An application for a hearing and review of this decision was made to the Commission pursuant to section 8 of the Securities Act (Ontario), and all notices, orders, and decisions relating to that application can be found in ‘OSC Proceedings’: The Commission’s final decision dismissing the application can be accessed by clicking here.
IN THE MATTER OF STAFF'S RECOMMENDATION TO IMPOSE TERMS AND CONDITIONS ON THE REGISTRATIONS OF ARGOSY SECURITIES INC. AND KEYBASE FINANCIAL GROUP INC.
OPPORTUNITY TO BE HEARD BY THE DIRECTOR UNDER SECTION 31 OF THE SECURITIES ACT (ONTARIO)
1. For the reasons outlined below, my decision is to impose the terms and conditions on the registrations of Argosy Securities Inc. (Argosy) and Keybase Financial Group Inc. (Keybase) as recommended by staff (Staff) of the Compliance and Registrant Regulation Branch (CRR) of the Ontario Securities Commission (OSC or Commission) with the changes noted below:
a. "April 1, 2015" in term and condition 1 is amended to "September 15, 2015", and
b. "May 1, 2015" in term and condition 2 is amended to "October 15, 2015".
2. My decision is based on the materials provided to me at or prior to the opportunity to be heard (OTBH), the verbal arguments of both counsel at the OTBH, the testimony of the seven affiants, and the written closing submissions of both counsel.
3. By letter dated March 3, 2015, Staff advised Argosy and Keybase (collectively, the Registrants) that Staff had recommended to the Director that the registrations of Argosy (as a dealer in the category of investment dealer) and of Keybase (as a dealer in the categories of mutual fund dealer and exempt market dealer) be subject to substantially similar terms and conditions. The proposed terms and conditions required the hiring of a common independent consultant (Consultant) to recommend changes to the Registrants' governance structure and compliance resources. The proposed terms and conditions contained provisions requiring:
a. progress reports from the Consultant to Staff and to staff of either the Investment Industry Regulatory Organization of Canada (IIROC) or the Mutual Fund Dealers Association of Canada (MFDA), as applicable,
b. an attestation letter from the Consultant that its recommendations have been implemented and tested,
c. unrestricted access by Staff and staff of the IIROC or the MFDA, as applicable, to the Consultant, and
d. a follow up report by the Consultant to Staff.
4. Pursuant to section 31 of the Securities Act (Ontario), each of Argosy and Keybase were entitled to an OTBH before the Director decides whether to accept Staff's recommendations. The joint OTBH with respect to these matters commenced on July 20, 2015. On July 20, verbal submissions were provided by Michael Denyszyn (Senior Legal Counsel, CRR) on behalf of Staff, and by Joseph Groia and Kevin Richard (Groia and Company) on behalf of the Registrants. In addition, six of seven affiants (listed below) provided verbal testimony. Written closing submissions from Staff were received on July 30, 2015, and from Groia and Company on August 6, 2015. The six affiants that provided verbal testimony were:
a. Stratis Kourous, Senior Accountant, CRR
b. Noel Sequeira, Manager of Business Conduct Compliance, IIROC
c. Irene Cheung, Manager of Financial Compliance, MFDA
d. Dorin Boeriu, Chief Compliance Officer (CCO), Argosy
e. Betty Jo Royce, CCO, Keybase, and
f. Dax Sukhraj, 100% owner and Ultimate Designated Person (UDP) of each of Keybase and Argosy.
Issues discussed during the OTBH
Does the Director have the authority to impose terms and conditions?
5. Staff submitted (and Keybase and Argosy do not take issue with this point) that the Director has the authority to impose terms and conditions. The question at hand is whether I, as Director, should exercise this authority.
Should terms and conditions be imposed on the registrations of Keybase and Argosy?
6. Staff argued that the proposed terms and conditions are a "responsive, flexible and respectful regulatory response" to the pattern of non-compliance with Ontario securities law and with the requirements of the respective self-regulatory organizations (collectively, Securities Law) of both Argosy and Keybase. Counsel to the Registrants argued that I was being asked to make a decision based on "ancient history" and that the terms and conditions recommended by Staff are "somewhat harsh", "will cause real harm" and are a "blunt instrument". They also argued that any concerns that Staff had at the time of its 2014 review of the Registrants with regard to inadequate compliance resources had been satisfactorily addressed. With respect, I disagree with the Registrants' characterisation of their history of non-compliance for the reasons set out in this decision.
7. Examples of the Registrants' history of non-compliance with Securities Law include:
a. Significant findings from IIROC's 2015 business conduct examinations (BCE) of two locations of Argosy have been referred to IIROC's investigations unit. Although the Registrants suggested that these audits were complete and that IIROC BCE staff had completed its audit and closed its file, this does not appear to be the case since the May 2015 closing letters for both locations indicate that IIROC BCE staff has "forwarded the Significant findings ... together with your response, to IIROC's Investigations unit for their consideration".
b. Repeat material unresolved issues from IIROC's 2015 BCE follow-up examination of Argosy. Although the final report relating to the review was not issued as at the date of the OTBH, Noel Sequeira, Manager of Business Conduct Compliance, IIROC testified that there are "repeat, material [business conduct compliance] issues that are yet unresolved". His affidavit included a list of preliminary issues identified during the review, which "included, but were not limited to, delegation of duties; supervision of employee accounts held at other IIROC dealers; supervision of outside business activities; supervision of account activity; supervision and operation of "off book" client name mutual fund accounts; and out of jurisdiction accounts".
c. Keybase has been the subject of over 90 complaints relating to the allegedly unsuitable use of excessive leverage. Counsel to the Registrants asserted that "the problem or most of the problems that gave rise to the Staff's concern last year arose from the Halifax office." While I acknowledge that Keybase has dismissed two of the three dealing representatives involved (the third is under supervisory terms and conditions imposed by the Nova Scotia Securities Commission), that the issues resulting in the complaints are "stale-dated", and that the MFDA has closed some complaint files with no action, a number of the client complaint files remain open and outstanding and some have been escalated to the MFDA Enforcement Department. In addition, Keybase's corporate errors and omissions insurer has cancelled Keybase's coverage based in part on the quantity of the complaints that may turn into lawsuits (Argosy's corporate errors and omissions insurance has also been cancelled). Lastly, MFDA staff continues to be concerned about the ongoing actions by Keybase's head office in respect of the handling of these complaints. Specifically, the affidavit of Mr. Liptrott (Manager of Case Assessment, MFDA) sets out that MFDA staff is currently investigating several issues including whether Keybase:
i. is "sufficiently conducting a factual investigation of the complaint",
ii. is "taking a balanced approach that objectively considers the interests of the complainant, the Approved Person and the Dealer Member",
iii. is "conducting a reasonable analysis of the relevant facts in relation to regulatory standards", and
iv. has "delayed in handling complaints due to concerns about the availability of errors and omissions coverage maintained by the relevant Approved Person".
d. MFDA placed Keybase in discretionary early warning in 2015. The MFDA placed Keybase in discretionary early warning because of a going concern note in their December 2014 financial statements relating to a Nova Scotia judgement against Keybase, as well as an additional 47 claims that are generally at the application stage and 19 claims where a notice of action has been brought (all of which relate to allegedly unsuitable use of leverage). Dax Sukhraj, UDP of Keybase testified that the Nova Scotia judgement has now been settled and that there is uncertainty as to when or how the other claims would be resolved.
e. Matters from the MFDA's 2014 compliance audit of Keybase have been referred to Enforcement. The February 2015 closing letter indicates that MFDA compliance staff had no further comments "[w]ith the exception of the items that have been specifically referred to the Enforcement Department."
f. Frequency of compliance reviews by the MFDA and IIROC. Staff from both the MFDA and IIROC have characterised both Registrants as "high risk" for a number of years. The Registrants' high risk ranking has led to 16 reviews of the Registrants in the past six years by Staff, MFDA or IIROC compliance staff (subsequent to the two settlements referred to in paragraphs g. and h. below), and the identification of a large number of repeat, significant deficiencies in most of these reviews.
g. 2009 Keybase settlement with the MFDA. The settlement agreement required a fine payable by each of Keybase and Dax Sukhraj, the hiring of an independent monitor to resolve compliance deficiencies identified during 2006 and 2009 sales compliance reviews (several of which had been previously identified in earlier MFDA compliance review reports), Dax Sukhraj to complete the Partners Directors and Senior Officers course, and other fines and costs.
h. 2008 Argosy hearing with IIROC regarding repeat patterns of non-compliance and failure to address issues previously identified. The settlement agreement relates to repeat patterns of non-compliance and failure to fully address/identify compliance issues from sales compliance reviews performed in 2002, 2003, 2005, 2006, and 2007. As set out in the settlement agreement "the long list of deficiencies which Argosy failed to cure cannot be described in terms other than gross negligence... time and again promises were made and solutions proposed, only to lead to yet further shortcomings. Bearing in mind the number of years involved, there was a chronic failure to observe the rules, regulations and by-laws of the [IIROC]".
8. As indicated by the number, severity and on-going nature of the examples of significant repeat non-compliance set out above, I don't believe that it is correct to conclude that the Registrants' non-compliance is a matter of "ancient history". In my view, the Registrants' non-compliance as demonstrated above is a matter of continued and current (and in my mind significant) non-compliance by both Registrants.
Have the registrants demonstrated that they have adequate compliance resources or an adequate corporate governance structure?
9. Staff performed a high-level review of both Registrants at an enterprise-wide level in early 2014. Staff performed this review because of the fact that "in the past there had been a number of issues raised by both [IIROC and the MFDA] and with repeat deficiencies" and because "both firms were and have been considered high-risk by both [IIROC and the MFDA] for a number of years". 13 of the 17 deficiencies identified by Staff during the Argosy review, and 13 of the 15 deficiencies identified by Staff during the Keybase review, were characterised as significant. Two pervasive issues were identified from this review -- inadequate compliance resources and an inadequately responsive governance structure.
10. Although Staff acknowledged to the Registrants in writing that its specific findings "may no longer be timely", Staff viewed the findings as "symptoms of, rather than causes of, Staff's underlying concern that the [Registrants] may lack appropriate compliance resources and an adequate corporate governance structure".
11. Counsel to the Registrants argued that both Keybase and Argosy spend approximately 40% of their payroll costs (which exclude the costs of the hundreds of dealing representatives at the Registrants) on compliance activities and that their ratio of compliance staff to registered representatives is on the high end.
12. Counsel to the Registrants also argued that Argosy and Keybase have recently enhanced their corporate structure by hiring two (and three, respectively) additional directors prior to the OTBH (in Argosy's case, the additional directors were added one week before the date of the OTBH). At Argosy, the two additional directors are one of the sons of Dax Sukhraj (the owner and UDP of both Argosy and Keybase) and Don Cook, and at Keybase, the three additional directors are Dax Sukhraj's spouse and his two sons. The so-called independent directors in both cases are either Don Cook (the chief financial officer of both Argosy and Keybase) or a member of Dax Sukhraj's family. Mr. Cook has reported directly to Dax Sukhraj for at least the last seven years. Without commenting on the effectiveness as a director of any of these individuals, in my view, none of these them is truly independent of Argosy or Keybase. And while I acknowledge that there is no requirement for independent directors at registrants, in my view given the nature, prevalence and significance of what I view as the ongoing compliance issues at the Registrants, it is arguable whether the Registrants' corporate structure has been enhanced by the hiring of these directors.
Are the terms and conditions still necessary despite the Registrants' recent remedial measures?
13. Counsel to the Registrants also argued that the onus was on Staff to demonstrate that the proposed terms and conditions are necessary, fair and reasonable and that Staff had failed to satisfy that onus. Part of the argument put forward was that the period of time between Staff's review of the Registrants and the proposed terms and conditions was too long, and that the proposed terms and conditions failed to recognise the fairly recent or very recent changes made to the compliance systems and corporate governance structure by the Registrants. Counsel also argued that the proposed terms and conditions were premature and unnecessary, and that they would consume management and compliance resources of the Registrants resulting in the diversion of these resources away from the primary business of the Registrants.
14. Since the Registrants received the March 2015 letter from Staff which set out Staff's recommended terms and conditions, the Registrants have implemented the following changes to their operations and their compliance infrastructure (examples only provided):
a. Rolled out anti-money laundering and privacy training,
b. Began a new risk ranking system,
c. Appointed further directors to the board of directors of Argosy, and
d. Decided to move to a single fee schedule for Keybase clients effective January 2016.
15. In addition, in the last year or so, the Registrants have implemented the following changes to their operations and compliance infrastructure (examples only provided):
a. Keybase has hired four additional compliance resources (for a total of 13 compliance staff at Keybase), although some of these staff are solely or partially devoted to litigation support in respect of the unresolved claims against Keybase. In addition, Argosy hired an additional compliance officer,
b. Keybase's compliance department completed the transfer of all client data from a purchased registrant to Keybase's back office system which counsel argued was a "significant compliance improvement", and
c. Keybase substantially amended their policies and procedures manual in response to a MFDA audit finding.
16. Staff acknowledges that these changes may have a positive impact on the operations and compliance infrastructure of the Registrants. However, Staff argued that compliance by the Registrants is an ongoing responsibility under Securities Law, and I should take limited comfort from the fact that many of these changes appear to have been implemented only after Staff recommended imposing terms and conditions on the registrations of the Registrants or as a result of a compliance review by one of IIROC staff or MFDA staff.
17. In my view, the Consultant under the terms and conditions is best placed to determine the effectiveness of these recent changes and to determine whether further changes are required to the operations and compliance infrastructure of the Registrants to enable them to comply fully with Securities Law. The Registrants have had numerous opportunities to enhance their operations and compliance infrastructure over the years by making changes necessary to respond to the numerous significant (and often repeat) deficiencies identified by both the MFDA and IIROC staff (and more recently OSC Staff) in their compliance oversight reviews of the Registrants, but have largely chosen not to do so on a timely basis.
Reasons for decision
18. As set out above, my decision is to impose the terms and conditions recommended by Staff on the registrations of Keybase and Argosy. I agree with Staff's submissions that the terms and conditions are:
a. responsive -- because they seek to address what Staff has identified as the root causes of the pattern of repeat and ongoing non-compliance at the Registrants,
b. flexible -- because they provide the Consultant with the flexibility to accept, reject or modify the current compliance practices at the Registrants, and
c. respectful -- because they respect the business realities of the Registrants by relying on the Consultant to make recommendations on improvements to the current compliance practices at the Registrants, rather than Staff imposing prescriptive changes to the compliance practices at the Registrants.
19. I also agree with Staff that the terms and conditions are designed to foster an effective long-term solution to the issues identified at the Registrants by creating a strong compliance environment within both firms.
20. In my view, the Registrants have a substantial record of non-compliance with Securities Law. The Registrants should note that I might, if asked, have been prepared to impose more substantive sanctions on the Registrants (such as more prescriptive terms and conditions, or more restrictive terms and conditions such as limitations on the operations of the Registrants). I am hopeful that the Consultant retained under the terms and conditions will assist the Registrants (and their UDP and CCOs) in developing a compliance infrastructure and corporate governance structure that will assist them in complying with Securities Law on an ongoing basis.
Dated: August 18, 2015