What’s new in compliance

01 CRM overhaul implemented

The CSA is changing the client relationship model (CRM) by amending National Instrument 31-103. The regulator is introducing the changes because “many investors currently do not receive” important information about the costs and performance of their investments, it says.

Rebecca Cowdery, a partner at Borden Ladner Gervais (BLG), says, “These are major changes, and people have to start planning now.” Here’s how to adapt.

Explaining fees and costs

The amendments require firms to explain deferred sales charges and their amounts. Advisors must also tell clients that transaction charges will apply to securities purchases, whether or not the firm will receive trailing commissions, and what compensation they may receive for bond trades.

“There’s an emphasis on trailing commissions — some would say an overemphasis,” Cowdery says. “This is driven by investor advocates and the commissioners, who feel investors don’t understand their advisor is getting continual payments from their investments in mutual funds.”

In a bulletin co-authored with Prema K.R. Thiele and Marsha P. Gerhart of BLG, Cowdery notes it’s not necessary to make these disclosures in writing, but firms must keep records of fee conversations.

She says the CSA “appears to be suggesting people might not buy [certain] over-priced mutual funds if they had more information about them,” she says, adding the regulator has concluded the existing suitability standards “aren’t identifying the right investments for clients.”

Account statement changes

Some of the biggest changes relate to quarterly account statements. Cowdery says the CSA requires a “complicated new formula” be used when calculating the market value of securities. And there’s now a choice between showing original cost or book cost.

“Original cost is the total amount paid to purchase a security, including any transaction charges related to the purchase, while book cost is the total amount paid for a security, including any transaction charges related to its purchase, adjusted for reinvested distributions, returns of capital and corporate reorganizations,” the BLG bulletin explains.

Statements must also indicate which securities have DSCs.

Cowdery emphasizes there’s been changes to the disclosure required on securities registered in the client’s name.

“Dealers are used to providing quarterly statements describing the holdings in an account if they’re registered in the name of the dealer. The problem is when they’re registered in the client’s name at the fund company.

“The regulator is now requiring dealers to provide all the same information — market value, book or original cost — on each of those client-name securities,” she says. “Dealers are going to have to get this information from the fund company.”

The new rules also require statements giving an annual summary of compensation and operating charges. This includes trailing commissions, transaction charges, referral fees and finder’s fees.

“There’s some confusion about what this new requirement entails. It’s what the firm receives — they’re not expecting detail on what the advisor gets paid,” says Cowdery.

She adds there’s a requirement for separate reporting on charges and compensation for nominee-name and client-name holdings, should a client have both.

The rule changes also require an annual performance report.

The statement will show an account’s opening market value, deposits and withdrawals. This figure is “compared to the closing market value of the account to determine the change in the value of the account over the past 12-month period, and also since the inception of the account,” the BLG bulletin explains.

The new rules also require dollars-and-cents performance figures over three, five and 10 years.

02 New rules proposed for closed-end funds

The CSA has asked for comments on proposed amendments to National Instrument 81-102 Mutual Funds, and proposed changes to Companion Policy 81-102CP as part of its Modernization of Investment Fund Product Regulation Project.

The proposals target closed-end (non-redeemable) funds, and if approved, would “bring them under rules that for the most part mirror those that apply to mutual funds,” Cowdery notes. National Instrument 81-102 would then be renamed Investment Funds to reflect its broader reach.

One area where mutual fund rules won’t apply is borrowing. Closed-end funds will still be able to use leverage, but the limit would be set at 30% of NAV.

This “generally reflects the current practice of the majority of existing non-redeemable investment funds, which limit their cash borrowings to an amount that is between 10% to 33% of NAV,” the proposals say.

Susan Han, associate counsel at Miller Thomson in Toronto, notes the new rules would introduce sweeping changes to the mortgage investment space.

If implemented, they would prohibit closed-end funds from investing in anything other than guaranteed mortgages. “The CSA are of the view that mortgages that are not fully and unconditionally guaranteed by a government or government agency may not be appropriate investments for publicly offered investment funds,” the proposal document says.

Han says this assertion is not backed up with commentary, and suggests the proposal could be part of a broader effort to dampen the mortgage market. “Political sentiment is that the mortgage market is too hot. So if the goal is to make mortgages more expensive, one way to do it would be to prevent investment vehicles from purchasing non-insured mortgages.”

Han further notes the proposal would exclude many conventional, credit-worthy first mortgages. The comment period is open until June 25, 2013.

03 Proposed makeover to hostile bidding process

The CSA has requested comments on proposed National Instrument 62-105 Security Holder Rights Plans, which would revamp the framework that governs how boards of directors can respond to hostile bids from other companies.

“Under current rules, a bidder can challenge a target board’s rights plan by [asking] the relevant securities regulatory authority for an order [to] cease trading any securities issued under, and in connection with, the target board’s rights plan,” Michael T. Waters, an associate in BLG’s Vancouver office, explains.

Such applications are usually successful, and result in cease trade orders within 55 days of the bid. The takeover is complete when a sufficient number of shareholders agree to sell at the bidder’s price.

If implemented, the CSA’s proposal would take the regulator out of the process. “Barring exceptional circumstances, the decision to adopt and maintain a rights plan would be a matter for company boards and shareholders, not securities regulators,” the proposal document says.

“The new framework would also allow target boards to leave rights plans in place indefinitely with shareholder support,” Waters explains, adding this would make takeovers more time-consuming and expensive, and far less certain.

He suggests the CSA is responding to concerns that current rules unduly favour bidders, leaving companies relatively vulnerable to hostile bids — especially when compared to U.S. firms.

The comment period is open until June 12, 2013.