The Ontario Securities Commission is calling on boards of directors, auditors, underwriters and stock exchanges to improve their practices for listing foreign companies on Canadian stock exchanges, saying there has been a broad lack of "skepticism" about business practices in emerging countries such as China.
In a report released Tuesday, the regulator levelled criticisms at most of the key players involved in bringing foreign company shares to Canadian investors, saying there is a lack of "professional skepticism" when reviewing these companies and a prevailing attitude of "form over substance" when complying with listing rules and disclosure standards.
"In our view, the level of rigour and independent-mindedness applied by boards, auditors and underwriters in doing their important jobs – management oversight, audit, due diligence on offerings – should have been more thorough," the report concludes.
The OSC launched its review last July after a U.S. short seller published a report condemning Chinese forestry company Sino-Forest Corp. as little more than a "Ponzi scheme," sending the company's share price plummeting on the Toronto Stock Exchange. The OSC later suspended trading in Sino-Forest's shares while investigating its financial disclosure.
The OSC's nine-month study looked at emerging market companies based in Asia, Africa, South America and Eastern Europe. It included an in-depth review of 24 companies, representing almost one-quarter of the total 108 companies from those regions whose shares trade on Canadian exchanges.
While the report doesn't identify any companies by name, many of its concerns appear to apply to Sino-Forest, including criticism that boards do not have processes in place to identify and approve related-party deals, Canadian directors often don't speak the same language as senior management, and companies have highly complex structures with various holding companies controlling an operating company, which the OSC said may hinder the board's ability to properly understand the full extent of operations.
The report does not cite specific policy reforms that will be adopted, but instead lists areas of concern that will be targeted for detailed study and new policy development. Many of the proposals require co-operation from other bodies, such as stock exchanges and audit oversight bodies.
"This review uncovered a number of areas where issuers and gatekeepers need to improve in order to meet their obligations, and we will be monitoring their progress to ensure the interests of investors are placed first," OSC chairman Howard Wetston said.
Among its recommendations, the OSC calls on stock exchanges to assess whether additional listing requirements are needed for foreign companies, and to examine whether the exchanges should be required to publicly disclose cases where it gives a waiver to a foreign company from following a listing requirement.
TMX Group Inc., which operates the Toronto Stock Exchange, said in a statement that it has already launched its own consultations to develop new guidance for emerging market companies.
Some of the report's sharpest criticism is reserved for boards of directors overseeing foreign companies, noting the Canadian directors are too often far removed from the executives running the companies in foreign countries and too unfamiliar with local practices.
Some board members were unaware of banking practices, currency restrictions and the regulatory environment in which the company operates, the report said. Some relied on senior management to give an overview of key business documents written in another language, rather than obtaining a translated version to read themselves.
Toronto securities lawyer Carol Hansell, who specializes in board governance issues, said the report highlights the difficulty facing Canadian directors who do not have any personal experience with the company's foreign business environment. Such issues have been facing boards for years, but the problems have finally reached a "critical mass" where regulators feel compelled to step in, she said.
"Emerging market companies may need a different kind of discipline," Ms. Hansell noted.