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Major securities law consultation underway

The government released an exposure draft of a bill on securities law on 9 August 2011 and is currently consulting on the proposed legislation.

The draft Financial Markets Conduct Bill stems from the comprehensive review of securities law, Commerce Minister Simon Power says.

It is open for submissions, which close on 6 September 2011. Mr Power says he intends to introduce the bill to Parliament before the election.

The release of the draft bill is the latest step in the ‘root and branch’ review of New Zealand’s securities law. The Law Society’s Commercial and Business Law Committee has been fully engaged in the review process.

Last year, the committee made an extensive submission on the Ministry of Economic Development’s (MED) discussion document on the securities law review.

When releasing the draft bill, Mr Power referred to the review as being a once-in-a-generation opportunity to re-write our securities law in a manner that is enduring. He referred to what he described as the crucial role that the new legislation will play in restoring confidence in our financial markets. This he saw as being achieved by providing better protections for mum and dad investors, as well as clearer rules for businesses seeking to raise capital.

Noting that the draft bill takes into account the work of the Capital Market Development Taskforce, the effects of the global financial crisis and the failure of finance companies, Mr Power also described one of the aims of the bill as providing a ‘one-stop shop’ for securities law.

Regulated financial products

The definitions in the draft bill, that will determine how a financial product is regulated, signal a move to a more principles-based classification of regulated financial products (debt securities, equity securities, managed investment schemes and derivatives). This is designed to focus more on the economic substance of a financial product, and not just its legal form.

Also, the Financial Markets Authority (FMA) will have the ability to determine that a financial product comes within one of these categories and to move products between the categories.

Offer process and exemptions

The offer process will be clarified, modelled on Australian legislation. This includes providing a “basic rule” that offers of financial products for issue and certain offers for sale require disclosure using a single product disclosure statement (PDS). This replaces the requirement for issuers to prepare both a prospectus and investment statement.

The “basic rule” will apply unless the investor or the issuer is exempt (see the next sub-heading).

Also, the current ‘default setting’, where a disclosure failure (a failure to comply with the [prescriptive] disclosure regime), typically leads to the offer being automatically void will be replaced with a process whereby the investor will have a limited period to return the securities and seek compensation (or a refund in certain circumstances).

Exemptions

The much-criticised exemptions regime will be changed so that there are more “bright line” tests. Issuers will also be able to rely on self-certification by wholesale investors that they are exempt.

Largely in keeping with earlier Cabinet policy decisions, the principles-based exemptions include offers to:

  • “wholesale investors” (typically investment businesses and persons who meet certain quantitative investment activity criteria);

  • people in a close relationship with the offeror (relatives and close business associates);

  • people acting through certain (licensed) intermediaries;

  • a “specified employee” under certain employee share schemes, where remuneration rather than fund-raising is the primary purpose of the offer and subject to certain limits (typically 10% of the relevant class in any 12-month period);

  • people under a dividend reinvestment plan; and

  • people under certain ‘small offers’, borrowing from the Australian 20 x 12 exemption designed to address the needs of SMEs.

Managed investment schemes

One of the most significant changes proposed by the draft bill is to modernise the regime applying to managed investment schemes. This includes creating a single regime that applies to all managed investment schemes which are offered to retail investors. Such schemes will have to comply with a common set of substantive requirements to ensure an adequate level of investor protection.

Other developments include seeking to improve governance (by setting out the duties that apply to fund managers and trustees and supervisors and providing for appropriate remedies).

Again, this is a work in progress. It is expected that it will require refinement during the legislative process.

Liability regime

The draft bill follows Cabinet policy decisions that aim to focus securities law on civil remedies and compensating investors, with only serious wrongdoing resulting in criminal liability. As a result, the draft bill provides for enhanced rights to compensation, particularly where there has been defective disclosure. One key element in this policy change is that investors will not have to prove actual reliance on a defective disclosure document (DDS) coupled with a (rebuttable) presumption that materially adverse misstatements have caused a product’s loss in value.

The draft bill also carries forward the concept of an infringement notice regime for minor “compliance” type contraventions.

Also in keeping with earlier Cabinet decisions, it is intended to provide for it to be an offence to commit a serious breach of the directors’ duty to act in good faith and in the best interests of the company. This may ultimately be included in a separate amendment to the Companies Act 1993.

The FMA will be provided with scope to give “no action” letters. The explanatory notes suggest that such a letter may be given where an enforceable undertaking is given by a financial markets participant (which could include provision for compensation).

False or misleading conduct

The draft bill contains prohibitions on misleading and deceptive conduct and false representations in trade in relation to dealings in financial products and providing of financial services. These prohibitions are not limited to retail dealing, are closely modelled on the Fair Trading Act 1986 and will be enforced by the FMA rather than the Commerce Commission.

Securities markets

The substantive law relating to behaviour by participants in public securities markets is largely unchanged. This includes the existing law on insider trading, market manipulation, substantial security-holder disclosure and continuous disclosure. However, the draft bill modifies the current regulatory regime for exchanges by replacing the current registered securities exchange and authorised futures exchange regimes with a licensing regime for significant non-wholesale markets.

Licensing

The draft bill provides for an occupational licensing regime in terms of which the FMA will licence fund managers and other service providers. Licence criteria and the types of licence conditions applicable to each type of licence will be prescribed in regulations (and it is noted that earlier Cabinet decisions referred to a limited form of licensing of fund managers). Also, the new licensing regime for supervisors of debt securities and managed investment schemes, passed earlier this year, will continue. The MED also notes that there will be some overlap of licensing regimes, which has yet to be worked through in detail.

Discretionary investment management services (DIMS)

The draft bill provides for regulation (by licensing) of the provision of DIMS by corporate entities to retail investors. A DIMS provider who holds a discretionary mandate for a number of investors is described as undertaking the same activity as a fund manager in a managed investment scheme. That is, investors have many of the same risks, and rely on the integrity and skill of the DIMS to make investment decisions on their behalf and to ensure safe custody of investment property.

As a result, regulation of DIMS was required to ensure that there would not be an obvious loophole in the new regime. Rather than follow the Australian model and include DIMS within the managed investment scheme regime, the draft bill takes the approach that DIMS is a service, not a product – because the investor obtains a direct interest in the (underlying) investment that the DIMS provider chooses rather than, say, an interest in a funds management vehicle.

More to come

The explanatory notes from the MED highlight areas for submission and also note issues where MED thinking or underlying policy decisions are not yet fully developed. The draft bill itself includes extensive notes for submitters (drafting notes) indicating the current thinking of the policymakers and areas where further amendment to other legislation may be required.

Also, much of the technical detail to make the proposed new regime “work”, such as the detailed content requirements for disclosure documents, will be contained in regulations that the MED has stated will themselves be the subject of extensive consultation over the coming year.

This article was published in LawTalk 779, 26 August 2011, page 14.



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Last updated on the 11th May 2012