For Canadian public companies that access the U.S. capital markets or that have U.S. shareholders it is important that they understand what it means to have “foreign private issuer”(“FPI”) status under United States securities laws and the benefits of FPI status and the potential consequences of losing FPI status.
What is a foreign private issuer?
Under the United States Securities Exchange Act of 1934, as amended (the “Exchange Act”), a foreign private issuer is any corporation or other organization incorporated or organized under the laws of a foreign country (other than a foreign government) that does not fail both of the Shareholder and Business Contact Tests set forth below. As such, a Canadian public company will generally qualify as an FPI, unless:
Shareholder Test: more than 50% of the outstanding voting securities of the issuer are directly or indirectly owned of record by “US residents”; and
Business Contacts Test: any of the following apply:
- the majority of the executive officers or directors are “United States citizens or residents”; or
- more than 50% of the “assets of the issuer are located in the United States”; or
- the business of the issuer is “administered principally” in the United States.
Where an issuer qualifies as an FPI under the Shareholder Test, it will be an FPI regardless of the outcome of the Business Contacts Test.
In the case of an issuer that is registering securities with the SEC for the first time, the determination of whether an issuer qualifies as a foreign private issuer is made as of a date within 30 days prior to the filing of the initial registration statement. Thereafter, in an all other circumstances, the Exchange Act requires that FPI status be tested as of the last business day of the issuer’s most recently completed second fiscal quarter.
Applying the foreign private issuer test
In assessing whether 50% or more of the outstanding voting securities are held by U.S. residents, consider the following:
(a) Look-Through Analysis:
A holder identified on the record of security holders counts as the record holder. However, the issuer must look through the record ownership of institutional custodians by obtaining the list of accounts for which the securities are held by the depository and treating each of the accounts as a separate record holder. The issuer must look through the record ownership of brokers, dealers, banks or nominees located in (i) the United States, (ii) the issuer’s jurisdiction of incorporation, and (iii) the issuer’s primary trading market who hold securities for the accounts of their customers, by obtaining the list of accounts for which the securities are held by the broker and treating each of the accounts as a separate record holder. If securities are held by a depository on behalf of a U.S. broker who holds the securities on behalf of a customer, the broker’s customer would be treated as the holder of record. If, after reasonable inquiry, the issuer is unable to obtain information about the amount of shares represented by accounts of customers resident in the United States, the issuer may assume that the customers are residents of the jurisdiction in which the broker, dealer, bank or nominee has its principal place of business. Issuers are also required to take into account information regarding U.S. ownership derived from beneficial ownership reports that are provided to the issuer or filed publicly, as well as information that otherwise is provided to the issuer.
(b) U.S. Residency:
Persons who have permanent resident status in the United States (a green card holder) are presumed to be U.S. residents. Individuals without permanent resident status may also be U.S. residents based on various factors, including (i) tax residency, (ii) nationality, (iii) mailing address, (iv) physical presence, (v) the location of a significant portion of their financial and legal relationships, or (vi) immigration status. An issuer must decide what criteria it will use to determine residency and apply the chosen criteria consistently without changing them to achieve a desired result.
(c) Multiple Classes of Voting Stock:
Issuers with multiple classes of voting stock with different voting rights may use one of two methods (applied on a consistent basis) to determine whether more than 50% of its voting stock is held by U.S. residents by assessing: (1) whether 50% of the voting power of those classes on a combined basis is owned of record by residents of the United States; or (2) the number of voting securities.
Business Contacts Test
In assessing the Business Contacts Test consider the following:
(a) Majority of Executive Officers and Directors
The evaluation of citizenship and residency must be separately applied to executive officers as a group and directors as a group. This analysis requires four separate evaluations: (i) the citizenship status of executive officers, (ii) the residency status of executive officers, (iii) the citizenship status of directors, and (iv) the residency status of directors.
(b) Location of Assets
Issuers may use the geographic segment information determined in the preparation of its financial statements. Alternatively, an issuer may apply any other reasonable methodology in assessing the location and amount of its assets, so long as the issuer is consistent in applying the methodology chosen.
(c) Administration of Business
An issuer must assess on a consolidated basis the location from which its officers, partners or managers primarily direct, control and coordinate the issuer’s activities. However, there is no single factor or group of factors that are determinative in this analysis. Holding shareholder meetings or occasional board meetings in the United States would not necessarily, absent other factors, result in a determination that the company’s business is administered principally in the United States.
CONSEQUENCE OF LOSING FOREIGN PRIVATE ISSUER STATUS
If a Canadian issuer loses its FPI status it will be considered a U.S. domestic issuer starting with the first day of its next fiscal year after the loss of status. There are significant consequences to losing FPI status, some of which include:
(a) SEC reporting Canadian FPI issuers must begin reporting as a U.S. domestic issuer using U.S. domestic forms such as Form 10-K for annual reports, Form 10-Q for quarterly reports and Form 8-K for current reports;
(b) non-SEC reporting Canadian FPI issuers may be required to register and begin reporting with the SEC if it meets the registration thresholds required by the Exchange Act;
(c) directors, executive officers and shareholders of 10% or greater of the issuer’s securities would become subject to the reporting requirements of the beneficial ownership reporting and short swing profit rules of Section 16 under the Exchange Act on acquisitions and dispositions of the issuer’s securities;
(d) compliance with U.S. proxy rules for communication with shareholders;
(e) loss of the availability of the Multijurisdictional Disclosure System;
(f) financial statements must be presented under U.S. GAAP and can no longer be presented under IFRS or home country GAAP with a reconciliation to U.S. GAAP;
(g) loss of certain corporate governance and other ongoing listing exemptions available to FPI issuer’s listed on the New York Stock Exchange or NASDAQ; and
(h) all issuances of securities must be treated as an issuance by a U.S. domestic issuer which means (i) all privately placed securities will require a U.S. restrictive legend regardless of the jurisdiction of the purchaser, and (ii) any public offering of securities made by prospectus must first be reviewed and cleared with the SEC which would complicate the timing for, and likely make impractical, Canadian bought deal offerings.
There is no specific requirement to notify the market as to a change in FPI status and the loss of FPI status is not permanent. If the issuer later requalifies as an FPI on a later determination date it would be able to avail itself of the accommodations permitted to FPIs beginning on the date on which it establishes its eligibility as an FPI. For example, upon requalification the issuer would be eligible to file its annual report for that fiscal year on Form 20-F or 40-F, as applicable, and would be able to furnish reports on Form 6-K rather than file reports on Forms 8-K and 10-Q for the remainder of that fiscal year. In addition, the Section 16 reporting requirements would no longer apply and the issuer could revert to presenting financial information under IFRS or home country GAAP if it so desired.
Availability of regulations for previously issued securities and subsequent loss of FPI Status
Canadian issuers may wonder what the U.S. securities law implication is when it privately places securities to U.S. investors at a time when it is an FPI and then later loses such status. Are those securities now considered the securities of a U.S. domestic issuer? Is Regulation S no longer available to permit the resale of such securities? This is a legitimate concern since most U.S. shareholders of Canadian public companies listed on a Canadian securities exchange find liquidity for their investment by utilizing Regulation S to make resales of those securities in the Canadian market over the Toronto Stock Exchange (“TSX”), TSX Venture Exchange or the Canadian Securities Exchange. The SEC considered this concern in question 279.01 in its Compliance and Disclosure Interpretation. The SEC stated that character and status of the securities is crystalized at the time of issuance regardless of the later loss of an issuer’s FPI status. For example, if an issuer, that is an FPI and listed on the TSX, privately places units, consisting of one common share and one common share purchase warrant, in May 2017 to a U.S. investor and subsequently loses FPI status as of July 2017, both the common shares and the warrants would be treated as being issued by an FPI. This means that despite the fact the issuer will be considered U.S. domestic until it requalifies as an FPI on the next testing date, the U.S. investor would be able to resell the common shares over the TSX and exercise the warrants and receive underlying common shares that could also be sold over the TSX pursuant to Regulation S1.
Maintaining FPI status is a tremendous benefit for Canadian issuers. If you are concerned about your company’s FPI status or have questions regarding the foregoing please contact Daniel Nauth at 416-477-6031 or firstname.lastname@example.org.
1 The ability to resell securities pursuant to Regulation S assumes that there is no 4 month and 1 day holding period under Canadian securities laws or that such period has expired, if applicable.