On November 12, 2019, staff of the securities regulatory authorities in each of Ontario, British Columbia, Québec, New Brunswick, Saskatchewan, Manitoba and Nova Scotia ("Staff") published CSA Multilateral Staff Notice 51-359 – Corporate Governance Related Disclosure Expectations for Reporting Issuers in the Cannabis Industry (the "Staff Notice"). The Staff Notice seeks to address what Staff observe as fairly common instances of inadequate disclosure relating to cross-ownership of financial interests by reporting issuers in the cannabis industry and directors and officers thereof, particularly in the context of mergers and acquisitions or other significant corporate transactions. The purpose of the Staff Notice is to provide supplementary guidance related to such governance-related disclosure, in hopes of providing investors with the ability to make better informed determinations about their investments.
Background
Staff have singled out reporting issuers in the cannabis industry in issuing the Staff Notice, in part due to the significant recent growth of M&A transaction activity in the cannabis industry. When the cannabis industry in Canada first began to emerge, it was not uncommon to see early rounds of financing of cannabis issuers funded by friends and family of the founders or high net individuals. As a result of this and of the market's expansion, many cannabis issuers and their executives have participated in the financing of other cannabis issuers. Staff have observed heightened levels of cross-ownership of investments in the cannabis sector by management and directors of issuers, substantiating the need for increased transparency and adherence to securities disclosure laws.
Although the Staff Notice is directed towards the cannabis sector, Staff note that the guidance provided in the Staff Notice is equally relevant to other issuers, including issuers operating in other emerging growth industries.
Guidance
In the Staff Notice, Staff focus on two particular issues related to corporate governance: (i) the disclosure of financial interests in M&A transaction documents; and (ii) the independence of board members.
Disclosure of Financial Interests in M&A Transaction Documents
Staff are of the view that the provision of full and detailed disclosure of cross-ownership of financial interests is material information in the context of M&A transactions, which can be crucial to investors' ability to evaluate potential conflicts of interest. Staff note that relevant financial interests to be disclosed include those held by the acquiror, the acquiree, or either of their respective directors or officers.
Depending on the structure of a proposed transaction and the requirements of the stock exchange upon which the reporting issuer's securities are listed, documentary disclosure might take the form of a material change report, a take-over bid circular, an information circular, a prospectus, or a listing statement or filing statement. Staff are of the view that, regardless of the form of disclosure used in a given transaction, cross-ownership of financial interests among issuers or their executives meets the threshold of materiality broadly applicable to disclosure documents.
Independence of Board Members
Staff have observed instances where cannabis issuers' disclosure regarding corporate governance practices identifies board members as being independent, without paying due regard to conflicts of interest that may compromise such independence. In order for a board member to be properly characterized as independent, the director must not have a direct or indirect material relationship with the issuer which could, in the view of the board, be reasonably expected to interfere with the exercise of the director's independent judgment. Lack of independence of a board member can be particularly problematic where that member also serves as the chair of the board. Under National Policy 58-201 – Corporate Governance Guidelines, the chair of a board should be an independent director and, where this is not appropriate, an independent director ought to be appointed to act as lead director of the board.
Takeaways
Staff encourage reporting issuers to adopt a written code of business conduct and ethics, which includes standards for ethical compliance and provides for how and when conflicts of interest should be disclosed – both to other board members and to the public.
Staff conclude that they continue to monitor the above areas of problematic disclosure and warn that regulatory action will be taken to address non-compliance where warranted.
As a result of the Staff Notice, we expect to see the continuous disclosure documents of cannabis issuers come under increasing scrutiny by Staff going forward, particularly in the context of M&A transactions.
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