iShares Natural Gas Commodity Index Fund et al.

Decision

 

Headnote

NP 11-203 -- Process for Exemptive Relief Applications in Multiple Jurisdictions -- Approval of mutual fund reorganizations pursuant to section 5.5(1)(b) of NI 81-102 required because the reorganizations do not meet criteria for pre-approval -- the reorganizations do not meet the requirement in section 5.6(1)(a)(ii) of NI 81-102 because the investment objectives of the Terminating Fund may not be considered by a reasonable person to be "substantially similar" to the investment objectives of the continuing Funds -- the reorganizations do not meet the requirement in sections 5.6(1)(f)(ii) of NI 81-102 because the continuing funds do not have a simplified prospectus or fund facts documents for certain series that correspond to the terminating funds -- those certain series are offered under a prospectus exempt basis only.

Applicable Legislative Provisions

National Instrument 81-102 Mutual Funds, s. 19.1.

November 16, 2012

IN THE MATTER OF

THE SECURITIES LEGISLATION OF

ONTARIO

(the "Jurisdiction")

AND

IN THE MATTER OF

THE PROCESS FOR EXEMPTIVE RELIEF

APPLICATIONS IN MULTIPLE JURISDICTIONS

AND

IN THE MATTER OF

iSHARES NATURAL GAS COMMODITY INDEX FUND AND

iSHARES BROAD COMMODITY INDEX FUND (CAD-HEDGED)

AND

IN THE MATTER OF

BLACKROCK INVESTMENTS CANADA INC.

(the "Filer")

DECISION

Background

The principal regulator in the Jurisdiction has received an application from the Filer on behalf of iShares Natural Gas Commodity Index Fund ("GAS" or the "Terminating Fund") and iShares Broad Commodity Index Fund (CAD-Hedged) ("CBR" or the "Continuing Fund") for a decision under the securities legislation of the Jurisdiction of the principal regulator (the "Legislation") for approval pursuant to subsection 5.5(1)(b) of National Instrument 81-102 Mutual Funds ("NI 81-102") in connection with the proposed merger of GAS and CBR (the "Requested Approval").

Under the Process for Exemptive Relief Applications in Multiple Jurisdictions (for a passport application):

(a) the Ontario Securities Commission is the principal regulator for this application, and

(b) the Filer has provided notice that subsection 4.7(1) of Multinational Instrument 11-102 Passport System ("MI 11-102") is intended to be relied upon in the jurisdictions of British Columbia, Alberta, Saskatchewan, Manitoba, Quebec, New Brunswick, Nova Scotia, Prince Edward Island, Newfoundland and Labrador, Yukon, Northwest Territories and Nunavut.

Interpretation

Defined terms contained in National Instrument 14-101 Definitions and MI 11-102 have the same meaning if used in this decision unless otherwise defined.

Representations

This decision is based on the following facts represented by the Filer:

A. The Facts

The Filer

1. The Filer is the trustee and manager of GAS and CBR (the "iShares Funds") and is a registered portfolio manager, exempt market dealer and investment fund manager in the Province of Ontario. The Filer, formerly known as Claymore Investments, Inc., was previously an indirect, wholly-owned subsidiary of Guggenheim Partners, LLC and was acquired by BlackRock, Inc. ("BlackRock") effective March 7, 2012 (the "Acquisition"). As a result of the Acquisition, the Filer is an indirect, wholly-owned subsidiary of BlackRock, a leader in investment management, risk management and advisory services for institutional and retail clients worldwide.

2. The principal offices of the the Filer and the iShares Funds are located at 161 Bay Street, Suite 2500, Toronto, Ontario, M5J 2S1.

3. Neither the Filer nor either iShares Fund is in default of the securities legislation of any province or territory of Canada.

The iShares Funds

4. Each of GAS and CBR is an exchange-traded commodity pool governed by the laws of Alberta and subject to National Instrument 81-104 -- Commodity Pools ("NI 81-104") and is a reporting issuer under the laws of all of the Passport Jurisdictions.

5. Each of GAS and CBR is a mutual fund subject to NI 81-102, subject to any exemptions therefrom that have been or may be granted by securities regulatory authorities.

6. Units of each iShares Fund are listed on the Toronto Stock Exchange (the "TSX") and are qualified for distribution in all Passport Jurisdictions.

7. The common units of GAS currently trade on the TSX under the ticker symbol GAS. The common units and advisor class units of CBR are currently trade on the TSX under the ticker symbols CBR and CBR.A, respectively

Similarities between the iShares Funds

8. The iShares Funds have substantially similar valuation procedures and the same management fee structure.

9. The iShares Funds are subject to the investment restrictions and practices contained in Canadian securities law, including NI 81-102, and are managed in accordance with these restrictions and practices. In addition, each iShares Fund is restricted to:

(a) investing in a portfolio of constituent securities included in a portfolio or index or in securities, investments, forwards or other derivative contracts in accordance with its investment objective and strategy and provided that the use of such derivative instruments is in compliance with NI 81-102, except as otherwise permitted by NI 81-104;

(b) holding cash and cash equivalents, paying expenses and paying amounts payable in connection with distributions to unitholders and exchanges and redemptions of units; and

(c) not making or holding any investment that would result in the iShares Fund becoming a "SIFT trust", as defined in subsection 122.1(1) of the Income Tax Act (Canada) (the "Tax Act").

10. Units of each of the iShares Funds are qualified investments under the Tax Act for registered retirement savings plans, registered retirement income funds, tax-free savings accounts, registered education savings plans, deferred profit sharing plans and registered disability savings plans.

Differences between the iShares Funds

11. The investment objective of each iShares Fund is to seek to provide returns to investors by replicating, to the extent possible, the performance of an index, net of expenses.

12. GAS currently seeks to replicate the performance of the NGX Canadian Natural Gas Index (the "Gas Index"), net of expenses. The Gas Index tracks the forward purchase value of the AECO physical one month forward price of natural gas, in Canadian dollars. In order to track the Gas Index while maintaining an orderly transition from the prompt contract to the deferred contract, these contracts are "rolled" during an eight day period known as the "roll period" that begins on the thirteenth business day prior to the start of the delivery month. In order to ensure adequate liquidity during the roll period, the provider of the Gas Index uses a modified calendar which generally excludes both U.S. and Canadian holidays as eligible roll days.

13. CBR currently seeks to replicate the performance of the Auspice Broad Commodities Total Return Index, which seeks to benefit from upward trends in the broad commodity futures markets while at the same time minimizing downside risk during downtrends. CBR has exposure to the return and performance of futures contracts, forward contracts, total return swaps and physical commodities across three broad commodity sectors: energies, metals and agricultures.

14. The Filer is proposing to change the index which CBR, as the continuing fund, will seek to replicate. In the circumstances, the change of index will involve a change in the fundamental investment objectives of CBR (the "Change in Investment Objective"). Accordingly, the Filer has asked unitholders of CBR to consider and approve the Change in Investment Objective at a special meeting of unitholders of CBR. If the Change in Investment Objective is implemented, the new index will be the Morningstar® Long/Flat Global Commodity Index(SM) or such other broad-based commodity index as may be selected by the Filer and notified to unitholders.

15. The investment strategy of the iShares Funds is to invest in and hold the constituent securities of the applicable index in substantially the same proportion as they are reflected in the applicable index or to invest in a manner that causes the iShares Funds to replicate the performance of the applicable index.

16. To achieve its investment objective, GAS may use physical forward contracts, futures or swaps to create exposure to Alberta's natural gas market. The counterparties to such contracts may include Natural Gas Exchange Inc., Canadian financial institutions or other highly rated counterparties. Such counterparties may require GAS to post collateral when entering into forward contracts. The balance of GAS' assets are invested in cash and cash equivalents.

17. The investment strategy of CBR is to obtain economic exposure to the constituent securities of the Auspice Broad Commodities Total Return Index. In order to obtain exposure to the performance of the index, CBR invests in a portfolio of common shares of Canadian public companies listed on the TSX that qualify as "Canadian securities" for the purposes of the Tax Act (the "Canadian Share Portfolio"). CBR has entered into one or more forward purchase and sale agreements (collectively, the "Forward") with a Canadian chartered bank or an affiliate thereof pursuant to which CBR has agreed to sell securities in the Canadian Share Portfolio to the counterparty from time to time in exchange for a purchase price determined by reference to the Canadian dollar value of the performance of the index or of a fund that invests in or obtains exposure to the index or the constituent securities thereof or reference portfolio.

18. The Forward of CBR has the effect of hedging CBR's economic exposure to foreign currency denominated assets. Such hedging is intended to reduce the impact on the CBR of fluctuations in exchange rates and unitholders' exposure to foreign currency risk.

19. The Filer is of the view that the fundamental investment objective and strategy of CBR are not, or may be considered not to be, "substantially similar" to the fundamental investment objective and strategy of GAS because CBR aims to provide economic exposure to the constituent securities of a broad commodities index while GAS seeks to create exposure to the natural gas market through the use of physical forward contracts, futures and swaps.

B. The Merger

1. Prior to the date of the Merger, the Terminating Fund will terminate and sell all of the forward contracts, futures, swaps and other assets in its portfolio. As a result, the Terminating Fund will temporarily hold all or substantially all of its assets in cash and will not be invested in accordance with its investment objective for a brief period of time prior to the Merger.

2. The value of the Terminating Fund's assets will be determined at the close of business on the business day prior to the effective date of the Merger in accordance with the declaration of trust governing the Terminating Fund.

3. The Continuing Fund will acquire the assets (i.e. cash) of the Terminating Fund in exchange for units in the Continuing Fund.

4. The Continuing Fund will not assume liabilities of the Terminating Fund and the Terminating Fund will retain sufficient assets to satisfy its estimated liabilities, if any, as of the date of the Merger.

5. The units of the Continuing Fund received by the Terminating Fund will have an aggregate net asset value equal to the value of the Terminating Fund's portfolio assets and other assets that the Continuing Fund is acquiring, which units will be issued at the applicable net asset value per unit as of the close of business on the effective date of the Merger.

6. Immediately thereafter, the units of the Continuing Fund received by the Terminating Fund will be distributed to unitholders of the Terminating Fund on a dollar for dollar basis in exchange for their units in the Terminating Fund, with holders of units of the Terminating Fund receiving common units of the Continuing Fund.

7. As soon as reasonably possible following the Merger, the Terminating Fund will be wound up and the Continuing Fund will continue as a publicly offered open-end mutual fund existing under the laws of Alberta.

8. The Merger will constitute a material change for the Continuing Fund, as the net asset value of the Continuing Fund is smaller than the net asset value of the Terminating Fund.

9. Unitholders of GAS and CBR will be asked to approve the Merger at special meetings of unitholders to be held on November 16, 2012, as required pursuant to sections 5.1(f) and 5.1(g), respectively, of NI 81-102. In approving the Merger, unitholders of GAS will, in effect, indicate their acceptance of the fundamental investment objective of the Continuing Fund.

10. Subject to necessary regulatory approval and approval of unitholders of each iShares Fund, the Merger is expected to occur on or about November 30, 2012. Implementation of the Merger is also conditional upon approval of the Change in Investment Objective by unitholders of CBR.

11. If all necessary approvals in respect of the Merger are not obtained, it is the intention of the Filer to terminate the Terminating Fund, in accordance with the declaration of trust governing the Terminating Fund and applicable securities laws.

12. A notice of meeting, a management information circular to be dated on or about October 12, 2012 (the "Circular") and a proxy in connection with the Merger will be mailed to the unitholders of GAS and CBR in accordance with applicable securities laws. The Circular will contain a description of the proposed Merger, information about GAS and CBR and the income tax considerations for unitholders of GAS and CBR. The Circular will disclose that unitholders of GAS and CBR may obtain in respect of CBR, at no cost, the most recent annual and interim financial statements, the current prospectus and the most recent management report on fund performance that have been made public by contacting the Filer or by accessing the website of the iShares Funds or the System for Electronic Document Analysis and Retrieval ("SEDAR").

13. The Filer will pay for the costs and expenses associated with the Merger, including the cost of holding the meetings in connection with the Merger and of soliciting proxies, including costs of mailing the Circular and accompanying materials. The iShares Funds will bear none of the costs and expenses associated with the Merger except that GAS will bear the portfolio transaction costs related to terminating all of GAS' assets, as it currently does in the ordinary course when the forward contracts in its portfolio are 'rolled' from time to time.

14. As required by National Instrument 81-107 -- Independent Review Committee, the terms of the Merger were presented to the independent review committee (the "Independent Review Committee") of the iShares Funds for its review and recommendation. After considering the potential conflict of interest matter related to the Merger, the independent review committee provided its positive recommendation for the Merger.

15. Units of the Terminating Fund will continue to be offered, exchanged and redeemed on a daily basis up to the business day immediately prior to the effective date of the Merger, primarily through the designated brokers and underwriters of the Terminating Fund

16. In addition, unitholders of the Terminating Fund will be able to trade their units on the TSX in the ordinary course any time up to the close of business on the third business day prior to the effective date of the Merger. This will ensure that all outstanding trades will settled on a T+3 basis by the effective date of the Merger.

17. The cash and any other assets of the Terminating Fund acquired by the Continuing Fund in connection with the Merger will be acquired in compliance with NI 81-102.

18. The iShares Funds will comply with Part 11 of NI 81-106 in connection with the making of the decision to proceed with the Merger.

19. An amendment to the prospectus of the iShares Funds dated November 28, 2011, as amended by Amendment No. 1 dated January 13, 2012 and Amendment No. 2 dated March 16, 2012, announcing the Merger proposal and Change in Investment Objective proposal has been filed on SEDAR. An amendment to the prospectus of the iShares Funds with respect to the implementation of the Merger and/or Change in Investment Objective will be filed on SEDAR following the approval of the Merger and/or Change in Investment Objective at the special meetings of unitholders.

C. Securities Law Requirements for a Pre-Approved Transaction

1. Under section 5.6 of NI 81-102, approval of the Merger by the regulator is not required if all of the criteria for pre-approval listed in paragraphs 5.6(1)(a) through (i) are satisfied.

2. The foregoing representations contained in Parts A and B of this application, above, indicate that generally the merger will satisfy all the requirements of paragraphs 5.6(1)(a) through (i) of NI 81-102 with the exception of paragraph 5.6(1)(a)(ii), as a reasonable person would likely consider that the Terminating Fund does not have "substantially similar" fundamental investment objective as the Continuing Fund, and paragraph 5.6(1)(b), as the Merger is not a "qualifying exchange".

D. Requested Approval

After reviewing the fundamental investment objectives and strategies of the iShares Funds, the Filer has concluded in respect of the Terminating Funds the pre-approval under section 5.6 of NI 81-102 is not available because:

(a) the fundamental investment objective of the Continuing Fund is not, or may be considered not to be, "substantially similar" to the investment objective of the Terminating Fund; and

(b) the Merger will not be a "qualifying exchange" within the meaning of section 132.2 of the Tax Act or a tax deferred transaction under subsection 85(1), 85.1(1), 86(1) or 87(1) of the Tax Act.

E. Submissions

It was submitted that the Requested Approval should be granted for the following reasons:

1. The notice of meeting sent to unitholders of the iShares Funds will contain, or will incorporate by reference, all the information and documents necessary for the unitholders to consider the Merger including a full description of the Merger, a full description of GAS and CBR and a summary of the Independent Review Committee's positive recommendation with respect to the proposed Merger. The Circular will contain a prominent statement that unitholders of GAS and CBR may obtain, free of charge, the most recent annual and interim financial statements, the current prospectus and the most recent management report on fund performance that have been made public by contacting the Filer or by accessing the website of the iShares Funds or SEDAR.

2. The structure, rationale, benefits and tax consequences of the Merger will be disclosed to unitholders of the iShares Funds in the meeting materials that will be mailed to unitholders of the iShares Funds in advance of the Meeting to be held for the purpose of considering and approving the Mergers. Unitholders of each of the iShares Funds will be given an opportunity to vote for or against the Mergers at such Meeting.

3. The Independent Review Committee has considered and provided its positive recommendation for the Merger.

4. Units of the Terminating Fund will continue to be offered, exchanged and redeemed on a daily basis up to the business day immediately prior to the effective date of the Merger, primarily through the designated brokers and underwriters of the Terminating Fund

5. In addition, unitholders of the Terminating Fund will be able to trade their units on the TSX in the ordinary course any time up to the close of business on the third business day prior to the effective date of the Merger. This will ensure that all outstanding trades will settled on a T+3 basis by the effective date of the Merger.

6. The Merger will be beneficial to unitholders of the Terminating Fund and Continuing Fund for the following reasons:

(a) The Continuing Fund, as a result of its greater size, will benefit from a larger profile in the marketplace by potentially attracting more investors and enabling it to increase its asset base and enhance the trading liquidity of its units;

(b) The net assets of the Terminating Fund have decreased significantly over the last two years such that it is not commercially viable and will be terminated if the Merger is not implemented;

(c) The Continuing Fund will have a portfolio of greater size, allowing for more efficient implementation of its investment strategy, which may lead to improved tracking of its benchmark index; and

(d) Unitholders of the Continuing Fund will have exposure to a diversified, futures based broad commodity portfolio that historically has had lower volatility than the current portfolio of the Terminating Fund.

Decision

The principal regulator is satisfied that the decision meets the test set out in the Legislation for the principal regulator to make the decision.

The decision of the principal regulator is that the Requested Approval is granted.

"Darren McKall"
Manager, Investment Fund Branch
Ontario Securities Commission