Supplementary Financial Markets Conduct Regulations

Supplementary Financial Markets Conduct Regulations

At some time in the last week, MBIE published an exposure draft and commentary document – requesting submissions on proposed amendments to the Financial Markets Conduct Regulations 2014 (“FMC Regs”) and a handful of related matters.

I say some time, because MBIE seems not to have told more than a handful of stakeholders, and the commentary document is simply dated “May 2015” and, unlike the FMA (which has a comprehensive communications mechanism), I was only able to gain access to this discussion document because past experience had taught me to set up my own Google alert. However, a bit of detective work shows that the MBIE website was last updated on 25 May – which I take to be the day when the document was made available.

For ease of reference, I attach a link to the material MBIE commentary.

Summary

The Financial Markets Conduct was passed in September 2013 and came into full force with the FMC Regs on 1 December 2014. The FMC Regs covered the core requirements needed for the FMC Act regime. However, a number of non-essential matters were deferred to enable the FMC Act regime to come into force by 1 December 2014.

MBIE is now seeking feedback on an exposure draft of amendment regulations to be made under the FMC Act. The amendment regulations contained in the exposure draft:

• tailor the regime for various non-standard situations that were previously deferred (these are described as mostly being variations or modifications to disclosure requirements); and

• make other improvements and enhancements to the FMC Regs – MBIE says that it is continuing, with the FMA, to engage with stakeholders around implementation of the FMC Act regime – and that, as expected, some remedial issues have emerged that the exposure draft also seeks to address.

In addition, MBIE is seeking feedback on a suggested alternative product disclosure document for managed funds – but regulations implementing this alternative are not included in the exposure draft, but comment is sought on the alternative to assist in developing those regulations.

At a glance, this sounds like minor tweaking, but on closer inspection the material includes some possibly significant developments relating to:

• Two key elements of relief in respect of offers by listed issuers for offers of debt or equity securities that rank equally or in priority to products that have been quoted for at least 3 months on a licensed market, namely:

o scope for a short-form offer document (a “simplified disclosure PDS”); and
o the removal of the requirement for the register entry to include all material information not in the PDS.

• providing scope for a “bespoke offer document” for offers of convertible financial products; and

• catering better for a wider range of managed fund products.

MBIE are also seeking feedback on a handful of knock-on points and other proposed remedial changes.

Simplified disclosure PDS

The exposure draft proposes changes to enable short-form disclosure by listed issuers, building on the approach in the FMC Act for follow-on offers of existing quoted equity and debt securities.

Note that the FMC Act exempts these follow-on offers from the usual PDS disclosure (the “same class” exclusion – provided by clause 19, Schedule 1 to the FMC Act). This enables listed issuers to lodge a ‘cleansing notice’ with NZX, acknowledging that they are up-to-date with continuous disclosure and financial reporting requirements, and containing any excluded information. This approach relies on continuous disclosure being made – and thus an informed market price for the financial products.

The current, statutory, relief does not extend to other financial products offered by a listed issuer. However, MBIE helpfully suggests that where those products rank equally or above the quoted products, a listed issuer should (in principle) be able to rely on the market disclosure to deal with core aspects of the disclosure that would otherwise be required (for example, financial disclosures or risk relating to the issuer). Equivalent relief was given to these offers under the previous Securities Regulations 2009, and Cabinet has decided to continue this approach under the FMC Act.

Consequently, the exposure draft proposes relief for offers of debt or equity securities that rank equally or in priority to products that have been quoted for at least 3 months on a licensed market – enabling them to be offered by means of a simplified disclosure PDS (accompanied by a cleansing notice to the market).

As noted above, the relief extends to the need to ensure that the register entry includes all material information not in the PDS. Consequently, the exposure draft proposes that:

• the register entry must alert investors that a simplified disclosure PDS is being used for the offer; and

• relief be given from the specific obligations to include financial statements and material contracts on the register entry

MBIE seeks feedback on whether the simplified disclosure PDS provides the right balance of information for investors, while reducing disclosure burdens on issuers. Feedback is also sought on whether the cleansing notice process works appropriately for these offers. For example, the requirement for the cleansing notice to cover the potential effects of the offer on control of the issuer may be better dealt with in the simplified PDS. (And the exposure draft also proposes changes to the cleansing notice process for both “same class” and the new simplified disclosure offers, which will ensure the cleansing notice is updated while offers are open, and enables cleansing notices to be given at an earlier time set by NZX).

Extending relief to offers by unlisted issuers

MBIE notes that the December 2012 discussion document for the FMC Regs consulted on whether short-form disclosure was needed for any other types of offers, for example by unlisted issuers. Submitters generally commented that the need for further short-form disclosure would be significantly reduced in light of the shorter PDS requirements. However, it is encouraging that MBIE signals that this is an opportune time to reassess that view now that the full picture of the disclosure regime is clearer.

This enquiry begins by suggesting that the first question to be answered is whether the generic PDS requirements, now that they are shorter, result in disclosure that is markedly more burdensome for issuers, and less useful for investors, than the previous short-form disclosure obligations that were relevant under the old disclosure regime prescribed by the Securities Act.

Offers of convertible products and options

MBIE says that it thinks that there is value in moving beyond reliance on FMA exemptions for convertible offers and setting the convertible offer document requirements in the regulations, if it can be done without introducing significant complexity. As a result, the exposure draft:

• sets the base disclosure document and register entry according to the nature of the convertible product–that document must have a warning statement on the front of it if the convertible has a mandatory conversion on an insolvency-related event;

• requires additional disclosure on certain matters relating to the new product–with less required when the new product is quoted;

• requires some of the prescribed statements to be amended to deal with the new products;

• gives a “permission” to include extra information about the new product (or new issuing group) where the issuer reasonably considers it useful to investors; and

• provides relief from the obligation to include “all material information” on the register if the new product is quoted, to the extent that that information has previously been disclosed to the market.

MBIE identifies, as a key question, whether this approach is suitable for all convertibles, suggesting that it may under-weight the importance of the new product in some offerings (e.g. where the initial debt provides a short-term fixed income stream and quickly becomes convertible into equity in a start-up). In such a case, MBIW suggest that it might be expected that the PDS would focus more on the drivers of equity returns and equity risks rather than on the ability of the business to meet its obligations under the debt securities. Covering too many different commercial scenarios, or allowing different options for compliance, may also introduce too much complexity to the regulations. As a result, MBIE suggest that if more refined options are needed, a better approach may be to rely on the FMA to continue to set more bespoke offer document requirements (by means of a specific FMA exemption).

Options by way of issue

The exposure draft does not deal extensively with offers of options, by way of issue, for financial products. Under section 43 of the FMC Act, an offer of an option, by way of issue, is an offer of both the option and the underlying financial product. An option is the same kind of financial product as the underlying product, so the usual product PDS (or simplified disclosure PDS) could be used for the option and underlying product together. MBIE asks if there is any practical benefit in making further modifications to deal specifically with options – because it does not expect that options by way of issue will commonly require Part 3 disclosure. For example, Options over unquoted products are used within employee share schemes and in this case will likely use the employee share scheme exclusion in Schedule 1 of the FMC Act.

To the extent that other options by way of issue are offered outside of these exclusions, the usual equity PDS could be used. Although references to “equity securities” in the disclosure document requirements would apply to both the option and option underlying – nonetheless, MBIE seeks feedback as to whether there are practical problems with using the usual PDS disclosure for options by way of issue that the FMC Regs should address.

Managed funds

MBIE also seeks feedback on a range of managed fund situations that are not fully catered for in the FMC Regs, including:

• multi-employer schemes, where different employers participate on different terms;

• defined benefit schemes;

• multi-fund investment options, where a fund manager offers investors an investment option which consists of a pre-set allocation of underlying funds; and

• the use of fund updates at the point-of-sale to supplement, or form part of, the PDS for a managed fund.

Financial statements for acquired businesses

Amongst the other proposals in the exposure draft are suggestions to deal with the legacy of efforts to address, in the FMC Regs, what was a major bugbear under the old Securities Act disclosure regime relating to financial statements for acquired businesses.

The FMC Regs already go some way to managing the bugbear, by providing some flexibility by allowing for pro forma information and only requiring financial information on acquired businesses where it is material information. However, the exposure draft proposes some additional changes to the individual information approach so that, if an issuer chooses not to provide pro forma information, it can more easily provide individual financial information in a separate table. The proposals in the exposure draft will:

• allow the selected financial information table to contain different historical periods (where the acquired business has a different accounting period); and

• limit the periods that must be covered to those that were completed before the acquisition and, in limited cases (where the acquisition is proposed or recent, and the acquired business financial information is more than 9 months old), an interim period of at least 6 months.

Remedial changes

The exposure draft also contains a laundry list of remedial changes that are aimed at ensuring the FMC Regs apply appropriately. These include changes:

• addressing overlap issues or to improve consistency (which include some problems with Schedules 8 and 9 of the FMC Regs – which prescribe limited disclosures for offers made under the exclusions provided by Schedule 1 of the FMC Act);

• improving alignment and functioning of the online register; and

• other minor tweaks – that are not unexpected as a result of having to implement the size and complexity of the FMC Regs.

What else is happening?

MBIE notes that the exposure draft does not resolve all implementation issues that have been raised. Instead, it says that some need further work to determine whether action is needed and/or what form any action should take. A list of further issues that MBIE is currently working on – is to be published later.

In addition, MBIE notes that it is seeking to address a number of remedial changes to the FMC Act – in a new bill (the Regulations Systems Bill).

Also, the exposure draft should be considered alongside work being done by FMA on exemptions under the FMC Act to understand the full picture for the FMC Act. (Note that the FMA is currently considering submissions on its March consultation on those exemptions).

Timeline

The closing date for submissions on the exposure draft and commentary document is 2 July 2015.

The Commentary document then notes that amendment regulations are intended to be made in the third quarter of this year – with some to come in to force by 1 December 2015 so as to permit short-form offers and convertible offers to be made under the FMC Act using the proposed relief. MBIE proposes a longer transitional period for other disclosure requirements (such as fund updates for some types of managed funds) where more business changes may be needed for implementation.

Further information

If you would like more information about any of the matters discussed in this note, please contact me.