Capital Market Reforms

An overview of recent capital market reforms

Financial reporting scandals such as Enron, Worldcom and others produced the most comprehensive reform of securities legislation in the United States since the introduction of the Securities Acts of 1933 and 1934. Legislators and regulators around the globe, recognizing that capital moves across geographical boundaries at the speed of light, had little appetite for having their domestic markets viewed as less attractive, and so they instituted their own reforms. As a result, the U.S. capital market reforms are having a direct, albeit uneven, impact on the regulation of capital markets around the world.

The efficiency of capital markets depends on well-developed securities laws, stock exchange regulations and enforcement mechanisms that ensure that all issuers and investors are treated fairly and equitably. It also depends on companies providing timely, accurate and reliable information to investors, especially financial reports, to help them assess the performance and financial condition of listed companies and make investment decisions.

When investors lose confidence in the integrity of financial reporting, the public loses confidence in the integrity of the markets themselves, posing a serious threat to one of the fundamental underpinnings of our free enterprise system.

While Canada has a well-developed and highly respected set of securities laws and regulations, it is not immune to financial reporting and other corporate scandals. The reform of its securities legislation and regulation, however, must take into account the unique characteristics of the Canadian economy. Effective market regulation that encompasses the needs of both large and small public companies is particularly challenging for Canada, a relatively small market that is highly integrated with that of the United States and one in which many large companies go outside the country for capital.

The Government of Ontario and the Ontario Securities Commission have been catalysts for capital market reform in Canada. A recent milestone in this reform was contained in amendments to the Ontario Securities Act, which were included in what is commonly referred to as "Bill 198” or the Budget Measures Act of 2002.

Two key components of this legislation, which came into force in April, 2003, gave the OSC the authority to issue regulations with respect to audit committees and CEO/CFO certification, and to impose tougher penalties under Ontario securities laws.

Another milestone in capital market reform in Canada was reached on January 16, 2004. On that date, the Canadian Securities Administrators released three significant instruments: Multilateral Instrument 52-110, "Audit Committees” contained the final rules for audit committees; Multilateral Instrument 52-109, "Certification of Disclosure in Issuer's Annual and Interim Filings” set out the rules for CEO and CFO certification; and National Instrument 52-108, "Auditor Oversight” addressed the rules around auditor oversight.

While the new requirements of these instruments are based on those that have been implemented in the United States, specifically as a result of the Sarbanes-Oxley Act and the SEC regulations, the CSA modified a small number of them to be more responsive to the needs of the Canadian market.

While any differences between the requirements in the United States and Canada may create some challenges for inter-listed companies, every effort has been made to ensure that compliance with the more stringent U.S. requirements will satisfy the Canadian rules.

As part of capital market reform, securities regulators in Canada and abroad continue to revise the various penalties and sanctions and to strengthen their enforcement activities and resources.

The CSA has also issued rules that go beyond financial reporting to address the broader issues of corporate governance in National Policy 58-201, Corporate Governance Guidelines and National Instrument 58-101, Disclosure of Corporate Governance Practices.

One of the principal objectives of capital market reform must be that governance standards, securities regulations and accounting standards should facilitate the flow of capital across Canada, across the Canada-U.S. border, and globally. It is very important that regulatory regimes do not become barriers.

In a world of inter-linked business and uncertain and jittery capital markets, where the small size of the Canadian capital market and Canada's dependence on trade with the United States render Canada uniquely vulnerable, it is especially important that Canada's regulatory and governance framework not be too dissimilar to that of the United States.

The critical issue for Canada is to make every effort to see to it that Canadian markets are healthy, vibrant, attractive and open. If they are, Canadian and foreign investors will choose Canada. If they do not measure up to international standards (especially, American standards), investors will look elsewhere.

It is important for both the United States and Canada to not only focus on appropriate governance and securities rules, but to also focus on how best to create a healthy governance culture.