There is a wide range of financing options available in Canada for new or developing businesses. These options can be categorized as debt or equity financing, or a combination of both. A third option – government assistance programs – exists to provide start-up capital and loans for financing business operations.

External Debt Financing

Debt financing provides businesses with a loan of money that must be repaid to the lender over time, typically with interest. Loans are most often provided by banks or financial institutions who generally offer financing in the form of an operating or term loan (or a combination thereof). To a lesser extent, debt financing might be sourced from parent companies, shareholders or related persons, or by offering debt securities to the public.

Operating Loans

Operating loans provide revolving financing to cover day-to-day operational expenses, such as working capital requirements. This type of loan is generally provided on a short- to medium-term basis. The amount of capital available to the borrower is typically based on the value of the businesses’ assets. Operating loans generally provide access to a larger sum of financing than might be available from competing loan products where available credit is based on cash flows or leverage.

Term Loans

Term loans are typically medium- to long-term loans made to a business for a specific purpose, such as to fund capital projects or to finance the acquisition of an asset. They are generally repayable over a fixed period of time on a mutually agreed schedule. Often, the loan will be demanded in full or accelerated by the lender should a default or other specified event occur. Term loans are amortized over the life of the loan with interest payable on the principal.

Security

The lender may choose to provide a loan on either a secured or unsecured basis. With a secured loan, the lender takes an interest in some or all of the assets of the borrower to secure the obligation. Security can be taken over real property or personal property. Security over real property is typically taken through a mortgage or charge. The common law provinces have all enacted personal property security legislation dealing with the registration and enforcement of security interests taken in personal property. In addition, the federal Bank Act permits banks to take security interests in raw materials, work in progress, finished inventory and some assets and equipment through an alternative registry system. In addition to security, the lender may also require guarantees to support the loan.

Most debt financing is provided to businesses directly from banks. Canada’s banking system is highly respected for its history of stable performance and efficient practices. In Canada, chartered domestic banks, along with foreign banks and non-chartered domestic banks, are closely regulated by the federal government. Canadian banks are also well capitalized. These features have aided their performance during the recent global financial crisis. Foreign banks operating in Canada mainly provide commercial banking services, as opposed to retail banking services.

In addition to the banking system, Canada has a wide range of sophisticated financial institutions, such as life insurance companies, credit unions, and trust and loan companies who also offer financial assistance. Life insurance companies cannot take deposits, but can provide medium- to long-term financing. Credit unions also provide financing. Trust and loan companies are able to take deposits as well as provide loans.

Capital assets might also be acquired by a business on a conditional sales basis or through a lease. Under either a true lease or financing lease, a business is able to pay for assets over their useful life from its cash flows, eliminating the need for significant capital at the point of purchase. In other situations, a factoring company may be used to improve cash flow. Factoring companies purchase the accounts receivable of the business at a discounted rate and then attempt to collect the receivables.

In a securitization, certain assets of a company are pooled and transferred into a separate legal entity which finances the purchase of this portfolio by issuing debt or debt-like instruments into the capital markets, secured by the portfolio assets.

Equity Financing

In addition to debt, a corporation can seek equity financing to fund its operations. Equity financiers receive a share in the ownership of the business in return for their contribution. Unlike debt financing, equity financing is typically done on an unsecured basis, but requires compliance with securities legislation.

Private Placements and Public Offerings

Public offerings are a means of raising capital, although the viability of this option depends on the conditions of the market and the amount and terms of financing sought to be raised. The process is typically achieved through the distribution of a prospectus describing the issuer and its securities by a registered investment dealer to the public. This process is both time and capital intensive, restricting its viability to situations where large sums of money are to be raised. The expense of going public continues after the initial offering, as significant continuous disclosure requirements are imposed on public companies.

There are three main stock exchanges in Canada: the Toronto Stock Exchange, TSX Venture Exchange (a junior exchange) and Montreal Exchange, which trades exclusively in derivatives. Each exchange has requirements that must be met prior to receiving listing approval.

The Canadian securities market is regulated provincially, rather than federally. The legislation is broadly comparable to securities legislation in the United States and is designed to protect investors and maintain the integrity of our capital markets. Although regulations vary from province to province, the system aims to present a cohesive set of rules for participation in the Canadian capital market.

As an alternative to a public offering, funds can also be raised by way of a private placement. Given the expense of a public offering, this option presents an attractive alternative depending on the capital requirements of the business. Private placements can be conducted more expeditiously and at a lower cost than a public offering as the issuer does not need to prepare a prospectus. The placement is typically made by an investment banker who acts as agent for the issuer, although private placements can be completed directly by the issuer.

Venture Capital

Venture capital firms make an equity investment in businesses with high growth potential from a pool of private or publicly sponsored capital. Typically, businesses which attract venture capital investment are in the early stages of development and might not be established enough for a public offering or have enough cash flow history to attract debt financing. A venture capitalist (VC) makes a capital investment in exchange for a minority equity position. Because of the risks associated in investing in less mature businesses, VCs will often request a significant level of control over management and business decisions of the company.

Merchant Banks

Merchant banks typically provide financing in exchange for an equity interest in the business or provide subordinated debt or mezzanine financing, ranking behind senior debt but ahead of equity holders. Merchant banks are often involved in M&As, buyouts, recapitalizations, and reorganizations.

Government Assistance Programs

Government financing exists at the federal and provincial levels to support the development of small- to medium-sized businesses in various industries. Funds are available, depending on the size and location of the business, mainly in the form of repayable loans.

Conclusion

A broad range of financing options exists in Canada to finance a foreign business. Each alternative has unique legal and commercial considerations that should be carefully addressed by the foreign business in consultation with its Canadian legal advisors.

Bennett Jones’ Financial Services & Capital Markets Groups

The Bennett Jones Financial Services Group routinely advises on the structuring and documentation of domestic and cross-border loan facilities. Our broad experience and expertise ranges from large, syndicated, multi-jurisdictional senior secured debt financings arranged by both domestic and foreign corporate banks to mid-market asset-based and mezzanine loan transactions.

Our Capital Markets Group advises on a broad range of corporate finance transactions and on securities law matters generally, including acting on public offerings and private placements; advising on continuous disclosure requirements and applications for exemptive relief from securities regulators; and dealing with stock exchanges and clearing systems.