R.S.O. 1990, c. S.5, AS AMENDED
IN THE MATTER OF
June 3, 1999
Howard I. Wetston, Q.C. - Vice-Chair
Morley P. Carscallen, F.C.A. - Commissioner
Kerry D. Adams - Commissioner
Paul Findlay, - For Provigo
For the Staff of the Ontario Securities Commission:
REASONS FOR DECISION
By letter dated January 18, 1999, Provigo Inc. ("Provigo") submitted an application (the"Application") pursuant to the Mutual Reliance Review System (the "MRRS") for ExemptiveRelief to the securities commissions in each of the provinces other than New Brunswickand Prince Edward Island (the "Jurisdictions") for a decision pursuant to the securitieslegislation (the "Legislation") in the Jurisdictions to exempt Provigo from the continuousdisclosure requirements of the Legislation and the related provisions of the regulationsmade thereunder.
Quebec was selected as the principal jurisdiction under the MRRS and the Commissiondes valeurs mobilières du Quebec ("CVMQ") granted the relief requested on behalf of itselfand the Alberta, Saskatchewan, Nova Scotia and Newfoundland Securities Commissionson April 12, 1999 (the "Decision").
The Ontario and British Columbia Securities Commissions opted out of the MRRS for thepurposes of the Application. Consequently, the application is now being dealt with locallyin both Ontario and British Columbia.
Provigo is applying pursuant to Para. 80(b)(iii) of the Securities Act for relief from certaincontinuous disclosure requirements. Specifically, Provigo is seeking relief from therequirement to prepare and file its: (i) interim financial statements (section 77); (ii) annualfinancial statements (section 78); (iii) Form 28 of the Regulation under Subsection 81(2)of the Act; and (iv) Annual Information Form ("AIF"), including management discussion andanalysis ("MD&A")(OSC Policy 5.10).
An agreed statement of facts (the "Facts") was filed in the hearing.
1. AGREED STATEMENT OF FACTS
Provigo is a corporation incorporated by Letters Patent under the Companies Act(Quebec) in 1961 under the name of Couvrette & Provost Ltée. In July 1970, itsname was changed to Provigo Inc. Provigo was continued under Part 1A of theCompanies Act (Québec) by a Certificate of Continuance dated June 1, 1982.Provigo is a reporting issuer under the Securities Act (Ontario)(the "Act").
Provigo is engaged, through its subsidiaries, in the distribution of food and relatedproducts at the retail and wholesale levels. Provigo's principal areas of operationare Quebec and Ontario. Its distribution network includes retail stores andwholesale distribution centres. The only outstanding shares of Provigo are itscommon shares, all of which are directly or indirectly held by Loblaw CompaniesLimited ("Loblaw"). Provigo has issued debentures that remain outstanding asdescribed later in these reasons.
Provigo has a fiscal year end of the last Saturday in January. The auditor's fee forthe year ended January 30, 1999 of Provigo is expected to be $500,000.
Loblaw was incorporated on January 18, 1956. It was continued under the CanadaBusiness Corporations Act by a Certificate of Continuance dated may 7, 1980.Loblaw is a reporting issuer under the Act. Loblaw and its subsidiaries carry onbusiness in the retail and wholesale food distribution industry in Canada. Retailingis carried on through company-operated retail stores and wholesale distribution andLoblaw provides service to franchised independent stores and independentaccounts in Canada. Loblaw has a fiscal year end of the Saturday closest toDecember 31.
The Take-over Bid
Pursuant to a take-over bid circular dated November 6, 1998, as amended, Loblawand its wholly-owned subsidiary PGV Acquisition Inc. made an offer to purchase allof the outstanding common shares of Provigo in exchange for, at the option of theholder, 0.27 Loblaw common shares and $7.25 in cash per share, $15.62 in cashper share or 0.50226 Loblaw common shares and $0.05 in cash per share, subjectto pro-ration.
The take-over bid expired at 12:01 a.m. Vancouver time on December 10, 1998.Approximately 98% of the outstanding Provigo common shares were tendered andtaken up. Subsequently, Loblaw acquired the remaining Provigo common sharespursuant to the compulsory acquisition provisions of the Companies Act (Québec).The Provigo common shares are no longer listed on any stock exchange in Canadaas they were delisted from The Toronto Stock Exchange and the MontrealExchange as at the close of trading on January 20, 1999.
Debentures and Background Information
Provigo has outstanding three series of unsecured debentures: $100,000,000principal amount of 11.25% Debenture Series 1991 due March 15, 2001,$125,000,000 principal amount of 8.70% Debenture Series 1996 due May 23, 2006and $100,000,000 principal amount of 6.35% Debenture Series 1997 dueDecember 1, 2004 (collectively, the "Debentures").
All of the Debentures are registered in the name of CDS & Co. CDS & Co. holdssuch debentures on behalf of more than 15 participants. Provigo is not aware ofhow many beneficial owners are resident in each of the Jurisdictions.
The Trust Indenture, as amended by Supplemental Indentures, collectively the("Trust Indenture") pursuant to which the Debentures were issued does not requirethat Provigo prepare or mail financial statements to the Debenture holders.
The Trust Indenture does not contain any covenants which would restrict thepayment of dividends from Provigo or, subject to the following sentence, to transfercertain assets of Provigo. Provigo may not convey or transfer all or substantially allof its undertaking or assets to another person unless either (at the option of theTrustee) that other person guarantees all amounts payable under the Debenturesor that other person agrees to be bound by the terms of the Debentures as principaldebtor in place of Provigo and, if the Trustee so requests, Provigo guarantees suchamounts, provided that after the transaction no condition or event would exist whichwould constitute an Event of Default under the Trust Indenture. The Trust Indenturedoes not contain any financial covenants.
Prior to the completion of Loblaw's take-over bid for Provigo, Loblaw was a bettercredit than Provigo. By press release dated December 10, 1998 (Tab 4 of the Bookof Documents), Dominion Bond Rating Services Limited ("DBRS") upgraded therating for the Provigo Debentures from BBB to A (high), the same as for Loblawsenior unsecured debentures. The reason for the upgrade was that a default on theProvigo Debentures would, as a result of Provigo becoming a principal subsidiaryof Loblaw, be a default on the Loblaw debentures. Accordingly, DBRS determinedthat Loblaw would have to provide indirect support for the Provigo Debentures.
Loblaw, the holder of equity securities of Provigo, has waived its right to receiveinterim unaudited and annual audited financial statements.
Loblaw intends to provide a full and unconditional guarantee of the Debentures ofProvigo as to principal and interest, if, but only if, the requested order is issued byall of the relevant Canadian securities regulatory authorities. As Provigo will beoperated as a wholly-owned subsidiary, Loblaw is able to move assets and liabilitiesaround within the Loblaw group, both into and out of Provigo, subject only to theabove.
DBRS is of the view that the continuous disclosure information relating to Provigowould be of virtually no relevance to the holders of the Debentures if Loblawguaranteed the Debentures. Similarly, Canadian Bond Rating Service ("CBRS") isof the opinion that the Provigo financial statements will become decreasinglyrelevant over time. Provigo has no intention to issue any securities to any personor company except Loblaw and Loblaw has no intention to permit Provigo to do so.
Provigo's application was made on January 18, 1999. Provigo received commentson February 3, 1999 to which we responded on February 9, 1999. There wereseveral subsequent minor clarifications requested by the Commission des valeursmobilières du Québec ("CVMQ"), the principal jurisdiction, which were respondedto promptly. In particular, the staff of the CVMQ advised that it would not beprepared to recommend an exemption from the timely disclosure requirements (i.e.material change reports) and requested clarification as to the scope of theapplication. Counsel to Provigo suggested then that the exemption should coverthe following items:
a) audited annual financial statements;
b) interim financial in statements;
c) management discussion and analysis;
d) annual report;
e) annual information form;
f) annual filing in lieu of information circular.
The CVMQ issued its MRRS Decision Document on April 12, 1999 on behalf of theAlberta, Saskatchewan, Nova Scotia and Newfoundland Securities Commissions.The decision document exempts Provigo Inc. from filing the following documents:
a) audited annual financial statements;
b) interim financial in statements;
c) management discussion and analysis;
d) annual report;
e) annual information form;
f) annual filing in lieu of information circular.
2. THE ISSUE
Staff recommend that if Loblaw guarantees the debentures, the Commission grantrelief from the requirement that Provigo prepare and file its interim and annualfinancial statements, Form 28 and AIF (including MD&A) on condition thatsummarized financial information about Provigo is provided in Loblaw interimfinancial statements and in a note to its audited annual financial statements.Provigo does not agree with this condition.
The issue in this hearing is as follows:
"where Provigo, the issuer of the guaranteed security, is wholly owned by theguarantor, Loblaw, and has more than minimal independent operations and,where the guarantee is full and unconditional, should the subsidiary (Provigo)be required to provide, at the very least, summarized financial information tobe included in the financial statements of the parent, that is Loblaw?"
Staff recommend that the summary of financial information include the followingitems:
i. current assets, non-current assets, current liabilities, non-currentliabilities; and
ii gross revenues, income or loss from continuing operations beforeextraordinary items, and net income or loss and earnings coverage.
Staff is not requesting that Provigo provide any gross margin informationwhatsoever. Nevertheless, Provigo would not agree to disclose income statementitems on the basis that this information is competitively sensitive.
Para: 80 (b)(iii) provides as follows:
"Upon the application of a reporting issuer or upon the motion of theCommission, the Commission may, where in the opinion of the Commissionto do so would not be prejudicial to the public interest, make an order onsuch terms and conditions as the Commission may impose,
b) exempting, in whole or in part, any reporting issuer from arequirement of the Part or the regulations relating to a requirement ofthis Part,
(iii) if otherwise satisfied in the circumstances of the particularcase that there is adequate justification for so doing."
Continuous Disclosure is a cornerstone principle of Canadian capital markets.Clause 80(b)(iii) imposes 2 requirements on the Commission. Firstly, we must besatisfied that granting relief would not be prejudicial to the public interest. Moreover,we must also be satisfied, in the circumstances of the particular case, that there isadequate justification for so doing.
Generally, the purpose of continuous and timely disclosure is to provide equality ofopportunity for all investors in the marketplace in terms of access to information andto make available on a timely basis all material information which is necessary toensure secondary market trading efficiency. Disclosure helps to foster and maintainconfidence in our capital markets by providing an information base from whichinvestment decisions can be made and upon which investment advice can bedeveloped. Disclosure also provides information to assess the value of an issuersoutstanding securities on a continuous basis. (Securities Regulation: cases, notesand materials: P. 197 Anand, Johnston, and Peterson, Butterworths, 1999).
3. Provigo's Submissions
Provigo submits that the conditions prepared by staff would make the exemption oflittle benefit to Loblaw and Provigo. Provigo is a reporting issuer under theSecurities Act and contends that the provision of the guarantee by Loblaw is in thebest interest of its debenture holders. The debenture holders do not have acontractual right to receive continuous disclosure information. Provigo argues thatthe cross default is in reality for the benefit of the debenture holders of Loblaw notProvigo. It would be a benefit to the debenture holders of Provigo only if Loblaw,for example, paid off all of the Loblaw debt obligations or caused Provigo to ceaseto be a principal subsidiary for the purposes of those debt obligations. In essence,counsel for Provigo contends that the credit rating of the Provigo debentures is notexpected to rise as a result of a Loblaw guarantee, but the security rating wouldimprove.
Provigo contends that the public interest, in this case, is the interest of the currentand future debenture holders. Stated somewhat differently, Provigo submits thatthere can be little doubt that the granting of the guarantee by Loblaw in exchangefor an exemption to Provigo from the continuous disclosure requirements is notprejudicial to the public interest as it is clearly in the interest of the debentureholders, being the public for this purpose. Provigo argues that upon Loblawguaranteeing the Provigo debentures, a holder of the debenture may look to eitherLoblaw or Provigo to make payments thereunder. Since Loblaw is a reportingissuer under the Act, it will continue to be subject to the continuous disclosurerequirements of the Act. In essence it is contended that Provigo information isunimportant, irrelevant and potentially misleading. The applicant, to some extent,relies on the analysis of the rating agencies DBRS and CBRS in support of thisposition.
The applicant contends that a cost benefit approach to the disclosure of theinformation should be adopted by the Commission, since on the benefit side, thedebenture holders obtain a significant benefit from the guarantee. Of course thisguarantee could be provided with or without any relief from the Commission.However, counsel for the applicant contends that the order of the Commission is aquid pro quo for the guarantee.
The applicant did not vigorously contend that the cost of producing summarizedfinancial information is an issue. Rather, the applicant contends that the non-disclosure of competitively sensitive financial information is a key factor that benefitsall stakeholders in Loblaw and Provigo, including the debenture holders. On thecosts side, Provigo argues that the debenture holders would no longer haveinformation about Provigo on a stand alone basis but that this information wasunimportant, irrelevant and potentially misleading.
Firstly, it is unimportant because Loblaw is in a better financial position Provigo ona stand alone basis as indicated by the credit ratings of the respective debenturesprior to Loblaw acquisition of Provigo. Therefore, what is more relevant to thedebenture holders than the Provigo continuous disclosure information is the Loblawcontinuous disclosure information. Secondly, Provigo submits that financialinformation is and will continue to be irrelevant. The fact that the debenture holderscould look to Provigo as well as to Loblaw would only become relevant if Loblawcould not pay but Provigo could pay. This is not only unlikely, but in practice,Loblaw would never let it happen. Thirdly, Provigo argues that providing thefinancial information would be potentially misleading. Loblaw would be able tomove assets and liabilities around within the Loblaw group and therefore thefinancial position of Provigo on any particular day could be significantly differentfrom the next.
It is apparent that what Loblaw is attempting to do is to provide as little informationas possible with respect to its Quebec operations. Provigo submits that if acompetitor understood the level of margins in the Quebec business of Loblaw,Quebec competitors could target the Provigo stores for a price war.
4. Staff's Submissions
Staff submit that while exemptions have been granted by the Commission in thepast, even to situations where guarantees had not been provided, staff now submitgranting full discretionary relief in this case would be tantamount to permitting anywholly owned subsidiary with outstanding public debt to effectively cease to be areporting issuer provided a guarantee is put in place. Such a position, in staff's viewwould be detrimental to the interest of existing and future securities holders. Staff'sposition is that Provigo has not provided adequate justification for the Commissionto completely exempt it from the continuous disclosure obligations under the Act.However, there is sufficient justification for some relief.
Staff submit that continuous disclosure of summarized financial information aboutProvigo is relevant to its security holders for three reasons:
i the obligation to service the debt rests with Provigo; minimum financialinformation allows current and future security holders to evaluate Provigo'scapacity to meet its obligations in this regard.
ii the relevance of financial information must be evaluated over the life of thedebentures and not simply based on the circumstances that prevail today;it is contended that one cannot predict the relative financial strength ofLoblaw and Provigo over the life of the debentures and therefore one shouldnot eliminate access to information which may benefit current and futureholders of these instruments.
iii Provigo continues to be a reporting issuer in Ontario with securities tradingin the secondary markets; there is at least a minimum level of financialinformation respecting the issuer which should be available to current andfuture security holders in order to make informed investment decisionsnotwithstanding the availability of financial information about the guarantor.
Adequate justification for relief might exist if the information that would be providedto Provigo security holders was of no material value. Staff argue that summarizedfinancial information is necessary where an issuer, such as Provigo, of debt, retainssome independent operations and is not simply a conduit or what is often referredto as a special purpose financing subsidiary. Therefore, as a reporting issuer, itmust provide a certain level of information about its operations recognizing thatthere is always the risk of a future event of default.
The applicant introduced identical letters from five companies who hold Provigodebentures or accounts managed by them. These firms supported Provigo'sapplication. Staff contend that the letters addressed questions which were notdirectly relevant to the application. Staff argue that, despite the letters from theCBRS and DBRS, the information that is requested by staff is relevant to thedebenture holders today. Staff acknowledge that the existence of the guaranteemay lessen the need for an issuer to provide full financial statements since thedebenture holders can also look to the information about the guarantor to makeinformed investment decisions.
As such, if the guarantee is put in place by Loblaw, staff recommend thatconditional discretionary relief be granted from the full range of continuousdisclosure obligations, except material change reports, that otherwise currentlyapply to Provigo.
Staff referred to National Policy 47 as well as SEC Accounting Bulletin 53 (SAB 53)in the United States. The latter would require summarized disclosure with respectto the issuer subsidiary in the notes to the parent guarantors consolidated financialstatements where the issuer has more than minimal independent operations of itsown. In the United States, the SEC is tightening its requirements in this areawhereas, what the applicant is requesting of the Commission is to significantly relaxits requirements. Indeed staff point out that there are two significant differencesbetween SAB 53 and the form of summarized information proposed in this case.Firstly, staff does not request Provigo to separately disclose gross profit. In part,this is to address the applicants concern regarding competitive harm. Secondly,unlike in the United States, interim reports are not required. In essence staffcontend that there should be no fundamental reason why the disclosure providedto debt holders of Provigo in Canada should be inferior to disclosure provided in acomparable situation in the United States.
Staff further note that regardless of the existence of the guarantee Provigo's creditrating increased to match Loblaw when Loblaw acquired Provigo. This was in partdue to the cross default provisions in Loblaw own debentures. The benefit of beinga wholly owned subsidiary of Loblaw has already been reflected in the credit ratingassigned by DBRS and CBRS. Staff also suggest that little weight should be givento the letters from DBRS and CBRS since neither agency noted that the financialinformation was entirely irrelevant. More importantly the issue addressed by DBRSand CBRS was not the question before the Commission. The question before theCommission is, if Loblaw chooses to guarantee the debt what is the appropriatebalance in terms of the level of financial information to be provided to securityholders?
Finally, staff refer to certain decisions of the Commission wherein exemptions havebeen provided. Staff submit that the implementation of National Policy 47 in 1993represents a turning point with respect to guarantor considerations. While ViridianInc. (1997) 20 OSCB 474 post-dates NP47, staff argue that full relief in such cases,would effectively treat the company as if it had ceased to be a reporting issuer.
The Commission must decide whether the order would be prejudicial to the publicinterest and also be satisfied, in the circumstances of the particular case, that thereis adequate justification for the order. Section 1.1 of the Act notes that the purposesof the Act are to provide protection to investors and to foster fair and efficient capitalmarkets and confidence in those markets. An important principle in pursuing thepurposes of the Act is found in section 2.1 which states that a primary means forachieving the purpose of the Act is to require timely, accurate and efficientdisclosure of information. Clearly, continuous disclosure requirements arecontemplated therein. Moreover, sections 77 and 78 require that annual andinterim financial statements for all reporting issuers, even those with only debtoutstanding, must be filed with the Commission. Such statements are thereforethen made publicly available.
We are of the opinion that the disclosure required by a reporting issuer should notbe determined solely by the possibility of a future event of default but rather on thebasis of the ongoing normal course of events. This takes into account the interestsof both current and future debtholders and ensures that the public interest issatisfied by balancing the market place need to know with Provigo's desire to beexempt. While we recognize there is always a risk of a future event of default,minimum financial information allows current and future security holders theopportunity to evaluate Provigo's capacity to meet its obligations on an ongoingbasis.
We recognize that the specific circumstances of an issuer must be considered andbalanced with the broader considerations of the public interest. We have done soin this case in carrying out our mandate under the statute. In assessing therelevance to the debt-holders of financial information about an issuer it should notbe presumed that the guarantor's financial position will at all times be stronger thanthat of the issuer.
Finally, Provigo continues to be a reporting issuer with securities trading in thesecondary market. We are of the opinion that in these circumstances there is atleast a minimal level of financial information respecting the issuer which should beavailable notwithstanding the availability of information respecting the guarantor.It may also be noted that the comparability of disclosure regimes is also desirablein a global marketplace. To fully exempt the applicant in this case would clearly beout of step with SAB 53 which would require even more information with respect tocomplex parent/subsidiary guarantee relationships than is being requested in thiscase by staff.
We are also not persuaded that the evidence provided to the Commissionadequately justifies the order as requested. We have considered the evidence fromthe firms who hold for debt accounts as well as the CBRS and the DBRS letters.We are not satisfied that the information in the summarized form is irrelevant,unimportant or misleading. Nor do we believe that the cost of providing thesummarized information would be onerous. Moreover we are not persuaded of anycompetitive disadvantage associated with providing this information. The argumentof competitive risk associated with providing summarized financial is largelyunsupported and is somewhat speculative.
We have taken note of the fact that, as referred to by DBRS, Loblaw's existingunsecured debentures contain a cross default provision. This provision wouldrequire Loblaw to provide indirect support for the unsecured debenture obligationsof Provigo in order to avoid negative consequences to Loblaw. While it wouldappear that the cross default provision is for the benefit of the debenture holders ofLoblaw, we are not convinced that the rating agencies upgrade of the Provigo debt,post-acquisition, is not as a result of the cross default covenant.
We have considered previous decisions of the Commission that have beensubmitted by staff and counsel for the applicant. These decisions are DomePetroleum (1989), 12OSCB 1209; Texaco Canada Inc. (1989), 12OSCB 2582;Encore Energy Corp. Inc. (1990), 13OSCB 113; CanRon Inc. (1991), 14OSCB 179and Viridian Inc. (1997) 20OSCB 474. Relief from the continuous disclosurerequirements of the Act was granted. Only Encore involved a guarantee of theparent company. The decision in this case involves the exercise of discretion whichmust be used to promote the purposes and policies of the Securities Act. Werecognize the value of consistency in the application of both law and policy.However, the Commission is not bound by precedent and to do so in this casewould circumscribe the flexibility and judgement that is required in forming anopinion as to what may be prejudicial to the public interest on a case by case basis.
As indicated previously, a fundamental principle underpining one of the objectivesof the Act is to consider, in the appropriate case, the requirements for timely,accurate and efficient disclosure of information. It is our view that this principleprovides an appropriate legal guide to fulfilling our mandate. No particularinnovation or adjustment is required in the interests of administrative efficiency withrespect to the application of the Securities Act in this case. Our approach isnormative. We are of the opinion that the requirement for at least summarizedfinancial information is not a reflection of administrative expediency but ratherunderscores our view that continuous disclosure remains a cornerstone of theSecurities Act. Moreover, we are satisfied that this decision does not create anyunreasonable demands with respect to filing information in compliance with OntarioSecurities Law. However, it would be appropriate, in our view, for staff to furtherconsider whether or not the summarized financial information that is standardpractice today meets these requirements or whether the approach which is evolvingin the United States or elsewhere may be more appropriate.
In conclusion we are of the opinion that Provigo is a reporting issuer, with securitiestrading in the secondary market having material operations independent of itsparent and therefore it should meet reasonable requirements for continuousdisclosure. We are not persuaded by applicant's arguments on the merits of theapplication. We are satisfied that the staff of the Commission propose acompromise that offers Provigo reasonable and substantial relief in this case. Theproposed solution is consistent with the principles of continuous disclosure bothdomestically and internationally, while taking into account the specificcircumstances of the applicant, particularly with respect to the cost of full disclosureand any competitive disadvantages that might result by requiring summarizedinformation in the form recommended by staff.
The application is denied. If requested, an order shall be issued permitting continuousdisclosure of summarized financial information in the manner that staff proposes.
July 19th, 1999."Howard I. Wetston"
"Morley P. Carscallen"
"K. D. Adams"