Acquisition disclosure when filing a prospectus

Through our review of prospectuses, Ontario Securities Commission (OSC) staff have noted certain common problems related to acquisition disclosure. We encourage issuers and advisors to consider the following in order to avoid delays during the preliminary prospectus phase. The OSC recommends that issuers pre-file their prospectus for discussions with staff when any of the situations outlined on this page are likely to occur.

Primary business in an IPO

An issuer filing an initial public offering (IPO) prospectus must include a three-year financial history (two years for an IPO venture issuer) of the business that investors are investing in, even if the financial history spans across multiple legal entities over the three-year period. The financial history includes businesses acquired or that will likely be acquired if those businesses are in the same primary business of the issuer. If there are multiple acquisitions in the same primary business of the issuer, we encourage issuers and their advisors to consult with staff on a pre-file basis to consider what financial statements of smaller acquisitions can be excluded from the prospectus.

Financial statement disclosure for certain significant acquisitions

When an issuer is raising proceeds to fund an acquisition that makes up a material portion of its business, or is larger than the issuer's existing business, the issuer should consider whether the disclosure that is normally required for a significant acquisition is sufficient for the prospectus to contain full, true, and plain disclosure. Specifically, issuers with an existing annual information form may need additional disclosure in the prospectus to reflect the acquisition and should also consider whether inclusion of additional audited financial statements is necessary.

The same is true of venture issuers, who need to determine if additional disclosure is necessary to fulfill the requirements of the prospectus—even if an acquisition does not meet the applicable asset or investment significance tests.

We encourage issuers and their advisors to consult with staff on these issues through a pre-file to determine the appropriate level of disclosure.

Asset acquisitions versus business acquisitions

When an issuer makes an acquisition, there are instances where the issuer must use its judgement to determine if the acquisition is an asset acquisition or a business acquisition. An acquisition could meet the definition of an asset acquisition under International Financial Reporting Standards, while the same acquisition could be considered a business acquisition for securities law purposes.

We generally consider the acquisition of a separate entity, a subsidiary, or a division to be an acquisition of a business. In certain circumstances, a smaller component of a company may also be considered an acquisition of a business, irrespective of whether or not financial statements were previously prepared for the business. For example, we generally view the acquisition of licences, patents, royalties, and intellectual property as “business” acquisitions for securities law purposes, as the revenue producing activity or potential revenue producing activity remains the same.

Part 8 of Companion Policy 51-102CP provides guidance in determining whether an acquisition constitutes the acquisition of a business. Specifically, in making that determination, an issuer should consider the continuity of business operations, including if:

  • the nature of the revenue-producing activity or potential revenue-producing activity will remain generally the same after the acquisition
  • any of the physical facilities, employees, marketing systems, sales forces, customers, operating rights, production techniques, or trade names are acquired by the issuer instead of remaining with the vendor after the acquisition

Part 8 of National Instrument 51-102 Continuous Disclosure Obligations applies when an existing issuer completes an acquisition of a business that is considered significant.

Potential acquisitions in the context of use of proceeds disclosure

Some prospectuses indicate that the offering is for potential acquisitions, but contain little or no disclosure about these potential acquisitions. Instead, these prospectuses disclose that the issuer is currently evaluating or considering various potential acquisition opportunities or is close to completing an acquisition. In general, these details are not sufficient for the OSC to issue a final prospectus receipt. We may request additional information such as:

  • descriptions of the potential acquisitions, including:
    • a description of the businesses or entities involved
    • a description of the discussions with shareholders or management
    • clarification on whether the issuer has entered into any agreements in principle
    • letters of intent or other similar arrangements and whether they are binding or non-binding
  • the anticipated material impact of these potential acquisitions on the issuer, including a description of how the issuer has concluded that the potential acquisitions are not probable acquisitions or that information relating to the potential acquisitions should not otherwise be considered material to an investor
  • the criteria management uses to identify potential acquisitions
  • how the proceeds of the offering will be invested or used pending the completion of an acquisition

Disclosing risks of vendor indemnity caps

Vendor indemnity caps are contractual provisions that limit the ability of issuers to seek indemnification from vendors of businesses they are acquiring. We have requested additional risk factor disclosure in the prospectuses relating to vendor indemnity caps in the following situations:

  • an issuer files a prospectus in connection with an offering of securities in order to finance the acquisition of another issuer or business (the proposed target)
  • the proposed target is significant to the issuer in terms of the significance tests under Canadian prospectus and continuous disclosure rules
  • the vendors of the proposed target are not otherwise required to sign the prospectus as promoters or in another capacity

In the scenario where a prospectus is filed to finance the acquisition of a proposed target, we have noted that a substantial amount of the prospectus disclosure relates to the proposed target and that an investor’s decision to participate in the prospectus offering may be based on the disclosure about the proposed target.

However, if the vendors have not signed the prospectus and the acquisition agreement includes a significant vendor indemnity cap, the vendors of the proposed target may have little or no liability to investors or to the issuer if there is a misrepresentation in the target-related disclosure. In some instances, the vendor indemnity caps have purported to limit the vendors’ liability from 5% to 10% of the proceeds paid to the vendors.

We have questioned whether this situation undermines the statutory requirement that the prospectus contain full, true, and plain disclosure of all material facts relating to the securities to be issued under the prospectus.

Our current practice is to raise a comment as part of the review process when a prospectus indicates that the acquisition agreement includes a vendor indemnity cap. OSC staff will request risk factor disclosure that highlights the following facts:

  • the proceeds of the offering will be paid out to the vendors following closing
  • the vendors have not reviewed the disclosure in the prospectus relating to the proposed target and have not represented that:
    • the disclosure represents full, true, and plain disclosure
    • the disclosure does not contain a misrepresentation
  • the vendors will have no liability to investors in the offering if the prospectus disclosure relating to the proposed target contains a misrepresentation
  • if there is a misrepresentation relating to the proposed target, the vendors’ liability to the issuer is capped at a certain dollar amount that represents a certain percentage of the proceeds of the offering

This does not apply to a situation in which a vendor may be viewed as acting as a promoter of the issuer in the circumstances described in National Policy 41-201 Income Trusts and Other Indirect Offerings.

Pro forma financial statements

As stated in section 8.7(5) of Companion Policy 51-102CP, pro forma financial statements that are included in a prospectus as the result of an acquisition may only include two types of pro forma adjustments:

  • those directly attributable to the specific acquisition transaction for which there are firm commitments and for which the complete financial effects are objectively determinable
  • adjustments to conform amounts for the business or related businesses to the issuer’s accounting policies    

Related legislation, forms, and companion policies