACs) received significant media attention due to a large increase in SPAC activity in the United States, which led to heightened regulatory scrutiny by the Securities and Exchange Commission. The SEC has, among other things, issued guidance on disclosure considerations for SPAC IPOs and qualifying transactions, and highlighted specific concerns relating to the role of the sponsor/founder.
• In Canada, SPACs are governed by Toronto Stock Exchange and NEO Exchange rules. Further to these rules, a prospectus must be filed with the relevant securities commission or authority at the time of an IPO, and a non-offering prospectus must be filed at the time of a qualifying transaction.
• The OSC is continuing to monitor SPAC developments in the U.S. and internationally, and will consider whether any policy changes to the SPAC program are necessary.
• For more information on the benefits and features of SPACs, see our blog post from earlier this year.

For further information, please see OSC Staff Notice 51-732 Corporate Finance Branch 2021 Annual Report.