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Brief Counsel

The FMA Bill - the shape of things to come

17 September 2010

The sweep of powers proposed for the new Super Regulator – the Financial Markets Authority - is spelt out in the Financial Markets (Regulators and KiwiSaver) Bill introduced to Parliament during last week.  The Bill reflects key policy decisions on the shape of the FMA, with a few surprises.

This Brief Counsel is one of a series that Chapman Tripp is producing on the reform of the legislative and regulatory framework governing New Zealand’s capital markets.  We will be putting out commentaries on other aspects of the Bill over the next few weeks. See also our July Brief Counsel on the FMA.

Functions of the Financial Markets Authority (FMA)

The FMA will have a broader role than the Securities Commission, which it will replace, as it will also assume certain regulatory responsibilities from the Ministry of Economic Development, the Government Actuary and the Minister of Commerce.   

The functions of the FMA will be to:

  • monitor compliance with, investigate and enforce specified financial markets legislation (e.g. the Securities Act 1978 and the Securities Markets Act 1988) and other governance, reporting and supervision Acts insofar as they relate to financial market participants (principally the Companies Act 1993, the Financial Reporting Act 1993, the Corporations (Investigation and Management) Act 1989, and the Anti-Money Laundering and Countering the Financing of Terrorism Act 2009)

  • increase public awareness of the operation, regulation and risks associated with financial markets in New Zealand

  • monitor, and conduct inquiries and investigations into a broad range of securities and financial market related matters

  • review the law and practices relating to financial markets, their participants, and other persons engaged in securities-related activities, and

  • provide administrative support to the Securities Markets Rulings Panel. 

Structure of the FMA

 Independent Crown Entity (like the Commerce Commission, the Securities Commission and the Takeovers Panel)

  • Between five and nine part-time members, with scope for the Minister to appoint up to five associate members for assignment to specific tasks

  • Able to act in divisions of three members

Powers

Important powers which the FMA will have, and which the Securities Commission does not have, are the power to:

  • require persons to supply information and documentation considered necessary or desirable for the performance of the FMA’s supervisory and investigative roles

  • enter and search premises to obtain evidence, and

  • take legal proceedings on behalf of investors against financial market participants (such as issuers and promoters, and their controlling owners, directors or senior managers, trustees and other financial service providers), auditors under the Securities Act 1978 or experts who make statements in prospectuses, where the FMA considers the action to be in the public interest.

Information gathering, entry and search

The FMA will have the power to enter and search premises (subject to obtaining a warrant or the consent of the occupier) and seize documents and other things, where it is satisfied that there are reasonable grounds to believe that:

  • a person has or is engaged in conduct that constitutes or may constitute a contravention of any financial markets legislation, and

  • the search will produce evidential material.

These powers are more comprehensive than those currently held by the Commerce Commission, particularly in relation to electronic data and the ability to remotely access and seize such information. 

This is probably a timing issue which will be resolved when the Search and Surveillance Bill is finally passed.  The Bill will likely give the two authorities the same rights.  Less obvious at this stage is exactly what those rights will be because the information-gathering provisions in the Bill have proved highly controversial – so much so that a revised version has been referred back to the Justice and Electoral Select Committee for further consultation and consideration.

Self incrimination

The Bill does not carry forward section 69T of the Securities Act, which confines the ordinary right under the Evidence Act for witnesses not to incriminate themselves.  Accordingly, the privilege against self-incrimination should apply to FMA investigations.

Power to exercise an investor’s right of action

Perhaps most significantly, the FMA will also have the power to take legal action on behalf of investors.  This is similar to ASIC’s power under section 50 of the Australian Securities and Investments Commission Act 2001.  But it signals an important boundary shift for New Zealand financial markets regulation and is an issue on which Chapman Tripp is preparing a separate Brief Counsel.  The Regulatory Impact Statement on the proposal indicates that a minority of the FMA Establishment Board and a number of submitters on the Review of Securities law do not support the new power, at least at this stage. Before taking proceedings on behalf of an investor or investors, the FMA must have conducted an inquiry or investigation and be satisfied that the action is in the public interest.  Criteria it must have regard to when considering this include:

  • whether it is consistent with the FMA’s objectives under s 8 of the Bill, these being to promote fair, efficient and transparent financial markets

  • whether it is an efficient and effective use of the FMA’s resources

  • the extent to which the proceedings involve matters of general commercial significance or importance, and

  • the likelihood of the investor/investors commencing proceedings on their own initiative and taking them to conclusion.

The FMA does not need the consent of the investor to exercise the investor’s legal rights.  Indeed, it can apply to the High Court for leave to take action where:

  • a person (which may include a company) has objected to the FMA commencing proceedings on its behalf, and

  • the FMA intends to take over, as opposed to commence, proceedings which are already in progress.

When deciding whether to grant such leave, the Court must have regard to much the same considerations as must the FMA when determining whether to take the action in the first place.  This overlap would suggest that leave applications will generally be granted.

Public enforcement of directors’ duties

The question of whether the FMA should have the power publicly to enforce directors’ duties is being considered in the context of the Review of Securities Law, now in the first round of consultations.  But once the decision was taken to legislate for the FMA before the review was completed, it was always inevitable that there were going to be areas where the FMA legislation would pre-empt the review.

The most obvious (and contentious?) area in which this has occurred is that the directors of companies providing financial services, and therefore caught by the “financial market participants” definition in the Bill, will be subject to the FMA’s public enforcement powers.

A possible scenario would be that the FMA commence proceedings on behalf of an issuer, against a director of that issuer (being a financial markets participant) for a breach of directors’ duties owed to that issuer.  Regardless of whether the issuer intended to bring proceedings against the director (and conditional on obtaining the leave of the Court in certain circumstances); the FMA would be able to enforce that issuer’s rights against the director.

Power to levy

The Bill contemplates a levy on financial market participants to part fund the FMA.  Different levies may be prescribed for different classes of market participant.  Levy rates will be determined by the Minister of Commerce.

This extends the ‘users pays’ funding model adopted in the Financial Advisers Act, and could prove to be controversial should some market participants consider that they are being asked to carry a disproportionate burden.

Oversight of registered exchanges

The Bill makes substantial changes to the Securities Markets Act (SMA). 

Obligations of registered exchanges

The Bill is much more prescriptive in setting out the obligations of registered exchanges, and provides for the FMA to oversee the performance of those obligations.  The registered exchange will be required to report annually to the FMA, which will in turn report to the Minister.  The FMA can also recommend to the Minister that the Minister give binding directions to a registered exchange to take remedial action in relation to its obligations. 

Market rules and market integrity regulations

Currently, the Minister of Commerce has what is effectively a veto right in relation to proposed rule changes relating to an existing securities market.  Where a registered exchange seeks to change a rule, the Minister may disallow that change if the Minister is satisfied that it is in the public interest to do so.  The SMA also contains a pre-approval process, which is carried out by the Governor-General (at the recommendation of the Minister).  This process operates in relation to proposed rules for new securities and futures markets.

Under the Bill, the Minister will no longer have a veto power, nor will the Governor-General pre-approve new rules.  Instead, all proposed new rules, and any changes to existing rules, will require pre-approval by the FMA.  In addition, the FMA will have the power to request (but not to compel) a registered exchange to prepare a draft change to a rule or to draft a new rule.

The Bill also creates a much more proactive role for the Minister through the market integrity regulations regime.  The Minister will now have the ability, subject to certain criteria, to recommend that the Governor-General make regulations to modify or replace existing market rules, or to deem all or part of the regulations to be contained in the market rules.

Securities Markets Rulings Panel

The Bill establishes the Securities Markets Rulings Panel  as an independent statutory body to adjudicate matters relating the registered exchange. The Rulings Panel will take over the role currently carried out by the NZ Markets Disciplinary Tribunal, and will be the body responsible for adjudication in relation to future registered exchanges.

The Panel will sit outside the FMA but will receive its funding through the FMA and will be reliant on the FMA for administrative and support services.

Securities Act amendments

The Bill also makes significant changes to the Securities Act; introducing a new prospectus registration regime, details of how the Register of Securities will work and amendments to the processes around obtaining and publishing Securities Act exemptions.

New prospectus regime

The Bill introduces a “notice and pause” system based on the Australian model for prospectus review and registration.  The FMA (as opposed to the Companies Office) will be responsible for the substantive examination of prospectuses, and there will be a minimum ‘pause’ period of five working days (extendable to ten at the FMA’s request) during which the FMA will carry out this review. 

The process will be very public and transparent.  As we noted in our July Brief Counsel, the regulator will need to prioritise and risk-weight which types of documents get reviewed in the five day period.  It is conceivable that some documents will not be reviewed at all.

Issuers will be required to deliver the prospectus in final form to the Registrar, who will be the Register of Financial Service Providers under the Financial Service Providers (Registration and Dispute Resolution) Act 2008. 

The Registrar will do a cursory ‘tick the box’ exercise, checking legibility and basic data such as the date, before registering the prospectus.  Once registered, issuers will have five working days to notify registration on their website and direct the public to where they may obtain a copy of the prospectus. 

The effect of the five working day time limit will be that the document will almost certainly be in the public arena before the FMA reviews it for compliance with the Securities Act and Regulations, and for false or misleading statements or material omissions.  The FMA has five to ten working days to carry out its review, during which time the issuer is prevented from allotting, or accepting any subscription for shares.  

While this model has served Australia well, it may be less suitable for the New Zealand market where IPOs and high profile listings are relatively rare. 

Register of Securities

The Bill also contains detailed mechanics for the establishment and maintenance of the Register of Securities – the electronic register to enable the public to search for and access information about securities and securities offers. 

In addition to prospectuses, and trust deeds, which already require registration under the Securities Act, issuers will need to lodge copies of investment statements, prospectus extension certificates and other documents on the Register.

Securities Act exemption powers

The Bill transfers the Securities Commission’s power to grant specified exemptions to the FMA, making a number of procedural changes in the process. 

Individual exemptions will no longer be regulations for the purposes of the Acts and Regulations Publications Act 1989, meaning they will not have to be published by the Parliamentary Counsel Office (PCO).  Instead, they will simply be published on the FMA’s website, notified in the Gazette and available for purchase.  This will allow for significant streamlining of the individual exemption process.

Class exemptions will continue to be published by the PCO.  All exemptions, whether individual or class, will still be presented to Parliament in accordance with the Regulations (Disallowance) Act 1989.  The Bill has abandoned proposals to impose a one year limit on the FMA’s power to grant class exemptions.  We are pleased with this change as in our experience the existing exemption regime works well – an argument we made in our July Brief Counsel.

The Bill also introduces statutory guidance to the FMA regarding the granting of exemptions.  An exemption may only be granted where the FMA is satisfied it “would not cause significant detriment to subscribers for the securities to which the exemption relates” and “is not broader than is reasonably necessary”.

Finally, the Bill makes changes to the statutory exemption regime contained in s 5 of the Securities Act, which exempts offers related to matters such as estates or interests in land.  The Bill will allow the creation of regulations prescribing particular circumstances in which s 5 exemptions will not apply.  The power to create such regulations is designed to allow the Minister to close existing loopholes which allow certain offers to be exempted under s 5 inappropriately.  The Blue Chip property investment scheme relied on the existing exemption to operate outside securities law.

Chapman Tripp partner, Frank McLaughlin, is a member of the FMA Establishment Board.

Our thanks to Asha Trotter, Michael Dobson and Roger Wallis for writing this Brief Counsel.

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