All securities issued by an Ontario private company need to be issued in compliance with the Securities Act under an applicable prospectus exemption. “Securities” can include common and preference shares, limited partnership interests, some types of debt instruments and convertible shares and debt.
I am assuming for purposes of this article that the capital raising is being done by an Ontario company through investors resident in Ontario; if an investor is resident outside Ontario, the company would need to examine the laws of the jurisdiction where the investor is resident.
When the private company is in the early or startup phase, securities will typically be issued to founders, directors, officers and employees of the company; these share issuances would fall under the “private issuer” prospectus exemption provided that (a) the company’s securities have restrictions on transfer (which are almost always included in the company’s articles), (b) the number of shareholders does not exceed 50 (excluding employees and former employees), and (c) all securities of the company have been and are being distributed to persons in certain exempt categories; for example, (i) director, executive officer, employee or founder, (ii) certain close relatives or close business associates of a director, officer, etc. (iii) an existing security holder of the company (iv) an accredited investor.
This is the preferred exemption to use if it is available as no Ontario Securities Commission (“OSC”) filing or filing fee is required.
The typical documents required in connection with use of this exemption are a share subscription signed by the investor and a directors’ resolution of the company accepting the subscription and issuing the shares.
If a capital raise does not fit within the private issuer exemption because capital is being sourced from members of the general public, then the most common and useful exemption is the accredited investor exemption. To qualify under this exemption, an investor must meet certain annual income or asset holding thresholds. The most common qualification is that the investor has a net income before tax in excess of $200,000 in each of the two most recent years (or combined with his/her spouse, $300,000) and reasonably expects to exceed that level in the current year as well.
The typical documentation involved in this type of investment is:
- (a) a subscription agreement between the company and the investor which includes various warranties from each party and a description of the amount, type and timing of the investment
- (b) a Risk Acknowledgement Form signed by the investor under which the investor has to acknowledge that the investment is risky
- (c) a directors’ resolution of the company approving the Subscription Agreement and issuing the securities
- (d) an informational filing which the company must make with the OSC regarding an issuance under the accredited investor exemption and payment of a filing fee.
Another exemption available for a corporate investor is making an investment of at least $150,000 in the company. This exemption was previously available for individual investors as well but no longer is available to them. If this exemption is used, an OSC filing and filing fee are also required.
There are also other much less common exemptions available for use as well, such as the “friends and family” exemption, the offering memorandum exemption and the crowdfunding exemption.
One other very important thing to remember is that an investor acquiring securities under an exemption must also find another exemption on the first sale of those securities after the acquisition. Typically, the same exemptions described above are used in these cases.
If the company grows to the extent that it wishes to file a prospectus and become a reporting issuer, then the resale of outstanding securities which would otherwise need to find an exemption can occur where the resale takes place within certain specified periods of time after a company becomes a reporting issuer.
