OSC needs to raise bar on Fund disclosure rules

Would it surprise you that the disclosure rules for a $300 million closed end fund Initial Public Offering on the Toronto Stock Exchange are more lax than for a $30 million company IPO?

Investment funds are not currently subject to the general continuous disclosure rule, unlike every public company in Canada (under National Instrument 51-102, Continuous Disclosure Obligations). Given the incredible growth of the sector in recent years, you’d think that closed end fund investors would have the same protections as stock investors.

But they don’t; at least not yet. Although the Canadian Securities Administrators are looking to fill the gap via proposed new rules (items 19.5 and 32.3 of draft revised form 41-101F2), these were published during the summer of 2011. Since that time, billions more have been raised from retail investors while the draft language awaits industry consultation and eventual (one assumes) promulgation.

Even privately-placed hedge funds are required to provide their institutional and high net worth investors with ongoing disclosure of material information. But if you raised $300 million via a closed end fund, the Regulators — as of today — expect less of the promoters behind the offering.

Which means, if the Promoter of a fund had previously settled a civil lawsuit regarding “stock fraud” or financial statement “manipulation”, it may not necessarily need to be disclosed under the current CSA disclosure regime.

Isn’t that the very type of information that investors deserve to know about, prior to investing in the IPO or re-investing their distributions in more units of the fund in question?

Now, there is a clear difference between settling a civil lawsuit and losing the case in Court. People settle legal disagreements all the time for good business reasons, without admitting they did anything wrong; and it doesn’t mean they are actually guilty, either.

Sometimes, the legal cost of defending yourself would exceed the ultimate judgment that you’d be forced to pay if you lost the case. The Securities Exchange Commission uses the settlement tool with great frequency, for example, and traditionally accepts that the individual in question deserves the chance to deny wrongdoing, even when they pay a fine or settle out-of-court.

But does that mean that investors should be in the dark about the chain of events, and the outcome? Particularly if the quantum of money is large, or the claims material to the topic at hand.

The OSC has flexed its muscles under Commissioner Howard Wetston, which every market participant should applaud. The Ontario Premier and Finance Minister recently acknowledged the progress the OSC has made on a variety of fronts with an extension to the Commissioner’s term; and they’ve been able to attract highly talented new blood such as former Superior Court Justice James Carnwath.

And although the OSC doesn’t run the CSA, it has a very important role to play in modernizing the Fund industry, given that it regulates most of the fund managers in Canada, and Ontario is home to the largest pool of retail investors.

Bringing the multi-billion dollar Fund Industry up to the same disclosure standards as small cap public companies seems to be a project that should be moved to the front burner.

MRM
(disclosure – this post, like all blogs, is an Opinion Piece)