CSA changes tack on venture issuers

This latest proposition is notable in that it backs away from one of the most significant reforms the effort initially had sought to deliver – doing away with interim financial statements for venture firms. When a handful of provincial regulators (led by Alberta’s and British Columbia’s securities commissions) initiated the consultation on enhancing venture regulation in 2010, a core feature was the proposal to scrap interim (three-, six- and nine-month) statements and replace them with a mid-year report. This approach also was part of the CSA’s 2011 proposals.

Now, however, the regulators are changing tack. Instead, the CSA is proposing to replace the existing management discussion and analysis (MD&A) that accompanies quarterly financials with a “quarterly highlights” requirement, which would entail a short discussion of a venture issuer’s operations and liquidity to go along with the interim financial reports.

Although this revision might represent reduced regulatory burden for venture issuers, it’s not the big change that this initiative originally had aimed to produce.

Indeed, when the CSA first embarked on this plan to develop a separate disclosure and governance regime for the venture market, it had suggested the proposed process had to deliver substantial changes or it wouldn’t be worth the trouble. Absent a big change, the CSA believed that creating a parallel regime could be confusing for investors.

And yet, it appears that the market doesn’t want to see dramatic reform. The idea of eliminating interim reports had received a mixed reception from those commenting on the CSA’s initial proposals – with 16 of the 69 comment letters supporting the proposal and 11 opposing it.

Letters from supporters say that dropping the interim reports would generate time and cost savings for venture issuers and suggest that investors could replace the insight these reports provide with information from alternative sources.

In contrast, opposing letters argue that the time between reports under the proposed approach would just be too long and might impact the market’s perception of venture issuers negatively. These opposing letters also argue that current interim reports aren’t that burdensome to produce in the first place – so the benefit of eliminating them wouldn’t be worth it.

Instead of doing away with the interim reports altogether, there is more support for replacing the existing requirements with some sort of less onerous alternative. Indeed, most comments note that some amount of quarterly disclosure is necessary.

The question, then, is whether it’s worth crafting a separate regime for venture issuers at all. The CSA acknowledges that two-tier regulation could widen the gulf between venture issuers and senior issuers. This possibly could feed the perception that venture issuers are significantly riskier than senior issuers because they operate under a different, less stringent regulatory regime. Two tiers also could also create an incentive for firms to remain venture issuers in order for them to take advantage of less demanding reporting requirements. However, the CSA believes these risks are minimal and can be mitigated by the venture firms with additional, voluntary disclosure.

The CSA is proposing to proceed in the hope that the remaining measures will have a positive impact on the venture market by: generating more relevant disclosure for venture investors (doing away with some requirements and adding others); reducing the regulatory burden on issuers; and enhancing investor confidence by introducing new governance standards to deal with conflicts of interest, related-party transactions and insider trading.

The CSA reports that more than half of the comments on the initial proposal say that it would still be worth pursuing tailored regulation for venture issuers – even if the CSA decides not to follow through with plans to scrap the quarterly financials.

To some, the benefits of some of the other changes being proposed – such as streamlining reporting requirements or introducing new governance measures – justify the new rule. Others laud putting venture regulation into a separate rule, thus highlighting the importance of venture issuers to the Canadian markets.

The cost/benefit analysis accompanying the latest proposals suggests there is likely to be mixed impact on firms. The analysis, which is based on surveys of venture firms carried out in the autumn of 2011 and this past spring, found, for example, that 80% of issuers expect that the cost of their quarterly reporting will decline with a move to quarterly highlights from an MD&A, and 90% expect an ongoing decline in those costs.

But about half of firms expect that the time and money required to produce their annual report initially will rise under the new requirements; 41% expect new governance disclosure requirements to increase compliance costs; and, about a third expect costs to swell due to new audit committee requirements and executive compensation disclosure obligations.

The CSA anticipates those costs will decline over time.

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