NIN 87/66 - Prospectus Vetting Procedures [NIN - Rescinded]

This office is currently implementing a new system for the vetting of prospectuses. The goal in adopting this system is to significantly reduce, as quickly as possible, the turn-around time for the issuance of initial deficiency letters, thereby eliminating a persistent impediment to the efficient operation of the local securities market. The system is also intended to enable the Securities Commission to operate within the time limits for national offerings which are set out in National Policy No. 1. The system will not and cannot reduce the amount of time which an offering spends in the hands of counsel or the underwriters after the issuance of deficiencies, which often represents a significant component of the total time required to bring a public offering to completion.

There are many reasons for the increased turn-around time, including a record number of prospectus submissions, the increasing diversity and complexity of public offerings, and staffing difficulties at the Securities Commission. The latter is a problem which is currently being addressed by the addition of a significant number of analysts in the Corporate Finance department, but this step will not solve a problem which consumes a disproportionate amount of analysts' time - poorly prepared submissions.

An analyst may spend five times as long vetting a poorly prepared submission as a properly prepared one. This has created a bottleneck in the vetting system, resulting in delays for all issuers, including those whose offering documents are well prepared. For poorly prepared submissions, the delay in getting out initial deficiencies is only the first step in the long and frustrating process of clearing the deficiencies, for example by revision of technical reports, financial information, prospectus disclosure or business aspects of the offering.

The number of inadequate submissions and the extent of their problems has also led analysts to ask many of the questions which should be part of every due diligence procedure. The due diligence process is the responsibility of issuers, underwriters and their professional advisers. The Superintendent acknowledges that the apparent involvement by analysts in this process is inappropriate. Unfortunately, in some instances it has been the only way in which full, true and plain disclosure of all material facts, as well as compliance with applicable regulations and policies, could be achieved.

In order to address this problem, a "three-track" system is being adopted to ensure that well prepared submissions are not backed-up behind poorly prepared ones. Under this system, all incoming prospectuses will be checked for completeness of the required filing materials, and then immediately assigned to a supervisor who will review the prospectus in sufficient detail to decide which of three "tracks" the prospectus will be on:

1. The fast track, which means that the prospectus is in compliance with applicable law and policies, and appears to contain full, true and plain disclosure of all material facts, although there may be a small number of disclosure deficiencies or other questions, as is normally the case.

2. The center track, which means that the required due diligence appears to have been done, but the submission requires a more in-depth analysis because of a particular area of concern. Examples of such concerns would include a novel or unusually complex type of security or issuer, or a departure from applicable policies for reasons peculiar to the particular offering.

3. The third, or "circular track", so named because the prospectus will be returned to the issuer for failure to meet the minimum standards required to initiate the formal vetting process. The return of submissions on this track means that, in this office's view, the required amount of due diligence has not been done before the preliminary prospectus and related documents were submitted to this office. An analyst will no longer raise matters which should have been raised in the exercise of due diligence, nor will he or she spend an inordinate amount of time detailing all the shortcomings or meeting with the issuer or its advisers in an attempt to "clarify" the terms of the offering. The documents must stand alone and it should not be necessary to qualify them with significant supplementary written or oral information.

In order to avoid the third track it is important to keep two things in mind:

1. Under section 44(2) of the Securities Act, a preliminary prospectus should represent the final form of the offering, subject to necessary amendments arising out of comments from this office or from developments between the time of filing the preliminary prospectus and the final prospectus; and

2. Under section 120 of the Securities Regulation, the Superintendent is required to refuse a receipt for a prospectus where, among other things:

"(a) The prospectus or any record required to be filed with it

(i) does not comply substantially with the appropriate requirements of the Act and this regulation, or

(ii) contains a misrepresentation or a statement, promise, estimate or forecast that is misleading, false or deceptive,

(b) an unconscionable consideration has been paid or given or is intended to be paid or given for any services or promotional purposes or for the acquisition of property,

(c) the aggregate of

(i) the proceeds from the sale of the securities under the prospectus that are to be paid into the treasury of the issuer, and

(ii) the other resources of the issuer is insufficient to accomplish the purpose of the issue stated in the prospectus,

(d) the issuer cannot reasonably be expected to be financially responsible in the conduct of its business because of the financial condition of the issuer or that of its officers, directors, promoters or control persons,,

(e) because of the past conduct of the issuer or that of its officers directors, promoters or control persons, the business of the issuer will not be conducted with integrity and in the best interests of the security holders of the issuer,...."

In order to minimize the number of prospectuses on the third track, the following guidelines have been developed to assist issuers,, underwriters and their advisers. These guidelines are not intended to be a due diligence checklist; they are to be used by analysts as indicators to determine whether the minimum amount of due diligence has been done. The presence in a submission of only one of the following features by itself will not necessarily, except in extreme circumstances, put a submission on the third track. However, a combination of those features will result in a brief letter from this office referring to the guidelines which have not been satisfied, and indicating that except as to item 1 below, a formal appeal of the decision may be requested.

The key indications of lack of due diligence, in no particular order of importance or frequency of occurrence, are as follows:

1. Incomplete submissions

The Securities Act, the regulations thereunder and Local Policy Statement #3-02 (in the case of local issuers) or Local Policy Statement #3-03 (in the case of national issuers) set out the filing requirements for preliminary and final prospectuses. Many submissions contain prospectuses or financial statements which are not properly executed or omit items such as consents, fees, Form 4's, auditors comfort letters, financial statements for operating subsidiaries and the like. The omitted items then dribble in one by one, making a proper and timely vetting task virtually impossible. In these situations, a letter will be sent to the filing solicitor describing documents which are required and stating that a receipt for the preliminary prospectus will not be issued until the submission is complete. If all the required material is not received within 5 days, the entire submission will be returned pursuant to section 183(2) of the Securities Regulation.

2. Lack of Merit

Section 120(2) of the Securities Regulation clearly empowers and requires the Superintendent to consider the merits of a proposed offering. The extent of enquiry into merit is perhaps the most subjective and controversial aspect of the vetting process. It is clear that this office has neither the mandate nor the experience to second-guess business judgements or make predictions about markets or the viability of products, business plans or operations. It is equally clear that it is not in the public interest to permit companies without any realistic foundation for carrying on business to solicit funds from the public. For this reason, the the Mining Evaluation Committee was established some time ago to review technical reports on resource properties to screen out companies which were promoting properties which clearly had no merit. The technical report process for non-resource companies is intended, in part, to accomplish the same purpose. In rare situations, this office will reject submissions by issuers where it is apparent that the property, business plan, product, or past operations of the issuer do not constitute a basis for carrying on the business in which the public is being asked to invest. This step will generally not be taken unless a confirming, independent assessment by a qualified person has been obtained by the Superintendent.

3. Noncompliance with Legislation or Policies

Offering documents which indicate that the Securities Act or regulations, or applicable local, uniform or national policies have not been complied with, immediately attract further inquiry by analysts, who are generally left to guess at the reasons for the departure from accepted rules. Where this departure is a result of oversight or a deliberate attempt to circumvent the rules, the vetting process inevitably slows down. In order to avoid this, the parties involved in the offering should carefully review all applicable legislation and policies to ensure the offering complies. If there are valid, exceptional reasons for non-compliance, it is important that they be set out in detail in the filing solicitor's letter, and be accompanied by submissions from underwriters, auditors, or engineers where it may be helpful to the analyst.

4. Confusing or Incomprehensible Submissions

This too is a subjective matter. Occasionally, a prospectus or technical report simply does not make sense. The analyst comes away from the document without any clear picture of the offering, the issuer or its business. This goes beyond the disclosure simply not being "plain", as required by the Securities Act; it extends to an inability to answer the question "what does this mean?" in connection with entire portions of a document. If an experienced analyst cannot make sense of a document, it is unlikely that other readers will be able to do so, and disclosure which is so seriously flawed usually means that the necessary care and attention has not been given to the document or, worse, to the offering as a whole.

5. Serious or Extensive Inconsistencies

This is a common problem which should not occur if documents are properly reviewed prior to being submitted. The inconsistencies may be internal to the prospectus, or prospectus information may conflict, without explanation, with that in a technical report, material contract or financial statement. This not only makes the submission confusing; it raises the question as to what the true state of affairs is and whether the required due diligence has been done.

6. Failure to Deal with Obvious Regulatory Concerns

If an offering involves features which could possibly result in refusal of a receipt under section 120 of the Securities Regulation, this should be dealt with right from the start either in the prospectus or in a letter from appropriate person at the time of the submission. The most commonly neglected area is the track record or financial condition of officers, directors, promoters or control persons of the issuer, or the acceptability of persons who have expressed professional opinions in the prospectus. A proper due diligence review should identify these areas of concern. Where such problems are found, the participants or the structure of the offering should be changed before the submission is filed or, where appropriate, there should be disclosure in the prospectus.

7. Hyperbole

A prospectus must be a balanced disclosure document, not promotional literature. Too many prospectuses contain claims which cannot be substantiated or are exaggerated, and may in addition fail to give a balanced summary of the risk factors to which the issuer and its business are subject. A due diligence review should challenge every claim, expose unsupportable assumptions and recognize risks which may not be readily apparent. When an analyst is required to raise these issues, it means the required due diligence has not been done.
All of the above situations are avoidable by the exercise of due diligence prior to filing the preliminary prospectuses. In the coming months, the Securities Commission will be working closely with issuers, underwriters and their professional advisors to reach an understanding as to the appropriate standards of due diligence, particularly in the case of offerings by junior issuers.

As a final matter, on local prospectus filings, this office will now send copies of deficiency letters to the underwriter or agent, auditor, and technical report writer involved in the offering, as well as to the filing solicitor and the issuer. Where more than one underwriter or agent is involved, the filing solicitor's letter should indicate the name of a person who will act as a "lead" agent or underwriter for the purpose of receiving the deficiencies, and that person will then be responsible for keeping the other agents or underwriters advised of the progress of the filing. It is anticipated that this procedure will reduce delays in responding to deficiencies, and disseminate more widely the concerns and standards of this office.


DATED at Vancouver, British Columbia, this 9th day of October, 1987.