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Q&A with Debra Foubert, Director, Compliance & Registrant Regulation, OSC

Debra Foubert

1. In 2016, several new prospectus exemptions came into effect in Ontario, including the family, friends and business associates exemption, the offering memorandum (OM) exemption and the crowdfunding exemption.  What observations has the OSC made since adopting these exemptions?

These new prospectus exemptions are intended to facilitate capital raising by businesses at different stages of development, while maintaining an appropriate level of investor protection. 

We are monitoring the use of these exemptions. We are also conducting compliance reviews to monitor whether dealers are complying with the requirements.

We note that the OM exemption appears to be primarily used by real estate issuers, which is consistent with the broader investor appetite for real estate as an asset class. 

2. What are the key points you would want an investor to consider before exploring the idea of investing in the exempt market?

Investing in the exempt market offers investors an opportunity to diversify their investment portfolios and consider companies or securities that may not be publically listed.

That said, investors should also be aware of the risks. Investors who buy securities through prospectus exemptions generally do not have the benefit of ongoing information about the security that they are buying or the company selling it.  In general, these securities tend to be higher risk for retail investors than securities offered by reporting issuers.  Additionally, securities sold in the exempt market are typically not publicly traded, so an investor may not be able to sell their investment quickly or at all.

3. Many Dealing Representatives prefer the principle-based policy of suitability rather than investment limits, such as the retail investor limits rules for the OM exemption. Under what circumstances could these limit rules be amended or repealed?

It is important for us to strike the right balance between allowing companies to raise capital in an innovative and more efficient way, and fostering appropriate investor protection.  The new prospectus exemptions that were introduced in Ontario last year allowed retail investors to invest in securities previously available only to institutional and high-net-worth investors.  Given that a broader group of retail investors are able to access the exempt market, investment limits and completion of risk acknowledgement forms are among several investor protection measures put in place.  We are monitoring use of the exemptions and the impact of these limits.

4. What is the potential impact of the proposed policy changes for compensation for embedded fees for the exempt market?

We recognize that such a change could have an effect on the exempt market.  A decision on embedded commissions will only be reached after careful consideration and assessment of the possible impacts on investors and market participants.

5. What initiatives would you like to see the exempt market industry take on in order to continue to improve investor and industry outcomes?

The inadequate assessment of suitability continues to be a significant and common deficiency. The know your client, know your product and suitability obligations are a cornerstone of our investor protection regime and requires a registrant to know the client, to know the product that is the subject of the proposed recommendation or client order, and to form an opinion as to whether the product is suitable in light of the client’s investment needs and objectives. We expect registrants to conduct a meaningful suitability assessment.

We also note that when first meeting a representative, investors were more likely to hear about products and services offered and discuss their investment goals, but less likely to hear about the risk/return relationship.  We expect registrants to discuss with investors the risks of an investment so that investors may make an informed choice on whether to invest in the exempt market.

We recommend registrants review the deficiencies and acceptable practices in the OSC Staff Notice 33-747 – Annual Summary Report for Dealers, Advisers and Investment Fund Managers to assess and, as needed, implement enhancements to their compliance systems and internal controls.