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Changes to the Taxation of Switch Funds
Effective January 1, 2017, new rules will govern the taxation of mutual fund corporations structured as “switch funds”. Investors switching between funds will no longer be able to do so without incurring taxable capital gains. This article summarizes the impact of such changes. Description of “switch funds” under the current regime In Canada, most mutual funds are structured as trusts and some are structured as corporations (referred to as “corporate class funds”). The mutual fund trust is comprised of a single fund in which investors receive units of the trust, while the corporate class fund can hold several funds. Each fund is structured as a different class of shares, giving investors access to different investment portfolios of the corporation. Under the corporate class structure, investors have the advantage of being able to switch between funds without incurring capital gains or losses. This is because the current rules deem switches between funds not to be a disposition of shares of the corporation, resulting in a tax deferral which is not available to investors of mutual fund trusts. Capital gains tax will be paid later upon the future disposition of the corporation’s shares. Impact of the 2016 Legislative Proposals Effective January 1st 2017, taxpayers switching between funds will be considered to have disposed of their original shares at fair market value and will therefore immediately be taxed on capital gains. However, the 2016 Legislative Proposals provide for the following two exemptions, allowing tax deferral in these specific cases: If the exchange or disposition occurs in the course of a transaction covered by section 86 of the Income Tax Act (“ITA”) or an amalgamation under section 87 ITA, a shareholder will be entitled to a tax deferral provided that: i) all shares of the particular class are exchanged, ii) the original and new shares derive their value in the same proportion from the same property, and iii) the exchange was strictly done for bona fide reasons and not to obtain a tax deferral; or If shares of a class of the mutual fund corporation are exchanged for shares of the same class, provided that: i) the original and new shares derive their value in the same proportion from the same property, and ii) that class is recognized under securities legislation as a single investment fund. The above-mentioned changes will be implemented as of January 1, 2017. Therefore, investors wishing to switch shares within a mutual fund corporation have until December 31, 2016 to benefit from the current tax deferral rules.
October news on the Canadian infrastructure market
Creation of a Canadian infrastructure bank On October 20, 2016, the Advisory Council on Economic Growth published its report entitled “Unleashing Productivity Through Infrastructure”. One of the report’s recommendations is to create a Canadian Infrastructure Development Bank whose objective would be to deliver projects with an aggregate value of more than $200 billion over 10 years, while at the same time minimizing the use of government budgets. The new bank could grant financing in the form of subordinated debt or equity to supplement the financing provided by institutional investors in various projects. The new entity would, in fact, promote the PPP delivery model or alternative financing models, although its role would not be to replace the existing provincial bodies, such as Infrastructure Ontario or the Société québécoise des infrastructures. Moreover, the federal government will also wish to ensure that the establishment of an infrastructure bank does not discourage investments by the private sector. Finally, on November 1, 2016, the Finance Minister, Bill Morneau, confirmed the creation of the Canada Infrastructure Bank (“CIB”) in 2017. The new institution will receive an initial capitalization of $35 billion. It remains to be seen whether the CIB will be governed by the Bank Act or whether a new legislative scheme will be set up for this new institution. Project to privatize eight Canadian airports In the aforementioned report, “Unleashing Productivity through Infrastructure”, the Advisory Council on Economic Growth proposes the privatization of the airports of Toronto, Vancouver, Montreal, Calgary, Edmonton, Ottawa, Winnipeg and Halifax. The Council also recommends the use of private investment in other public infrastructures such as toll highways and bridges, highspeed railways, smart cities, broadband internet networks, power transmission lines and natural resources infrastructure. This is not the first time the federal government has considered a project to privatize airports, but no decision seems yet to have been made at this stage, nor any agenda unveiled. However, the Canada Development Investment Corporation (“CDEV”), a federal Crown corporation reporting to the Finance Minister, Bill Morneau, has been mandated to hire consultants to advise the government. On the other hand, during his speech to the Montreal Chamber of Commerce on November 2, 2016, the Minister of Transport, Marc Garneau, mentioned that privatization was only one of the options on the table. Boralex closes a €100 million wind farm project financing in France Boralex Inc. has announced the closing of financing for the Mont de Bagny (24 MW), Artois (23.1 MW) and Voie des Monts (10 MW) wind farms in France, for a total of approximately €100 million (Cdn$145 million). This financing is provided by Crédit Industriel et Commercial (Groupe Crédit Mutuel) and BPI France Financement. The construction of each of the projects is already underway and they should all be commissioned by the end of 2017. This announcement was made shortly after Boralex acquired a wind farm portfolio of nearly 200 MW in France and Scotland, in September 2016. In June 2016, Boralex also closed another financing of €20.4 million for two wind farms in France. These large transactions confirm Boralex’s position as France’s largest independent producer of onshore wind power, through its Boralex Europe subsidiary. Possible refinancing of Montreal Gateway Terminals’ debt The Montreal Gateway Terminals project is currently studying the possibility of refinancing its bank debt. This consortium, including Axium, Desjardins, Manulife, the FTQ and Industrial Alliance, acquired the company’s assets from Morgan Stanley’s first infrastructure fund in March 2015. The transaction was financed with mini-perm bank financing of $252 million over a five-year term. The banking syndicate currently consists of BMO, CIBC, MUFG & BTMU, RBC and Scotiabank. DBRS downgrades Montreal hospital bonds On October 20, 2016, the DBRS credit rating agency downgraded the rating of the senior secured bonds of the Centre hospitalier de l’Université de Montréal (“CHUM”) from BBB (high) to BBB. This downgrade was due to the postponement of the substantial completion date of phase 1 from the second quarter of 2016 to the first quarter of 2017. This represents an additional delay of 20 weeks since the date of DBRS’s last review and 48 weeks since the initial substantial completion date of April 22, 2016. The project will be in default if delays continue beyond July 2017. HSBC implements a worldwide infrastructure financing platform HSBC recently announced that it was setting up an infrastructure financing platform with a worldwide mandate, whose purpose will be to mobilize capital from institutional investors. The team will be based in London and plans to sign its first mandate with the HSBC insurance company, which seeks to invest primarily in senior, investment grade infrastructure debt. In doing so, HSBC is imitating other international institutions that are seeking to capitalize on the appetite for private capital for infrastructure debt. For example, the French bank, Natixis, has also established its own infrastructure debt platform, based on investments from insurance companies. CIBC Asset Management establishes an energy and infrastructure team CIBC Asset Management has just set up an infrastructure and power projects financing team. The team’s mandate will be to take out interests in the form of private placements or public bond issues in the Canadian infrastructure, PPP, and renewable or non-renewable power production markets. This is therefore a new player from the banking industry positioning itself in the market for long-term public and private financing of infrastructure projects. Until now, TD Asset Management and Desjardins Asset Management were the two most well-known Canadian banking institutions active in fixed income infrastructure financing, in competition with the insurance companies that traditionally dominate this market. Bond refinancing for Kingston solar park On October 19, 2016, Connor, Clark & Lunn (“CC&L”), Samsung and a group of co-investors closed a $633 million bond issue for the refinancing of the Kingston Solar project in Ontario. Kingston Solar is a 100 MW project, one of the largest in Canada, located near the city of Kingston, Ontario, which commenced operations in September 2015. The project benefits from a 20-year power purchase contract with IESO. The bond issue, which DBRS rated BBB, will mature on July 31, 2035 and bears interest at a fixed rate of 3.571%. This is CC&L’s second refinancing of a solar park through the issuance of bonds after the refinancing of Grand Renewable Solar — a project of the same size as Kingston Solar — completed in June 2016. Public bond issues are an appealing option for the refinancing of Canadian renewable energy projects. However, the number of transactions completed to date has been relatively modest, in part because of the constraints imposed by the credit rating agencies, which, until now, had encouraged promoters to turn to more traditional types of financing, such as medium-term bank loans or private placements.
Overview of the Canadian Public-Private Partnerships market
The Public-Private Partnership delivery model (“PPP” or “P3”) is now well established in Canada, where more than 177 of such projects were closed between 1993 and 2015 (source: InfraAmericas). The great majority thereof (166) have been closed since 2004, and the current trend indicates the number of projects is on the rise. Thus, considering the projects already completed in 2016 as well as projects currently engaged in the tendering process, according to the Canadian Council for Public- Private Partnerships “CCPPP”, the total number of completed and pending PPP projects in Canada currently stands at 247. Canada is often described as the most active PPP market in the world, and is certainly one of the most mature. The life cycle of infrastructures, the Canadian geography and the current economic context are all convergent factors that favour this market. Also, the improvement of public infrastructures through the use of private capital is a concept which has always benefited from the support of the federal government. The Liberal government elected in October 2015 made infrastructure a major pillar of its economic platform with the campaign promise to double the country’s infrastructure investments. On November 1, 2016, Finance Minister Bill Morneau announced the creation of the Canada Infrastructure Bank (“CIB”) in 2017, whose mandate will be to invest in large infrastructure projects by attracting capital from institutional investors. Taking into account existing infrastructure programs ($91 billion), the investments announced last March in the government’s first budget ($14 billion), and additional investments included in the economic and financial update last November 1 ($81 billion), the federal government estimates that the country’s total infrastructure investments will reach $180 billion between 2016 and 2028. According to the CCPPP’s data, the Canadian P3 industry is still dominated by social infrastructure (58%) and civil infrastructure projects (24%). The health sector remains the largest subsector within social infrastructure, with 37% of the completed transactions. However, we note an increase in transportation-related projects, particularly suburban highways and light-rail transit projects. Other types of projects are also being developed, such as wastewater treatment and waste management plants and power transmission lines, all of which are new asset classes offering alternative investment opportunities for investors. Provincial bodies such as Infrastructure Ontario, Partnerships BC, SaskBuilds, Alberta Infrastructure, Partnerships New Brunswick and the Société québécoise des infrastructures are at the heart of the Canadian PPP programs and are directly responsible for the majority of infrastructure projects. Infrastructure Ontario remains the largest agency in terms of size and the number of completed transactions. It also serves as a reference for documentation and processes. At the municipal level, about 15 municipalities have also undertaken to develop their own projects, although they are often implemented in partnership with the provincial agencies. Federally, seven projects have been launched to date in PPP mode, notably the Confederation Bridge and the new Champlain Bridge. Another recent example is the Gordie Howe International Bridge connecting Windsor, Ontario to Detroit, Michigan, which is currently engaged in a call for tenders process. The 177 PPP projects completed since 1993, as reported by InfraAmericas, represent an aggregate value of $79 billion, or an average project value of $482 million. If we consider the aggregate of projects identified by the CCPPP as completed and currently underway (247), this represents a total value of $118 billion. It is generally acknowledged in the industry that a project must have a minimum value of $50 to $75 million to be viable for the PPP delivery model. To date, Ontario and British Columbia have been the most active Canadian provinces in terms of PPP, together contributing 121 out of a total of 177 projects (68%) by the end of 2015. Ontario has completed 90 projects to date, or 51% of the Canadian market. This is followed by Quebec with 10%, New Brunswick with 6%, Alberta with 6% and Saskatchewan with 5%. Canada remains a market open to international competition and foreign capital, and continues to attract numerous players from Europe and the United States. In terms of risk, this is a relatively conservative market that is not so open to projects exposed to volume (or traffic) risk. However, this has the advantage of attracting the interest of institutional investors for Canadian infrastructure debt, which actually benefits from high-quality risk ratings. In terms of financing, the Canadian pension funds and life insurance companies are the main actors involved in investments in the form of private placements. Their interest in this class of assets has made private placements the primary financing solution for the Canadian P3 market. Most of the projects resort to bank credit during the construction phase, which is then refinanced on the bond market once the project has been completed. However, some projects have been financed solely through bond issues. Thus, according to InfraAmericas, of the 177 projects that were financed by the end of 2015, 125 (71%) were financed solely with bank debt, 37 (21%) were financed solely in the capital markets, and 15 (8%) were financed with hybrid forms, i.e., through a combination of bank debt and long-term bond financing. More recently, a secondary market for PPP projects has developed which has some potential throughout Canada. While most institutional investors such as pension funds and insurance companies view PPPs as long-term investments, there are also some promoters who potentially wish to assign their interests in certain projects after a relatively short time, in order to redeploy their capital in other projects or sectors.
Renewable energies: the trend is toward hybrid financing
For about two years now, most renewable energy projects, particularly wind farm projects, have been financed using a so-called “hybrid” model, i.e. a combination of medium-term bank debt and long-term financing or private placements. The term “hybrid” is derived from the vocabulary of the Public-Private Partnerships industry, particularly projects involving an operational and maintenance component as part of a long-term concession. Indeed, during the construction phase, these projects generally involve a bank construction loan with a term of 2 to 5 years, combined with a long-term bond issue. In most cases, the bank financing is to be repaid upon project completion by payments from the Public Authority, while the bond financing is amortized over the duration of the project’s operational phase. Until not so long ago, renewable energy projects were financed through one of two different models: medium-term bank financing of 5 to 7 years, or more rarely 10 years (i.e. “mini-perm financing”), or long-term financing (or a private placement) whose term was as close as possible to the term of the power purchase agreement — generally 18 to 20 years. Bank type loans were primarily granted by the large Canadian banks, while long-term financings were generally the hallmark of the insurance companies and foreign banks. More recently, particularly for the wind farm projects stemming from the latest call for tenders for community projects in Quebec, we have witnessed the emergence of hybrid financings which allow for the optimization of the project’s financial cost and benefit from a lower interest rate on the mini-perm tranche, while still enabling the financing to be secured over the full duration of the project. One of the features of this type of financing is that the long-term lenders must agree to grant a capital repayment holiday for the duration of the amortization of the bank’s tranche. Indeed, if the two tranches were required to be amortized at the same time, the burden of repayment would have an excessive impact on the project’s cash flows. Also, the long-term lenders generally prefer the bank’s tranche to be fully amortized over its initial term to avoid any risk of refinancing at maturity. It is technically possible using modeling to work up a plan to simultaneously amortize the two financing tranches that could be absorbed economically by the project. However, this would require a substantial reduction in the amount of the bank’s tranche, and therefore minimize the financial benefits of the hybrid structure. Other technical issues must also be addressed, such as, for example, how disbursements are to be made during the construction phase. The simplest way is to proceed in a similar fashion to PPPs, i.e., by fully disbursing the long-term financing at the start of the construction and starting the progressive payouts on the bank’s tranche once the funds of the long-term tranche have been fully spent. Another way of proceeding is to pay out the two tranches at the same time with progressive payouts made pro rata to each other. This method is sometimes less suitable for institutional lenders for administrative and cash management reasons.
Pension plans and their investment rules: investing in alternative investment funds in full compliance
Numerous pension plans today are among the largest investors of capital in private equity, venture capital and hedge funds.1 In many cases, such pension plans hold assets valued in the tens or hundreds of millions of dollars (or even more) consisting of various categories and sub-categories of investments. It is therefore not surprising that with the recent lower rates of return of the traditional forms of investments, pension plans are increasingly opting to invest a portion of their assets in alternative investment funds. Pension plans are however subject to many particular legislative and regulatory provisions, including rules governing their investments that they must take into account when making such investments. For example, regarding defined benefit pension plans, Quebec’s Supplemental Pension Plans Act (hereinafter the “SPPA”) stipulates that only the pension committee2 (or a person to whom it has delegated this power) may “decide how the assets of the plan are to be invested.”3 In addition, the pension committee must adopt a written investment policy. This policy must, in particular, take into account the characteristics of the pension plan, its financial obligations and the other requirements prescribed by law.4 The SPPA also provides that the investments must be made in conformity with this investment policy, as well as the rules and limits provided by law.5 The federal statute governing pension plans, i.e. the Pension Benefits Standards Act, 1985 (hereinafter the “PBSA”), as well as the main regulation thereunder, the Pension Benefits Standards Regulations, 1985 (hereinafter the “PBSR”), also impose various obligations on pension plan administrators pertaining to investments.6 Thus, in the case of a defined benefit pension plan that is subject to the PBSA, the plan administrator is required to establish a written statement of investment policies and procedures (i.e. an investment policy)7 and to invest the assets of the pension fund in accordance with the regulations58 and in a manner that a reasonable and prudent person would apply in respect of a portfolio of investments of a pension fund (i.e. the prudent method of portfolio management).9 This article will not describe all the investment obligations of pension plan administrators, but will highlight several significant principles that administrators of defined benefit pension plans must keep in mind before investing in an investment fund. 1. Does the pension plan’s investment policy permit the proposed investment in the investment fund? The SPPA not only requires the pension committee to adopt a written investment policy, it also provides that this written policy must set out specific conditions, such as the permitted categories and sub-categories of investments.10 Similarly, under the PBSR, a pension plan’s written investment policy must, among other things, set out the categories of investments.11 The pension plan administrator must therefore verify whether the language of the investment policy permits investments in the investment fund in which it plans to invest. For example, does the pension plan’s investment policy permit a portion of the pension fund’s assets to be invested in units of a limited partnership whose purpose is to hold equity interests in real estate or infrastructure projects? Another example was considered in the case of Syndicat général des professeurs et professeures de l’Université de Montréal c. Gourdeau et al.12 in which the plaintiff, the University of Montreal’s union of professors, alleged in its court proceedings that the members of the investment committee of the University of Montreal’s pension plan had made investments in a hedge fund, notwithstanding that the applicable investment policy did not specifically allow investments in this category of funds.13 We note also that some investment policies only provide that the plan administrator may assign a portion of the portfolio to a portfolio manager, without any reference to the notion of investment funds. However, because of the characteristics of the funds they administer, many managers of alternative investment funds are not registered managers. Private equity and venture capital funds that invest for the purpose of exercising a certain degree of control in, or to participate actively in the management of, the projects or businesses they invest in, typically do not qualify as “investment funds” within the meaning of the law, and their managers are not normally registered, whether as portfolio managers or investment fund managers.14 The language of the investment policy should therefore be considered carefully, and special attention should be paid to the terminology used and its legal meaning. If a conclusion cannot be made that the proposed investment clearly qualifies as one of the permitted categories or sub-categories of investments under the pension plan investment policy, it would be prudent for the policy to be amended before the proposed investment is approved. The amendment in question could refer specifically to that investment or provide for the addition of a new category or subcategory of investments that clearly includes the proposed investment. The pension plan administrator should also ensure that the amendment to the investment policy is appropriate in the circumstances, particularly in light of the characteristics of the pension plan, its financial obligations and the other provisions of the investment policy. In addition to the foregoing, we believe it would be prudent for the plan administrator to verify whether the categories of investments described in the targeted investment fund’s investment policy are included in the permitted categories or sub-categories of investments under the pension plan’s investment policy. It should be remembered that, in accordance with the standard structure of alternative investment funds, once the plan administrator has committed capital in the targeted investment fund by signing a subscription agreement, the fund manager generally has the right to make calls for payment at its discretion during the fund’s investment period, by requiring investors (including the plan administrator) through drawdowns to pay a part or all of the amount they committed to the fund. The fund manager may then invest the said amounts in any portfolio investment of its choosing that complies with the investment policy of the fund. Furthermore, unlike hedge funds, the majority of private equity and venture capital funds do not usually allow investors to request the redemption of their interests in the fund. Therefore, the pension plan becomes “captive” and will not be able to recover its investment until liquidation of the fund, unless it finds a purchaser in the secondary market. In addition, the plan administrator cannot assume that the fund manager will follow or comply with the terms and conditions of the pension plan’s investment policy, even if it has been disclosed to it. Indeed, the investment fund manager is not acting as agent for the pension plan administrator investing in its fund. Since the amount invested by the pension plan administrator is pooled with the funds of other investors, the investment fund manager (unlike a portfolio manager) cannot undertake to comply with the investment policy of a specific investor. The manager’s investment decisions are collective (for the entire fund) and are therefore only subject to the restrictions imposed on it by the investment fund’s organizational documents, i.e. primarily the restrictions set out in the fund’s investment policy. However, there are ways to circumscribe this power of the manager, as we shall see in greater detail in the sections below. Finally, we note that the plan administrator should also satisfy itself that the other pension plan documents contain no provisions that could prohibit, restrict or otherwise limit the proposed investment. 2. Does the proposed investment comply with the other limits or requirements set out in the investment policy? The permitted categories and sub-categories of investments are not the only conditions that must be set out in the pension plan’s written investment policy. Indeed, the SPPA stipulates that the investment policy must, for instance, also set out the proportion of the assets that can be invested in debt securities and equity securities, as well as measures for ensuring the diversification of the portfolio.15 As for the PBSR, it provides that the investment policy provisions must also deal with the asset allocation and the diversification of the portfolio.16 Investment policies usually contain one or more provisions that set out the maximum percentage of the assets in the pension fund that can be allocated to various permitted categories or sub-categories of investments. When the proposed investment is made, it must therefore comply with any applicable limit in this regard. In addition, the investment policy generally contains other specific requirements relating to certain categories or sub-categories of investments Such requirements may, for example, deal with the quality of the securities that can be held in respect of a category or sub-category of investments (e.g.: a minimum rating of “A” by a recognized credit rating agency) or the minimum market capitalization of a security at the time of purchase. They may also prohibit the purchase of certain securities. Any specific condition, limit or prohibition that may apply in the case of the proposed investment must be respected. Furthermore, one should also review all the types of investments permitted by the investment policy of the targeted investment fund, since, as we noted above, the pension plan administrator will not be entitled to review or approve the investments made by the fund manager in accordance with that policy. If some of the investments that can be made by the investment fund manager may potentially contravene any requirement of the pension plan’s investment policy, the plan administrator should then negotiate a bilateral collateral agreement (commonly known as a “side letter”) with the fund manager to require that it take certain protective measures to prevent any possible contravention of the pension plan’s investment policy. Such measures can, for instance, include the right to be excused from participating in certain investments. In such a case, the side letter may provide that the manager will be required to set up an alternative investment vehicle or parallel fund structured in parallel to the investment fund, to be used for the investments that have been excluded by the plan administrator, and in which the pension plan holds no interests (but in which the other investors have mirror interests to the interests they hold in the investment fund). The organizational documents of private equity and venture capital funds often permit this type of structure to be implemented. If this is not the case, it may be important to provide for it in a side letter, depending on the circumstances. Moreover, even where the investment fund’s organizational documents provide for this type of mechanism, it is standard practice for an investor, such as a pension plan administrator, to require prior notification by the manager of any intention to make any investment identified in the side letter as potentially problematic for the investor. We note that the side letter should be concluded with the fund manager at the time the plan administrator commits to the capital of the fund upon the signature of the subscription agreement, since, once it has been signed, the manager will no longer have any incentive to make any additional undertakings to the plan administrator. 3. Does the proposed investment comply with the rules and limits in the applicable legislation and regulations? The SPPA contains certain rules and limits governing investments. For example: the pension committee must endeavor to constitute a diversified portfolio in order to minimize the risk of major losses;17 the pension plan’s assets cannot be invested, directly or indirectly, in shares carrying more than 30% of the voting rights attached to the shares of a legal person.18 Under the SPPA, any person who makes an investment that is not in compliance with the law is, by that sole fact and without further proof of wrongdoing, liable for any resulting loss.19 In addition, the members of a pension committee who approved such an investment are, by that sole fact and without further proof of wrongdoing, solidarily liable for any resulting loss.20 However, such persons incur no liability if they acted in good faith on the basis of an expert’s opinion.21 According to Retraite Québec, an “expert” is any person who is able to provide a specialist’s opinion on a given subject. In addition to this liability, any person who contravenes any of the rules applicable to investments commits a penal offence and is liable to a fine of $500 to $25,000.22 The PBSA and the PBSR also contain various rules and limits pertaining to investments. Thus, section 8(4.1) of the PBSA states that the plan administrator must comply with the regulations and invest in a manner that a reasonable and prudent person would apply in respect of a portfolio of investments of a pension fund. We note that the administrator will not be found liable under this section if a contravention of the section occurred because the administrator relied in good faith either on the report of a person whose profession lends credibility to the report (including an accountant, lawyer or actuary), or on financial statements prepared by an accountant or a written report prepared by an auditor that have been represented to the administrator as fairly reflecting the financial condition of the plan.23 As for the PBSR, it primarily provides that the investment of the plan assets must be done in accordance with Schedule III of the regulations, entitled “Permitted Investments”.24 That Schedule sets out various rules and limits, including the rule that a plan administrator may not, directly or indirectly, invest moneys of the plan in any one person if 10% or more of the total market value of the plan’s assets has already been invested in the person, or if 10% or more of the total market value of the plan’s assets would be invested in the person as a result of the investment.25 According to the definitions set out in that Schedule, the word “person” includes a corporation, trust, partnership or fund or an unincorporated association or organization. Another rule contained in Schedule III provides that the plan administrator may not, directly or indirectly, invest the moneys of the plan in the securities of a corporation to which are attached more than 30% of the votes required to elect the directors of the corporation.26 We note that, like the SPPA, the PBSA provides for certain penal offences. Thus, any person who contravenes a provision of the PBSA or its regulations commits an offence and is liable, on summary conviction, to a maximum fine of $100,000 or a maximum term of imprisonment of one year (or both), in the case of an individual.27 In the case of a corporation or other body, the penalty is a maximum fine of $500,000. In the case of R. v. Christophe et al.,28 the Ontario Court of Justice held that certain investments approved by the members of an investment committee contravened one of the applicable rules under the Pension Benefits Act of Ontario and its general regulations, and convicted the members in question of a penal offence. The Court then sentenced each of the individuals to a fine of more than $22,000. Given that there can be significant consequences where investments are made in breach of the law (or regulations, as applicable), pension plan administrators therefore have every interest in ensuring the investments are compliant. In this regard, it is customary to provide a confirmation in a side letter from the investment fund manager that it will ensure that the pension plan administrator is not in breach of certain rules and restrictions as a result of any of the investments made by the fund. Such clauses are common, but, as previously noted, must be negotiated at the time the plan administrator commits capital to the fund. 4. Was a due diligence review done of the proposed investment and are the results of the review satisfactory to the plan administrator? Under the SPPA, the pension committee must notably exercise the prudence, diligence and skill that a reasonable person would exercise in similar circumstances.29 Similarly, under the PBSA, the plan administrator must exercise the degree of care in its administration of the pension plan that a person of ordinary prudence would exercise in dealing with the property of another person.30 With respect to investments, the administrator must invest the assets of the pension fund in a manner that a reasonable and prudent person would apply in respect of a portfolio of investments of a pension fund.31 Accordingly, where the pension plan administrator is considering making a particular investment, including an investment in an investment fund, it should conduct a due diligence review whose scope will vary according to the proposed investment. Indeed, where certain investments are being considered, a prior due diligence review will be simpler and easier. In the case of investments in large investment funds or complex and/or innovative financial instruments, extended and detailed reviews will usually be necessary. Some investments involve the analysis of highly technical and voluminous documentation (such as an investment in a complex master-feeder fund structure). For such investments, it is important to obtain the information and/or particulars necessary to properly identify and understand the potential benefits and risks of the proposed investment before making a decision. In this regard, it will be essential to review the offering memorandum or private placement memorandum of the fund. If the fund is not proposing to issue an offering memorandum, it may be appropriate to require that it do so to ensure that one properly understands the parameters of the investment. Indeed, at the time the plan administrator is making its commitment to the fund, the investment fund may hold very few or no assets (except for open-ended funds such as hedge funds). In such a case, the offering memorandum or private placement memorandum will be almost the only tool that can provide a proper understanding of the portfolio investments that will be made by the fund and the investment strategy that will be used by the manager. Obviously, the fund’s organizational documents must also be reviewed, since they constitute the main contract between the investors and the manager. The plan administrator will also wish to satisfy itself, in particular, that these organizational documents contain protective measures in the event the manager is caught in a conflict of interest, and also contain sufficient information disclosure requirements on the part of the fund manager. As part of its review, the plan administrator should also be able to examine the side letters concluded with all the other investors. If there is no “most favoured nation” type of provision in the fund’s organizational documents, the administrator should negotiate a side letter with the manager that includes such a clause. If the plan administrator does not have all the necessary skills to properly assess the fund’s documentation and make an informed decision on the proposed investment, it should request the assistance of qualified professionals in the field. In the report that these professionals submit to the plan administrator on the results of their analysis, they will, for instance, be able to inform the plan administrator whether the said documentation raises specific questions or problems in relation to the pension plan, or whether some provisions of the documentation differ substantially from the standard documentation generally used in the market for this type of investment. Finally, in all cases where the plan administrator decides to make an investment, it is important for it to properly document both the process followed and its final decision (including the reasons for it).32 Any analysis or report provided by professionals, as well as all the other relevant documents and correspondence leading up to the decision, should be conserved in the plan administrator’s records. According to the data collected by Preqin, 23% of the capital invested worldwide in investment funds in 2012 stemmed from public or private pension funds (source: Benoît Leleux, Hans Van Swaay and Esmeralda Megally, Private Equity 4.0 – Reinventing Value Creation, John Wiley & Sons Ltd., 2015, at p. 38). Section 168 of the SPPA. Sections 169 and 170 of the SPPA. Section 168 of the SPPA. The plan administrator administers the pension plan and pension fund as a trustee (section 8(3) of the PBSA). Sections 7.1(1) and (2) of the PBSR. Section 8(4.1) of the PBSA and sections 6(1) and 7 of the PBSR. Section 8(4.1) of the PBSA. Section 170 of the SPPA. Section 7.1(1) of the PBSR. Superior Court of Montreal, file number 500-06-000294-054. This case was settled out of court and the settlement was approved on May 26, 2015 by the Superior Court of Québec (2015 QCCS 2496). Section 5 of the Securities Act (Quebec). Section 170 of the SPPA. Section 7.1(1) of the PBSR. Unless it is reasonable in the circumstances to act otherwise (section 171.1 of the SPPA). Section 175 of the SPPA. This limit does not however apply in the cases referred to in the second paragraph of that section. Section 180 of the SPPA. Section 180 of the SPPA. Section 180 of the SPPA. Section 257 of the SPPA. Where such an offence is committed by a legal person, the fine is tripled (section 259 of the SPPA). Section 8(5.1) of the PBSA. Section 6(1)a) of the PBSR. Section 9(1) of Schedule III. However, the 10% limit does not apply to the investments listed in section 9(3) of Schedule III, which, among others, include investments in an investment fund that meet the requirements applicable to pension plans set out in Schedule III, investments in a fund that replicates the composition of a widely recognized index of a broad class of securities traded at a marketplace (index funds) and investments in securities issued or fully guaranteed by the Government of Canada, the government of a province, or an agency thereof. Section 11 of Schedule III. The expression “security”, defined in Schedule III, includes, in particular, the shares of any class of shares of a corporation and any ownership interest in the case of any other entity. The 30% limit does not apply to investments made in securities of real estate corporations, resource corporations or investment corporations, as defined in Schedule III. Sections 38(1) and (1.1) of the PBSA. 2009 ONCJ 586. Section 151 of the SPPA. It must also act with honesty and loyalty in the best interest of the plan members and avoid conflicts of interest. Section 8(4) of the PBSA. Section 8(4.1) of the PBSA. The Canadian Association of Pension Supervisory Authorities (CAPSA) stresses the importance of this practice in its Guideline no. 6 (Pension Plan Prudent Investment Practices Guideline) published in November 2011. CAPSA is a national interjurisdictional association of pension regulators whose mission is to facilitate an efficient and effective pension regulatory system in Canada. CAPSA’s Guideline no. 6 is intended to help plan administrators demonstrate the application of prudence to the investment of pension plan assets. Regarding the documenting of the plan administrator’s decisions, this guideline states the following, in particular: “Any time a key decision is made, it should be well documented, and include the reasons and circumstances that were considered.”
Use of “private” mutual fund trusts for employee’ investments through an RRSP
An increasing number of employers are looking at the possibility of creating investment vehicles to allow their employees to make investments in the employer corporation or a portfolio managed by the employer that will qualify for inclusion in, inter alia, registered retirement savings plans (RRSP), registered retirement income funds (RRIF), registered education savings plans (RESP) and tax-free savings accounts (TFSA) (collectively referred to hereinafter as the “Registered Plans”). The following discusses the possible use of an entity that qualifies as a “mutual fund trust” (“MFT”) under the Income Tax Act (Canada) (“ITA”) for that purpose. There are multiple tax benefits that can be derived from MFT status, but the main advantage is that units of an MFT qualify for inclusion in, inter alia, the Registered Plans. This is why this structure is often used by managers of hedge funds or pooled funds that are raising capital from individuals. These conditions are summarized below. 1. Conditions for Mutual Fund Trust qualification a) The trust must be resident in Canada As a general rule, as long as the trustee(s) are resident in Canada and carry out their duties in Canada this should not be an issue. b) The trust must be a unit trust A trust can qualify as a unit trust in one of two alternate ways. First, not more than 10% of the trust’s property may be in bonds, securities or shares of one corporation and at least 80% of the trust’s property has to be in various securities, real property or royalties (closed-end unit trust). Second, interests of each beneficiary must be described by reference to units and the issued units of the trust must have conditions requiring the trust to redeem the units at the demand of the holder at prices determined and payable in accordance with the conditions. The fair market value of such units must not be less than 95% of the fair market value of all of the issued units of the trust (open-end unit trust). c) The trust’s only undertaking is the investing of its funds in property The rules for an MFT and for a unit trust restrict the trust to permitted activities. As a general rule, the trust must restrict its undertaking to investing of funds in property. The trust cannot carry on a business. A trust may own real property and is permitted to acquire, hold, maintain, improve, lease or manage real property as long as the real property is “capital property” of the MFT. d) The trust must comply with prescribed conditions relating to the number of its unitholders, dispersal of ownership of units and public trading Generally, the units must be qualified for distribution to the public or there must have been a lawful distribution of the units to the public in a province. There should be no fewer than 150 beneficiaries of the trust, each of whom hold not less than one block of units and units having an aggregate fair market value of not less than $500. A block of units normally means 100 units if a unit has a market value of less than $25, 25 if the value is between $25 and $100 and 10 units where a unit is $100 or more. e) It must be reasonable to conclude that the trust was not established primarily for the benefit of non-resident persons An additional qualification for MFT status is that it must not be reasonable having regard to all the circumstances that the trust is considered to be established primarily for the benefit of non-resident persons. It is generally accepted that the “primarily” requirement means more than 50% and the trust deed should contain provisions which allow the expulsion of non-residents if the threshold would otherwise be breached. 2. Mutual Fund Trust as investment vehicle in a private corporation The characteristics of an MFT make it an attractive vehicle to facilitate employee participation in a private corporation or in a portfolio to the extent that the number of employees interested in becoming shareholders of the employer corporation meet the minimum requirement of 150 unitholders. Since the units of an MFT qualify for inclusion in the Registered Plans, the employee may decide to invest in the private employer corporation or the portfolio through the Registered Plan. A direct equity investment in the private employer corporation or in a portfolio may not qualify for inclusion in the Registered Plans since the Income Tax Regulations (Canada) provide for strict conditions for the qualification of such an investment as a “qualified investment”. The interposition of an MFT whose units are “qualified investments” between the Registered Plans and the employer corporation or the portfolio managed by the employer would provide more comfort in that regard. An interesting question is whether each Registered Plan would count as a single unitholder for purposes of the minimum requirement of 150 unitholders described above. Since the ITA treats each Registered Plan as a trust under the ITA (and therefore as a distinct person from the beneficiary or annuitant), an argument could probably be made that each Registered Plan should count as a distinct unitholder for purposes of the 150 unitholders requirement. This position seems to be consistent with statements by the Canada Revenue Agency (“CRA”) to the effect that all qualified investments of a plan trust must be owned by the trustee of the plan trust and not by the annuitant, beneficiary or subscriber under the plan trust. In the case of a share or other security, registration of the security in the name of the trustee of the plan trust is proof of the trustee’s ownership.1 Moreover, the CRA has taken the position in the past that where a group RRSP is established and it “holds” the units of an MFT, the number of beneficiaries of the MFT will at least be equal to the number of annuitants of the group RRSP. Each participant in a group RRSP should therefore count as one unitholder. 3. Prohibited investments rules In structuring the participation of employees in the private employer corporation or the portfolio managed by the employer through an MFT, the rules governing “prohibited investments” under the ITA should be considered. Registered Plans holding prohibited investments are subject to severe penalties under the ITA. Units of an MFT will generally be “prohibited investments” for a Registered Plan to the extent that the unitholder’s interest in an MFT, either alone or together with non-arm’s length persons, is 10% or more. As a result, while each of the Registered Plans of a single unitholder could possibly count as distinct unitholders for purposes of the 150 unitholders requirement discussed above, the “prohibited investments” rules would impose a very strict set of limitations in terms of the threshold of ownership interest in units. 4. Securities Registration Requirements The employer managing the MFT must also ensure that it meets all of the registration requirements imposed by Canadian securities regulatory authorities. If the MFT will be used to invest in the employer corporation, there are likely to be circumstances allowing the employer not to have to register as an investment fund manager or adviser. However, if the employer instead offers a different portfolio for the employees to invest in (for example, a portfolio selected by it in connection with the management of the portfolio of the pension plans that are administered by it), it will likely have to register at least as an adviser and probably also as investment fund manager. Conclusion While the structuring of employees’ equity investments through the use of an MTF could be advantageous, various incidental rules must be considered in order to ensure that the units of such a “private” MFT can qualify for inclusion in a Registered Plan. Income Tax Folio S3-F10-C1, Qualified Investments-RRSPs, RESPs, RRIFs, RDSPs and TFSA.
Positive advice of the European Securities and Markets Authority to the extension of the European passport to the managers of alternative investment funds in Canada
Martine Samuelian and Virginia Barat, JEANTET On July 18, 2016, the European Securities and Markets Authority (ESMA) issued a favourable advice for a future extension of the European passport concerning Alternative Investment Fund Managers (AIFMs)1 in Canada. This advice, which is based on objective criteria of cooperation and guarantee of overall protection level equal to that in force in European State members, constitutes the last stage prior to the effective extension of the European regime to Canada. 1. Assessment criteria The ESMA reviewed the individual situation of twelve non-European countries2, including Canada, to assess the guarantees offered by their respective local legislation against the requirements of the AIFM Directive (AIFMD). With respect to cooperation, the assessment criteria relate to: the possibilities for the exchange of information, on site visits, between the competent monitoring authorities respectively in Canada and those of the European State member; the fact that the non-European third country in which the Alternative Investment Fund (AIF) is established is not listed as a Non-Cooperative Country and Territory of the Financial Action Task Force (FATF); the existence of agreements for exchange of information in tax matters. Furthermore, sufficient guarantees (as defined by the AIFMD) must exist in respect of: investor protection, particularly in relation to complaint management, the safeguarding of assets, the prudential soundness of the depositary, the separation and management of conflicts of interests between the depositary function and that of alternative investment fund manager, the scope of monitoring by local regulatory authorities, compliance with the requirements of the AIFM Directive; market disruption as a result of a potential extension of the AIFM passport to a non-European country; competition, by the assessment of the level of reciprocity in respect of the marketing of European AIFs in a non-European third country; systemic risk management, particularly the mechanism for monitoring existing markets. 2. Final result of the assessment of Canada by ESMA The ESMA notes that the Canadian financial system had been assessed by the International Monetary Fund (IMF) in 2014, the IMF concluding that the international principles on securities regulations were “fully implemented” in Canada. In its advice dated July 18, 2016 respecting a possible extension of the AIFM passport to Canada, the ESMA thus confirms that there is no significant obstacle which may hinder the application of the passport to Canada with respect to the systemic risk, market disruption and obstacles to competition. Nevertheless, it notes differences between the Canadian regulations and the AIFMD. These differences particularly relate to the supervisory function that are imposed on the European AIF depositary (contrarily to the Canadian custodian which, pursuant to National Instrument 81-102 – Investment Funds (Regulation 81-102 respecting Investment Funds in the province of Quebec) (“NI 81-102”), is not subject to supervisory functions but rather only subject to obligations of custodianship of the portfolio assets). The ESMA also mentions the rules pertaining to the compensation of the manager (notably to align the interests of the manager and of the investors). There are various rules regarding compensation in Europe while NI 81-102 provides for very few rules in that regard (further, many investment funds in Canada are not subject to NI 81-102). However, the ESMA concludes that these differences between the Canadian regulatory framework and that of the AIFMD do not constitute a significant obstacle to the application of the European passport to Canada. Conclusion Where ESMA3 considers that “there are no significant obstacles regarding investor protection, market disruption, competition and the monitoring of systemic risk, impeding the application of the passport to the marketing of non-EU AIFs by EU AIFMs in the Member States and the management and/or marketing of AIFs by non-EU AIFMs in the Member States in accordance with the rules set out in Article 35 and Articles 37 to 41, it shall issue positive advice in this regard.” It is this positive recommendation that the ESMA sent on July 18, 2016 to the European Commission (EC), to the European Parliament and Council, which should allow the EC, within three months, to define by delegated act the date of coming into force and the terms for the extension of the European passport to Canadian Alternative Investment Fund Managers to market these funds in EU countries. Includes notably private equity funds, venture capital funds and hedge funds. See our article entitled “Impact of the possible extension of the European passport regime on Canadian fund managers” published in the Lavery Capital newsletter, May 25, 2016. Australia, Bermuda, Canada, United States, Guernsey, Hong Kong, Cayman Islands, Isle of Man, Japan, Jersey, Singapore, Switzerland. See article 67(4) of the Directive 2011/61/UE on Alternative Investment Fund Managers.
Options available to Canadian managers under the European AIF marketing rules
Martine Samuelian and Virginia Barat, JEANTET This article is supplementing the May 2016 issue of the Lavery Capital newsletter, number 9, which discusses the potential extension of the European passport regime (the “Passport”) – established under EU Directive no. 2011/61/EU (the “Directive”) – to Canadian investment fund managers (“Canadian managers”). In that article, we described the conditions for the possible extension of the Passport regime to Canadian managers and, once so extended, the obligations such managers will have to meet to benefit from this regime. As we indicated in the previous article, the Directive gives every manager established in a third country, i.e. any country not a member of the European Union (the “EU”), the opportunity to market, in a country of the EU, units or shares of alternative investment funds (“AIFs”) established in the EU or in a third country, either under the Passport regime, or under article 42 of the Directive. Article 42 of the Directive already allows Canadian managers to market the AIFs that they manage, provided they comply with the so-called “private placement” mechanisms applicable in each country of the EU where they wish to market their AIFs. In this second article, our analysis will therefore focus more closely on the options currently available to Canadian managers under those private placement regimes. We will also consider the regime known as reverse solicitation. Firstly, we refer the reader to our discussion in the previous article on what constitutes an AIF for purposes of the Directive. 1. The European private placement mechanisms Until the Passport regime is extended to Canadian AIF managers, the only mechanism available to them is the national private placement regime of each EU country. These regimes in fact vary widely between the different EU countries. The conditions applicable to marketing, without a Passport, in EU-member countries, of AIF units or shares managed by managers established in third countries, are set out in article 42 of the Directive. Under this article, member countries “may allow non-EU AIF managers (AIFMs) to market to professional investors, in their territory only, units or shares of AIFs they manage.” However, the Directive lays down certain conditions for such marketing for the protection of European investors. Thus, managers from third countries must comply with two sets of conditions: the obligations provided for in the Directive, and the obligations specific to each member country having authorized such marketing. 1.1. Requirements under the Directive Under article 42 of the Directive, national private placements are open to managers in third countries if they meet the minimum requirements, as follows: compliance with the transparency requirements provided in articles 22, 23 and 24 of the Directive: obligation to draft an annual report for each AIF marketed in the EU (art. 22), obligation to provide adequate and periodic disclosure to the investors in the AIF (art. 23), and various reporting obligations to the competent authorities (art. 24); the existence of appropriate cooperation arrangements between the regulatory authorities of each member country of the EU where the marketing will take place and the authorities of the third country concerned (i.e. where the manager is established), but also the third country where the domicile of the AIF is located, if the AIF is domiciled in a country other than the domicile of its manager;1 also, the third country in which the manager is established must not be listed as a non-cooperative country or territory by the Financial Action Task Force on anti-money laundering and terrorist financing (FATF). 1.2. Requirements imposed by member countries The foregoing requirements are characterized as “minimum” by the Directive, with each member country being free to impose stricter rules. Thus, managers from third countries must also comply with the specific conditions regulating the private placement mechanisms of each of the member countries of the EU in which marketing of the AIF is being considered. 1.3. Specific requirements governing the French private placement regime The French legislation does not use the term “private placement” for the purposes contemplated by the Directive. Indeed, the concept of private placement already exists in French law, but refers to another type of transaction (the raising of capital from a small number of professional investors as opposed to a public offering). Nevertheless, a regime has in fact been adopted to allow managers from third countries to market AIFs in France. Article 42 of the Directive was transposed into French law by articles L. 214-24-1 and D. 214-32 of the French Code monétaire et financier, which set out the conditions for such marketing by managers from third countries both to professional and non-professional clients on French territory. a) Conditions applicable to professional clients:2 : The conditions for marketing derived from the Directive and transposed to and set out in article D. 214-32 of the French Code monétaire et financier are as follows: The manager must comply with the legislative and regulatory provisions applicable to management companies subject to the Directive, including: - it must have designated one or several entities to perform the functions of the depositary (set out in article L. 214-24-8 of the French Code monétaire et financier);- it must be in compliance with the other requirements laid down in the Directive for the management of the AIF. Appropriate cooperation arrangements for the purpose of systemic risk oversight and in line with international standards should exist between the French regulatory authority, namely the Autorité des marchés financiers (France) (the “AMF”), and the competent authorities of the EU-member country concerned, or of the third country where the AIF or its manager is established, to ensure the exchange of information allowing the AMF to fulfill its functions. The third country in which the manager or the AIF is established must not be on the list of non-cooperative countries or territories published by the FATF. In addition to these requirements, article L. 214-24-1 of the French Code monétaire et financier provides that managers from third countries may market AIFs established in an EU-member country, or in a third country, to professional clients provided they comply with a procedure for giving notice to the AMF, the terms and conditions of which are set out in article 421-13-1 of the Règlement général (General Regulation) of the AMF (the “AMFGR”). Thus, under that article, managers must submit an application to the AMF for prior authorization, whose conditions are provided for in an instruction from the AMF. Under this same article, the AMF has published an instruction entitled [translation] “Procedure for Marketing Units or Shares of AIFs”, setting out the process to be followed by managers from third countries.3 b) Conditions applicable to non-professional clients (“retail investors”): In addition to the requirements under article D. 214-32 of the French Code monétaire et financier, managers must also show that they are in compliance with the specific conditions provided in article 421-13 of the AMFGR. Firstly, this article states that managers from third countries may market AIFs, established in an EU-member country or in a third country, to non-professional clients provided they submit a prior application for authorization to the AMF, whose conditions are set out in an instruction from the AMF. Secondly, article 421-13 of the AMFGR provides that this authorization is subject to compliance with the following three additional conditions, which apply depending on whether the AIF is French or not: a system for the exchange of information and mutual assistance in the field of asset management on behalf of third parties has been set up between the AMF and the supervisory authority of the manager, on the one hand, as well as the supervisory authority of the AIF, on the other hand, where the AIF is not established in France; the AIF meets the conditions laid down in a mutual recognition agreement dealing with AIFs that can be marketed to retail investors, signed between the AMF and the supervisory authority of the AIF, where the AIF is not established in France; the manager meets the conditions provided for in a mutual recognition agreement establishing the specific requirements applicable to the authorization of managers of AIFs that can be marketed to retail investors, signed between the AMF and the supervisory authority of the manager. It should also be noted that in order to apply for authorization to engage in marketing to retail investors, one must either first have complied with the procedure for marketing to professional investors, or submit both applications jointly. 2. Reverse solicitation Since July 22, 2014, non-European fund managers who are active in the European market are no longer authorized to engage in solicitation of investors located in EU-member countries, unless they comply with the private placement regimes of each of the member countries where their investors reside. The only possible form of solicitation for a manager who does not comply with such a private placement regime or regimes is that commonly known as “reverse solicitation”, i.e., where the initial contact for investment purposes is made by the investor himself. In other words, the investment is made solely upon the investor’s initiative with no prior “marketing” by the manager. Indeed, the Directive defines “marketing” as “a direct or indirect offering or placement at the initiative of the AIFM or on behalf of the AIFM of units or shares of an AIF it manages to or with investors domiciled or with a registered office in the Union.” Thus, in the case of “reverse solicitation”, since it is the investor who initiates discussions with the manager and not the converse, in fact, no marketing takes place within the meaning of the Directive. The difficulty nonetheless of resorting to reverse solicitation is in determining which, in fact, of the manager or the investor actually initiated the investment process. The regulatory authorities define the concept of reverse solicitation differently from country to country, but the definition is generally a narrow one. In France, the concept remains vague but, very recently,4 the AMF issued a warning against this practice. Reverse solicitation could therefore remain a possible option for Canadian managers (although its application would, in such case, be limited), even if the Autorité européenne des marchés financiers does decide to extend the Passport regime to them, as described in our article published in May 2016. Conclusion Given the delays before any potential extension of the European passport regime to Canadian managers, the national private placement regimes of each of the countries of the EU and the reverse solicitation regime may still be viable options, in the meantime, for Canadian managers seeking to market units or shares of AIFs in a country of the EU. In France, the list of non-European authorities with whom the Autorité des marchés financiers (France) has signed bilateral cooperation agreements, in Canada, includes: the Alberta Securities Commission, the Autorité des marchés financiers (Quebec), the British Columbia Securities Commission, the Ontario Securities Commission, and the Office of the Superintendent of Financial Institutions. Professional investors are defined as investors who, because of their nature or size, are considered by the French legislation to have the experience, knowledge and skills necessary to make their own investment decisions. See, in particular, articles 16 to 20 and schedule 3 of the aforesaid instruction. Guide de bonnes pratiques à destination des associations, fondations, fonds de dotation et autres petites institutions (Guide to Good Practices for Associations, Foundations, Endowment Funds and Other Small Institutions) (December 2015).
Impact of the possible extension of the European passport regime on Canadian fund managers
Martine Samuelian and Virginia Barat, JEANTET Since July 22, 2013, investment fund managers (“managers”) in Canada who wish to raise funds from investors located in member states of the European Union (the “EU”) have had to consider Directive 2011/61/EU1 (the “Directive”), dealing with managers of alternative investment funds (“AIFs”). This Directive was adopted following the G20 summits held in London in 2009 and Toronto in 2010, during which the G20 leaders agreed that hedge funds managers should be subject to oversight to ensure that they have properly implemented adequate risk management procedures. The primary aim of the Directive is to protect investors through the harmonization of the rules applicable to fund managers, thereby strengthening the appeal of the European financial centres. To streamline the market, the Directive also provides for the implementation of a European passport regime which enables European managers to market AIFs throughout the EU, provided they obtain authorization from an EU member state and comply with certain requirements set out in the Directive. Finally, the Directive also regulates the regime applicable to managers established in non-EU countries (“third countries”) in order to “ensure a level playing field between EU and non-EU AIFMs”.2 Indeed, to date, non-EU managers have been hampered by the complexity of marketing without the benefit of a passport, under a regime which is left to the discretion of each EU member state in which they wish to market their AIFs. This situation is set to change in the near future by eventually enabling non-EU managers to benefit from a similar regime to that applying to EU managers who are able to use the European passport regime. 1. Criteria for the qualification of AIFs Firstly, it is appropriate to explain the concept of AIF in order to define the scope of the Directive. It seems that the majority of venture capital funds, private equity funds and hedge funds created in Canada should qualify as AIFs under the Directive. Indeed, under article 4 of the Directive, an AIF3 consists of any entity which meets all of the following characteristics: the entity raises capital from a number of investors with a view to investing it for the benefit of those investors in accordance with an investment policy which is defined by the AIF or its management company; the entity is not an undertaking for collective investment in transferable securities (UCITS), that is, neither an investment company with variable capital (société d’investissement à capital variable (SICAV)) (i.e. a société anonyme (limited liability company) or société par actions simplifiée (simplified joint-stock company)) whose sole purpose is to manage a portfolio of financial instruments and deposits) nor a mutual fund (co-ownership of financial instruments and deposits, with no legal personality). In addition, an entity which has an investment policy governing the terms and conditions for managing pooled capital with a view to generating a collective return for the investors is equated with an AIF. Thus, based on the foregoing, even traditional private equity funds, which do not normally qualify as investment funds under the Québec Securities Act, will be considered to be AIFs under the Directive. The Directive provides for the eventual ability of any manager established in a third country, i.e. in a non-EU member state such as Canada, to market, in a country of the EU, units or shares of an AIF established in the EU or a third country, in accordance with two separate regimes: as of this date, managers from third countries cannot obtain authorization (registration) as an AIFM and cannot therefore invoke the application of the European passport regime. They are therefore subject to the terms of article 42 of the Directive which permits them to market the AIFs that they manage under the so-called “private placement” mechanisms applicable in each of the countries of the EU in which they wish to market their AIFs (we will review these mechanisms in greater detail in a subsequent newsletter); under article 67 of the Directive, the European Securities and Markets Authority (the “ESMA”) was supposed to decide, by July 22, 2015 at the latest, on the possible extension of the European passport regime to managers established in certain third countries (including Canada), in accordance with the terms of articles 37 to 41 of the Directive. However, as regards Canada, this opinion was postponed until June 30, 2016. This possible extension of the passport regime to managers established in non-EU countries will facilitate the marketing, within the EU, of the AIFs of both EU and third countries by managers from third countries. Therefore, it is appropriate to outline the solutions that will be offered to Canadian managers on the assumption that the European passport regime provided for in the Directive will be extended to them. 2. The future Passport regime 2.1. Possible extension of the European Passport regime to Canadian managers The European Passport regime (the “Passport”) now enables investment fund managers authorized by the regulatory authority of an EU-member state (i.e., managers established in a country of the EU) to create, manage and market funds throughout the EU either through the principle of freedom to provide services (FPS) or freedom of establishment (FE). Pursuant to articles 37 to 41 of the Directive, this regime ought potentially to have already been extended to the managers in 16 non-EU countries, including Canada, following the receipt of positive opinions from ESMA on the guarantees provided by the legislation in each of these countries. These opinions were expected by July 22, 2015 at the latest,4 but this deadline was extended by the European Commission to keep pace with the progress in ESMA’s work. Indeed, to date, ESMA has still not completed its analysis of the legislation of all these third countries. However, it already issued an opinion, on July 30, 2015, in favour of extending the Passport to managers located in the islands of Guernsey and Jersey. Switzerland has also received a favourable opinion, conditional upon the removal of certain obstacles. On the other hand, ESMA has reserved its opinion on managers located in the United States, Hong Kong and Singapore. Regarding Canada, on July 30, 2015, ESMA considered that the current investment fund regulations in Canada were more favourable to the extension of the Passport to this country than those in the United States. In a letter dated December 17, 2015, the European Commission asked ESMA to submit its opinion on Canada by no later than June 30, 2016. Other countries are also expecting to receive ESMA’s position by June 30, 2016, namely, the United States, Hong Kong, Singapore, Japan, the Isle of Man, the Cayman Islands, Bermuda and Australia. It should be noted that when ESMA renders a positive opinion, the European Commission is normally supposed to issue a delegated act within three months stipulating the date as of which the Passport regime will start applying to the managers in the relevant non-EU state. However, at this time, even with respect to countries that have already been the subject of a favourable opinion, the European Commission has not yet issued such a delegated act and has instead chosen to wait until a sufficient number of third countries have been evaluated. Therefore, as of this date, Canadian managers are not able to market AIF units or shares in countries of the EU using the Passport. However, they may soon have this opportunity since an answer is expected by next June 30. It is therefore important to outline the obligations that would apply to them in the event of the extension of the Passport. It should also be noted that, pending the issuance of the opinion by ESMA, and should it refuse to extend the Passport regime to Canadian managers, they still have the option of marketing their products either by creating a portfolio management company that is authorized in an EU-member state, or by resorting to the private placement regime (which will be dealt with in a subsequent issue of Lavery Capital). 2.2. Obligations applicable to Canadian managers in the event of the extension of the European Passport regime On the assumption that the Passport regime is extended to Canadian managers, they will be required to comply with all of the requirements set out in the Directive, the main terms of which are outlined below. a) Requirement to obtain authorization from the regulatory authority of a member state of reference: To begin, Canadian managers must first apply for authorization (registration) to the competent authority of an EU-member state (the “member state of reference”).5 Paragraph 4 of article 37 of the Directive sets out the criteria for determining this member state of reference (for example, the home member state of the AIF, or the member state in which marketing of the AIF is intended). This article also states that the manager must have a legal representative established in its member state of reference. The authorization process for non-EU managers is largely similar to that for EU managers. However, certain additional requirements have been introduced pertaining to the third country in which the manager and/or the AIF is established. Thus, the manager’s application for authorization must be submitted to the competent authority of the member state of reference, which verifies that the manager has properly complied with all the provisions of the Directive. The following are the main requirements for obtaining authorization: (i) comply with the minimum capital requirements, (ii) implement compensation policies and practices, (iii) adopt internal procedures for properly evaluating the assets held by the funds, (iv) appoint a depositary distinct from the manager whose role, among others, is to hold custody of the fund’s assets, and (v) comply with the information disclosure obligations owed to the investors and regulatory authorities. In addition, there must be appropriate cooperation arrangements between the competent authorities of the non-EU state where the manager is established, the competent authorities of the member state of reference, and those of the state where the AIF is domiciled (the AIF’s state of domicile), if this is different from the former two. Also, the country where the manager or AIF is established should not be listed as a non-cooperative country or territory by the Financial Action Task Force on anti-money laundering and terrorist financing (FATF). Furthermore, article 37 of the Directive states that the third country where the manager is established must have signed an agreement with the member state of reference which complies with article 26 of the OECD Model Tax Convention on Income and on Capital, and which ensures the effective exchange of information on tax matters.6 Once a Canadian manager obtains authorization, it will then be able to manage and market its European funds throughout the EU under the Passport regime after giving simple notice to each authority in each of the EU countries concerned. b) Conditions applying to the marketing in the EU, with a Passport, of AIFs managed by non-EU managers A distinction must be made between marketing to professional and nonprofessional clients. i. Marketing to professional clients (articles 39 and 40 of the Directive) In addition to complying with the requirements laid down by the Directive for managers established in EU member countries as outlined above, non-EU managers must also meet additional conditions, where the AIF is established in a third country,7 similar to those required for the granting of authorization, namely: the existence of appropriate cooperation arrangements between the competent authorities of the member state of reference and those of the state in which the AIF has its domicile; the country in which the manager is established must not be listed as a non-cooperative country or territory by the FATF; the third country in which the AIF is established must have signed an agreement with the member state of reference which complies with article 26 of the OECD Model Tax Convention on Income and on Capital, and which ensures the effective exchange of information on tax matters. These provisions were transposed to French law in article L. 214- 24-1 of the French Code monétaire et financier which requires that prior notice must be given to the Autorité des marchés financiers (France) (the “AMF”), and which refers to the provisions of the Règlement général (General Regulation) of the AMF (the “AMFGR”) for the proper procedure. No later than 20 business days after receipt of the complete notice, the AMF will inform the manager whether it can start marketing the AIF which was the subject of the notice in France. It should be noted that the AMF can only oppose the marketing of an AIF if the management of such AIF by the manager is not or would not be in compliance with the legislative and regulatory provisions applicable to French portfolio management companies. In the event of a favourable decision, the manager can start marketing the AIF in France as soon as the AMF has given notice to this effect. The AMF will also inform ESMA and the competent authorities of the country in which the AIF is established of the fact that the manager has been authorized to start marketing units or shares of the said AIF in France. ii. Marketing to non-professional clients (article 43 of the Directive): In addition to the obligations provided for in the Directive, non-EU managers benefiting from the Passport regime must also show they are in compliance with the specific conditions contained in article 421-13 of the AMFGR. Accordingly, they must comply with the same prior authorization procedure as required for marketing outside the Passport regime to non-professional clients (which will be dealt with in a subsequent Lavery Capital newsletter). Finally, we note that it should be possible for Canadian managers to be exempted from compliance with certain provisions of the Directive relating to the Passport regime, if they are able to prove: firstly, that it is impossible for them to comply both with a provision of the Directive and a mandatory provision of the Canadian regulations; secondly, that the Canadian regulations that they are in compliance with contain an equivalent provision to the European regulations offering the same level of protection to the investors of the fund. It should be mentioned that article 68 of the Directive provides for a transitional period of three years after the extension of the Passport regime to managers in third countries, during which the Passport regime and the national private placement regimes can coexist and be chosen freely and alternatively by managers from these third countries. At the end of this transitional period and therefore, in principle, once three years have passed, at the latest, after the Passport regime has presumably been extended to Canadian managers, ESMA will have to make a decision on the possibility of allowing non-EU managers to continue opting for the private placements mechanism despite the extension of the Passport regime. In this regard, ESMA will be submitting a new recommendation to the European Commission for purposes of assessing the potential elimination of the national regimes. Conclusion Canadian managers registered with one or the other of the Canadian Securities Administrators (including the Autorité des marchés financiers (Québec)) can hope that the Passport regime will be extended to them in the near future so that they can benefit from the advantages offered by this regime. In the meantime, because of the uncertainty in the timeframe in which a decision will be rendered by ESMA regarding Canada, Canadian managers wishing to market investment funds in EU-member countries have no other choice but to rely on the national private placement regimes of each of these countries, or opt for reverse solicitation where possible. Another Lavery Capital newsletter dealing with the option for Canadian managers of benefiting from these national private placement regimes or the rules of reverse solicitation will be published in the coming months. Better known by the acronym “AIFM”, or “AIFMD”, meaning “Alternative Investment Fund Managers Directive”. Whereas # 64 of the Directive. These provisions were transposed to article L. 214-24 of the French Code monétaire et financier. In this regard, we note that there are different types of AIFs under French law meeting these distinct rules, namely: - AIFs open to professional investors, - AIFs open to non-professional investors, - employee savings funds, - securitization entities, - other AIFs (forestry groups, etc.). See article 67 of the Directive. Registration with a Canadian regulatory authority, such as the Autorité des marchés financiers (Quebec), is not sufficient. Canada has concluded a tax treaty based on the OECD model convention (OECD) with each EU-member state. Article 40, subparagraph 2 of the Directive.
The Quebec Government reaffirms its support for venture capital funds
On March 17, 2016, Finance Minister Carlos Leitão tabled the Quebec Government’s 2016-2017 budget in the National Assembly. The budget contains several measures intended to foster job creation and economic growth, with a special emphasis on innovation, environmentally friendly practices, and digital technologies. The Quebec Government’s economic plan includes $65 million in additional funding for three technology seed funds. Factoring in the leveraging effect of matching private investments, $125 million will be available to finance Quebec’s innovative technology businesses. The government’s first announcement in this regard is a partnership with the multinational Merck & Co. and the Fonds de solidarité FTQ, which will create the AmorChem II fund. This fund will invest in 15 promising new projects in the life sciences sector originating in Quebec universities and research centres. The initial closing amount of the fund has been set at $50 million. The Quebec Government will contribute $20 million, and Merck and the Fonds de solidarité FTQ will each invest $15 million. The fund will be open to additional investors in subsequent rounds. The first fund managed by the AmorChem team was launched in 2011. Its objective is to increase the commercial value of innovative research carried out in Quebec. Its $41 million capitalization is now fully committed to some 20 promising projects. Another 2016-2017 budget measure will create the InnovExport fund, to support innovative Quebec businesses with more than 50 projects focused on export markets. The businesses that will benefit from its support will be at the seed or start-up phase, and will already have the support of an incubator, an accelerator or an equivalent structure. Based in Quebec City, the fund has a capitalization of $30 million. Half of this amount is being funded by the Quebec Government, but the fund can also count on financial support from institutional investors ($12.7 million) and from 15 entrepreneurs ($2.3 million) who will take part in selecting and working with the businesses. The 2016-2017 budget earmarks $30 million for the creation of a new clean technology seed fund with a target capitalization of $45 million. The details related to the rollout of this initiative will be made public at a later date. The Quebec Government has also announced a $16 million contribution to the second closing of the Teralys Capital Innovation Fund. This amount comes on top of a matching investment by the Federal Government and $64 million in private capital, for a total of $96 million. This round follows the first closing, which reached $279 million in size. As a result, the fund has reached its target of $375 million, making it the largest fund of funds in Canada. The mission of the Teralys Capital Innovation Fund is to finance venture capital funds that focus on financing innovative Quebec businesses in the life sciences, green and industrial innovation, and information and communications technologies sectors. To date, it has committed to investing more than $170 million in ten venture capital funds and in five businesses with high growth potential. Lavery Capital is pleased with these measures which allow the Quebec Government to reaffirm its support for the venture capital industry as a vector of economic development and job creation. The announced measures will help support several innovative businesses at each stage of development and in every sector of the knowledge economy, while fostering the emergence of qualified and internationally competitive venture capital managers in Quebec.
Proposal towards standardized disclosures of fees and expenses information by private equity funds
Last January, the Institutional Limited Partners Association (the “ILPA”), a voluntary association promoting the interests of private equity limited partners, issued a “Fee Reporting Template” along with a guide (collectively, the “Template”) which forms part of the ILPA’s “Fee Transparency Initiative” aimed at standardizing fee reporting and compliance by fund managers throughout the private equity sector. The Template’s two main sections are organized in a way that provides limited partners (the “LPs”) with a document setting out “their direct costs of participating in a given private equity fund (a “Fund”)” and the general partner’s (the “GP”) sources of economics regarding the Fund and the investments made by it.”1 The Template is divided in two levels of disclosure. While the firsttier level (“Level 1”) sets out the basic information which the ILPA recommends to disclose to LPs, the second-tier level (“Level 2”) of the Template offers more detailed information relating to some Level 1 subtotals. For example, Level 1 discloses the total amount of partnership expenses while Level 2 of the Template shows how such partnership expenses are allocated between bank, legal and audit fees, etc. While the ILPA’s goal is to encourage GPs to provide as much Level 2 information as possible, it has divided the Template in two sections to best suit the economics and complexity level of the Funds in an attempt to persuade the highest number of Funds to use it. The ILPA recommends that the LPs be provided with this fee disclosure document on a quarterly basis and emphasizes that the Template is not intended to be used by GPs to verify their calculation of the fees, expenses and incentive allocations but rather merely as a standardizing tool for disclosures of such fees to the LPs. The Template also establishes a “Related Parties” definition which the ILPA urges new Funds to use in order to ensure consistency throughout the private equity Fund’s disclosure of any direct and indirect fees which may be ultimately paid by LPs. This initiative by the ILPA to offer guidance on fee disclosure to actors of the private equity sector follows an increase of actions taken by regulators from the securities field against a number of private equity firms which made misleading disclosures to LPs. These proposed guidelines are also following the general trend in the investment industry, where mutual funds have notably seen their regulatory requirements being enhanced with respect to fee disclosure in the recent years. The adoption of a standardized Template for fee disclosure could reduce regulatory intervention into the private equity funds business. However, the implementation of this Template as a norm by the industry could take some time. Through this initiative, the ILPA intended to publish a white paper and an appendix to the ILPA’s Private Equity Principles addressing compliance issues with Funds’ limited partnership agreements. Following the publication of the Template and its guidance document, the ILPA was also to review its best practice documents which relate to a number of key elements of the Template. Those documents were all scheduled to be published on the ILPA’s Website in February 2016. However, as of April 7, 2016 none of the white paper, the appendix or the revised best practices has been published. In the meantime, Fund managers should expect that certain new investors require, in negotiating side letters, that the reporting requirements imposed to managers be further aligned to what is proposed by the ILPA in the Template and should be open to voluntarily include some of these measures in their current fee reporting documents. Fee Reporting Template: Suggested Guidance, Version 1.0, Institutional Limited Partners Association, January 2016, p. 3.
IIROC White Paper — Proposed changes to the current structure for distributing mutual funds in Canada
On November 25, 2015, the Investment Industry Regulatory Organization of Canada (IIROC) published a White Paper for consultation. It is seeking comment on two proposals which, if approved and implemented, would change the current structure for distributing mutual funds in Canada. A “restricted practice” policy and a policy involving directed commissions are being proposed. RESTRICTED PRACTICE POLICY The proposal would allow an IIROC dealer member to use representatives who would not advise and would only offer mutual funds and exchange-traded funds (restricted dealing representatives). To do so, they would not have to be trained and qualified to advise or trade the other categories of securities normally offered by the dealer. An IIROC dealer member who wishes to hire restricted dealing representatives currently must ask IIROC for an exemption from the proficiency upgrade requirement for a mutual fund representative who will work for it. The considerations described in the White Paper stem from such an exemption request. According to a survey of around forty brokerage firms, the conclusions of which are described in the White Paper, this proposal raises the issue once again of a possible merger between the Mutual Fund Dealers Association of Canada (MFDA) and IIROC. It would also harmonize the respective missions of these self-regulatory organizations (SROs) regarding the regulation of mutual fund representatives, at least those who are registered as restricted dealing representatives by IIROC. DIRECTED COMMISSION POLICY The proposed directed commission policy would allow an IIROC dealer member to pay commissions directly to an unregistered personal corporation controlled by a representative. This proposal is being put forward to support the restricted practice proposal since the survey mentioned above showed that “for many registered firms and individuals, eliminating the proficiency upgrade requirement on the IIROC platform is of limited interest unless directed commissions are also allowed”. The MFDA already allows commissions to be directed to unregistered corporations provided a written agreement is signed by the mutual fund dealer, the representative and the representative’s personal corporation stating that the dealer and the representative must comply with MFDA requirements and the representative and the personal corporation must both provide the mutual fund dealer full access to their books and records. ISSUES SPECIFIC TO QUEBEC In Quebec, the Chambre de la sécurité financière has exclusive responsibility for self-regulating mutual fund representatives under An Act respecting the distribution of financial products and services (Distribution Act). This means that a new IIROC category of restricted dealing representatives would require legislative changes in Quebec to allow a mutual fund representative to only be a member of IIROC through a dealer member of that organi- zation. Such changes to the Distribution Act are unlikely in the foreseeable future, at least until the Department of Finance has completed its review of the enforcement of the Distribution Act. We would also add to this list of conditions the approval of changes to the orders recognizing IIROC as a securities self- regulatory organization and the possible re-examination of exemptions from certain requirements of Regulation 31-103 which are granted to IIROC and MFDA dealer members. Such a re- examination would be required since such orders and exemptions are not issued based on an overlapping of the regulation of mutual fund representatives attached to these respective categories of dealers. MFDA CONSULTATION Further to the publication of the White Paper, the MFDA recently released the results of a consultation held with 79% of its members on the potential impacts of the application of IIROC’s proposed policies. If the restricted practice policy is adopted, most MFDA member firms believe that they would either go out of business or be forced to merge with firms registered with IIROC. Such a step would only benefit MFDA member corporations that are also affiliated with an IIROC member corporation, which would allow them to reduce their operational costs, increase efficiency and be more competitive. MFDA members generally agree that the current SRO structure adequately protects investors and that the inevitable restructuring of this system that would result from the adoption of the restricted practice policy should be aimed at protecting investors, not reducing costs. MFDA members are therefore leaning in favour of the status quo with respect to the new policies discussed in the IIROC White Paper. The White Paper consultation will end on March 31, 2016.
The TSX Venture Exchange reaches out to the VC community
The TSX Venture Exchange (the “TSX-V”) has released a white paper which describes how it intends to become an attractive public market for early-stage companies from fast-growing sectors such as technology, clean technology, renewable energy and life sciences (the “high-growth sectors”) and how it intends to ensure that private equity firms, venture capital (“VC”) funds and angel investors consider the TSX-V as an effective strategy to exit the capital of such early-stage companies. The question remains whether these changes will result in a smaller-size IPO on the TSX-V becoming an attractive exit for the VC funds invested in a large number of these companies. REVIEW OF SOME OF THE CHANGES AND STRATEGIES PROPOSED BY THE TSX-V The TSX-V indicated that it intends to generally review its policies and tailor them to further reflect the needs of the companies from the high-growth sectors, recognizing that such policies were traditionally more adapted to the mining and oil and gas sectors. It also intends to hire a sales team dedicated to bring companies from these high-growth sectors to become listed on the TSX-V. The sales team will notably attempt to introduce the dealers community to companies from these sectors that can grow their business and create wealth for investors. The TSX-V recognizes that the reluctance for such companies to become listed on the TSX-V is in part the consequence of the administrative and compliance costs resulting from such a listing. It therefore proposes specific changes to its rules that are aimed at reducing the costs and simplifying the process for a company wishing to be listed on the TSX-V. One of the affected rules would be the sponsorship requirement. While this requirement can be waived, the TSX-V currently requires that an application to list on the TSX-V be sponsored by an existing member of the TSX-V or of the Toronto Stock Exchange. The TSX-V proposes to eliminate this requirement. Given that obtaining sponsorship typically takes several months and can cost a company between $50,000 and $100,000, the TSX-V believes that this change will allow companies wishing to achieve an IPO to save time and money. Another set of rules that might be reviewed is the escrow requirements. Securities regulators and the TSX-V each impose escrow requirements on the securities of the company completing an IPO held by the directors, officers, principal shareholders and promoters of the company, which typically includes all the VC funds invested in such company. These requirements result in the VC fund that has invested in the capital of the company requesting to be listed being typically required to enter into escrow agreements with an escrow agent whereby the shares or debt securities of the company held by the VC fund are put in escrow with the escrow agent for a period of 18 to 36 months after the IPO. The TSX-V has indicated in its white paper that it will abandon its own requirements and simply impose compliance with the requirements of the Canadian Securities Administrators (to which such companies were already subject to and which are similar to the escrow requirements of the TSX-V). Being subject to only one set of rules will simplify things in that regard. The TSX-V also intends to increase its general use of technological tools, particularly by offering an automated online filing system for additional types of transactions (the white paper does not specify which ones). This is intended to allow companies to file routine transactions themselves rather than having to use the services of external lawyers, and therefore reduce their costs. The TSX-V also seeks to develop mobile and web-based tools to stream summaries of securities offerings by companies listed on the TSX-V in order to facilitate more direct communications between the issuers and their investors. Other changes are proposed and can be found in the full version of the white paper available on the TSX-V’s website. CAN THE TSX-V BE SUCCESSFUL IN ITS APPROACH? All these changes aimed at increasing the listings by early-stage companies from the technology, clean technology, renewable energy and life science sectors should be welcomed by the VC community. IPOs remain an attractive exit for VC funds who often are major shareholders of these companies. It remains one of the best methods for a VC fund manager to establish a track record to attract investors for its follow-on funds in a context where such investors are often forced to rely on very few performance indicators to establish the skills of the VC fund manager and decide whether to invest in its follow-on funds or not. It should also be considered by entrepreneurs as one of the preferred methods of exit that they can provide to the VC funds that have invested in the capital of their company, given that it is one of the rare methods that will ensure to these entrepreneurs that they remain at the helm of the company. Other forms of exit, such as an acquisition or a secondary sale to a private equity fund focused on growth stage companies, will often result in forced changes to the management of the company, making the entrepreneur effectively lose the control of its business. In the context of an IPO, while the entrepreneur will have to report to its shareholders and may be vulnerable in the future to hostile take-over bids, the management team will generally remain in place in the short term (except for some additions to ensure that the necessary skills are present). Further, public markets remain the deepest source of capital, making IPOs being particularly well suited for these high-growth companies. However, to be fully effective, these initiatives will need to receive the support of the Canadian Securities Administrators, given that the major costs associated with an IPO are those associated with the rules imposed by these securities regulators and not by the TSX-V. In the meantime, Lavery intends to fully collaborate with the TSX-V in allowing it to become more attractive for these types of companies.