Russell McVeagh submission on the proposed Financial Markets Conduct 2015 Russell McVeagh contacts in relation to these submissions are: Deemple Budhia, Guy Lethbridge and Debbie Booth deemple.budhia@russellmcveagh.com/guy.lethbridge@russellmcveagh.com/debbie.booth@russellmcveagh.com (09) 367 8335/(04) 819 7538/(04) 819 7379 Section one: feedback on technical issues with the s Exposure draft Definition changes Reg 4 Reg 5, def of convertible Reg 5, def of retail investor The definition here follows the language used in section 44 of the Act. However, this definition should also specifically include financial products that are exchanged for another financial product. This would be consistent with: - proposed new 49A(b)(ii), which contemplates the "new product" being issued by a different issuer to the issuer of the convertible; - the proposed definition of "bank hybrid products" to be inserted in Schedule 9 of the ; and - the treatment of bank hybrid products as "convertibles" in a number of places in Schedule 9. This could be achieved by amending the proposed definition of "convertible" as follows: "convertible means a financial product that will be converted into or exchanged for, or is or may become convertible into or exchangeable for, into another financial product (the new product)" Reg 5, def of unique identifying information Reg 5, def of disclosure year
Disclosure of offeror details for sale offers Reg 6 Reg 12 Offers by listed issuers of products that rank equally or above quoted products (ie, simplified disclosure ) Reg 11 New reg 42A Where the prescribe a matter for the purposes of a specific section, that section is often referred to in the. We suggest this approach be followed for new 42A as follows: Offers of convertible products For the purposes of section 57(3) of the Act, section 57(1)(b)(ii) of the Act does not apply to a simplified disclosure offer. Reg 12 New reg 49A to 49D (and see changes to Schedules below) We agree with the approach that the Ministry has taken for the disclosure requirements for convertibles. A highly prescriptive approach would be too complex and confusing to apply to the range of convertible products that may be offered. However, some refinements are necessary for the proposed approach to be workable. Noted below are some general comments in this regard. We have also noted comments or concerns in relation to specific provisions. - The application of the convertibles provisions to bank regulatory capital products require some refinement. Based on the proposed amendments to Schedule 9 of the, it appears that the Ministry intends for banks to prepare a LDD under Schedule 9 of the for these products. However, proposed 49A provides that proposed s 49B to 49D apply to all offers referred to in section 44 (that is, including Act Schedule 1 offers). Proposed 49B would then require a bank issuing a convertible debt security to use a debt PDS rather than a LDD. This is not the correct outcome. Accordingly, the proposed s should be amended to make it clear how they apply to convertible debt securities issued by banks, either by referring to LDDs in these provisions or including corresponding provisions in the LDD provisions in Schedule 8 of the. However this is achieved, it is important that the outcomes provided by proposed s 49A to 49D are also achieved for bank issuers using a LDD. In particular, the proposed s should: - make it clear that a bank issuing a convertible debt security must comply with the LDD and register entry requirements in Schedule 9 of the (consistent with proposed 49B(1)(a) and (2)(a));
- relieve the issuer of the new product (ie the equity security) from the obligation to prepare an equity PDS (consistent with proposed 49B(4)); and - allow bank issuers to include additional information in the same was as non-bank issuers will be able to under proposed 49D. - As some convertibles, particularly those issued recently by banks for regulatory capital purposes, are quite complex instruments, the disclosure framework must clearly allows issuers of convertibles to disclose all relevant information to enable investors to make informed investment decisions. For example, in relation to bank regulatory capital products, background information on bank regulatory capital requirements and some of the features that are required to be included in the terms of those products, such as loss absorbing features, will be highly relevant to an investor in this type of product. These features are complex and give rise to specific risks. Being able to include some background information on these matters and information about the issuers' historic regulatory capital positions can help prospective investors understand the products better. In addition, it would be helpful to be able include information required by other regulatory regimes. For example, where New Zealand banks have issued convertibles for regulatory capital purposes recently, the convertibles convert into equity securities of the parent entity. That parent is listed on ASX and the parent entity must lodge a cleansing notice with ASX, accompanied by a copy of the offer document. This version of the offer document must include a few short statements which would not ordinarily be included in a PDS or LDD. Those statements are consents to being named in the offer document and a short description of the impact of the offer. Regulation 49D (or a corresponding provision relating to LDD offers) and existing 34(1)(b)(i) will go some way to permit the inclusion of this type of additional information. However, there are limitations with this approach: - 49D will only allow information that would be included in an equity PDS and which relates to either the products or the issuer of the new product (but only if the issuer of the new product is different to the issuer of the convertible); - to the extent that financial information is included in relation to the issuer of the new product, it must be compliant with NZ GAAP. However, in relation to bank regulatory capital instruments for example, the issuer of the new product will often be an Australian corporation, having financial statements that comply with Australian financial standards; - if additional information cannot be included under 49D, it can only be included if it satisfies existing 34(1), which will likely result in important information being put at the back of the LDD; and - regardless of the basis on which the additional information is included, it will almost certainly put real pressure on the length limits. Accordingly, the following matters should be addressed in the :
- where, for example, a debt convertible converts into an equity security and the issuer of both products is the same, the issuer should be permitted to include equity-type disclosures about itself in the PDS or LDD. If a debt instrument converts, investors will have an equity exposure to the issuer, so this information will be relevant; - allow cleansing notice statements to be included in a PDS or LDD; - allow non-nz GAAP financial information to be included in a PDS or LDD in certain circumstances, for example, where the issuer of the new product is the parent entity of a New Zealand issuer; - allow increased length limits for convertibles, both for the KIS and the overall length. For example, where a debt security converts into an equity security, the length limits for an equity PDS should apply. - When completing the register entry for a convertible, will the Disclose register include fields that allow details about the new product to be clearly entered? For example, where there is a different issuer of the new product, will there be an option to include a second issuer in a way that clearly identifies the roles of each issuer? New reg 49C Convertibles that have been issued recently by New Zealand banks for regulatory capital purposes convert into equity securities issued by the bank's parent company. In order for the convertibles to qualify as regulatory capital for both the New Zealand bank and its parent entity (on a group basis), the trigger events for conversion relate to both the New Zealand bank and the parent entity. This is not contemplated by the introductory words of proposed 49C. The following amendments should be made to address this: "If the convertibles will be converted into, or exchanged for, new products in connection with an event or a circumstance relating to insolvency, or a financial difficulty, or capital position of the issuer of the convertible or the issuer of the new product, the statement under 20(1)(e) must be in the following form:" In addition, the second paragraph of the prescribed statement refers to convertibles being complex instruments and "are not suitable for many investors". This statement appears to be based on the comparable statement set out in the Securities Act (Banks' Regulatory Capital) Exemption Notice 2014. However, we have two concerns about the current form of the statement: - it assumes that all convertibles are complex financial products. While this may be correct in relation to the bank regulatory capital instruments that have been issued recently, it is not necessarily true in relation to all convertibles. The should expressly allow for the prescribed statement to be adapted where the convertible is not a complex product; and - in relation to convertibles issued by banks for regulatory capital purposes, the comparable statement in the Exemption Notice states that the convertible instruments are complex instruments and that they "might not be suitable for many investors". However, the proposed statement to be included in the states that the convertibles "are not suitable for many investors". We are not aware of any reason why the risk profile
New reg 49D of these instruments would have changed since that Exemption Notice was issued in March 2014. Accordingly, where the issuer of the convertible is a registered bank, the language in the prescribed statement should be consistent with the language in the Exemption Notice and should be amended as follows: "This investment is riskier than a bank deposit.* These [name of convertibles] are complex financial products that are not might not be suitable for many investors. If you do not fully understand how they work or the risks associated with them, you should not invest in them. You can seek advice from a financial adviser to help you make an investment decision." This should be amended to clarify that: - information included under this clause is "permitted information" for the purposes of 29(1)(c) of the, so can be included in the KIS; and - 34(1)(b)(ii) does not limit the inclusion of additional information pursuant to proposed 49D (the reg 49D information relating to the new product (and the issuer of the new product) should have the same prominence as the disclosure information that is required to be included in relation to the convertible (and the issuer of the convertible). Changes to confirmation notice provisions Reg 14 New regs 52 to 52B Defined benefit schemes Reg 15 and 18(3) Regs 53 and 56 Fund updates for multi-funds investment options Reg 18 to 20 Regs 56 to 58A
Allowing use of fund updates to supplement PDS Reg 21, 35(4), (5), (25) New reg 61A and new clause 8A of Sch 4 Ongoing client reporting for derivatives Reg 22 New reg 71B We have the following drafting comments on this clause: - Clause (1)(a): The to "current positions" should be clarified. Will this clause require a list of the transactions that are then on foot? Presumably it is not intending for the derivatives issuer to provide a mark-tomarket value of those transactions as this would duplicate the requirement in clause (1)(b)? - Clause (3): The following changes should be made to clause 3 to link the valuation to the particular date: "For the purposes of subclause (1)(b), the current value is, as at a particular date, the amount the investor will receive if the investor chooses to terminate or close out the derivative on that date." New reg 71C New 71C should be amended to clarify whether "sending" the confirmation information (as permitted by subclause (b)) within the 10 working day period will satisfy the obligation to "provide" the confirmation information. If that is not the case and the confirmation information must have been received by the investor within the 10 working day period, the should include deemed receipt provisions. This would give derivatives issuers better certainty on whether they have satisfied their obligations under this if the confirmation information is mailed to investors. Register audits Reg 23 Reg 109 Circumstances in which independent custodian requirements do not apply
Reg 24 New reg 237A Derivatives investor money and property obligations Regs 25 to 29 New reg 244A In the definition of "specified aggregate" in clause 3, it was not clear to us why subclause (c) only included derivatives investor property referred to in 239(5)(a) and (c), but not 239(5)(b). If the derivatives issuer elects to treat that property as derivatives investor property under 239(5)(c) and that property is therefore subject to the same requirements as other derivatives investor property, the derivatives issuer should be permitted to take account of that property in is shortfall calculations. Mutual recognition pre-offer advertising Reg 30 Reg 264 Notices given by the FMA Reg 32 New regs 280A and 280B Debt securities Schedule 2 Reg 33 Sch 2: new cl 1(4) Sch 2: cls 6, 9, 11, 15, 30, 48
Sch 2: cl 23 Sch 2: cl 37 Sch 2: new Part 1A, cls 62B and 62C Sch 2: cl 67 The introductory words in 33(8) and (9) incorrectly refer to Schedule 3 of the and should be amended as follows: "(8) In Schedule 32, replace..." and "(9) In Schedule 32, after..." The Ministry has asked for feedback on whether it is necessary to include risk factors in a simplified disclosure PDS for debt securities where the relevant issuer has equity securities listed. Risk factors should not be required in these circumstances as the market disclosures made in relation to the equity securities should address any matter that would be material to a prospective investor in debt securities of that issuer, particularly given that the level of disclosure required for equity securities is significantly greater than that required for debt securities. Equity securities Schedule 3 Reg 34 Sch 3: cls 5, 8, 10, 32 Sch 3: cls 35 and 39 Sch 3: new Part 1A, cl 52, 53 Sch 3: cl 52 Sch 3: cl 53
Sch 3: cl 55 Managed funds Schedule 4 Reg 35 Sch 4: New cl 8A, cl 12, 63 Sch 4: New cl 8B Sch 4: cl 51 Sch 4: New cl 8C, cl 53A Sch 4: cl 54 Sch 4: cl 55 Sch 4: cl 55 Sch 4: cl 58, 59 Sch 4: cl 62
Sch 4: New cl 8A, cl 12, 63 Sch 4: New cl 8B Sch 4: cl 51 Sch 4: New cl 8C, cl 53A Other managed investment schemes Schedule 5 Reg 36 Sch 5: cl 4, 7, 8, 24 Limited disclosure requirements - Schedule 8 Reg 38 Sch 8 Please see the first comment in relation to new s 49B and 49D above. Sch 8: cl 21 Sch 8: cl 23, 29, 32 We support the change to clause 23(2) to ensure that, where securities are offered under a LDD, the LDD is not required for secondary sales of those securities. Sch 8: cl 26 and 31 Sch 8: cl 40A We support the inclusion of proposed 40A to ensure that a LDD can be supplemented or replaced.
Bank and Crown LDD - schedule 9 Reg 39 Sch 9 There are a number of places in the existing provisions of Schedule 9 that the current disclosure requirements should be amended to clearly allow for the most effective disclosure to be made. These are noted below: Clause 5: Regulatory capital instruments that qualify as "Additional Tier 1" capital must be perpetual and have discretionary interest payments. Accordingly, statements about "promises to pay you interest and repay money at the end of the term" are not correct. Clauses 8 and 19: - The "description of the term" should clearly allow descriptions for perpetual instruments and write off features of regulatory capital instruments (clauses 8(b) and 19(2)(c)) - Regulatory capital instruments must include certain terms relating to interest payments. For example, "Tier 2" instruments must include rights to suspend (but not cancel) interest payments, whereas interest payments on "Additional Tier 1" instruments must be discretionary and are non-cumulative (although a dividend stopper will apply for so long as interest is not paid). All of these details should clearly be able to be disclosed (clauses 8(e) and (g) and 19(2)(a)). Clause 10(2)(a) and (c): The prescribed statements in these paragraphs refer to selling the products "before the end of their term". As discussed in relation to clause 5, this language is not appropriate in relation to perpetual instruments. Clause 13(1): The first paragraph of the prescribed statement in this clause again refers to the issuer's "commitments to repay you or pay you interest". These statements are not appropriate for "Additional Tier 1" capital instruments, which must be perpetual and have discretionary interest payments. Clause 14(3)(d): As registered banks are required to hold and publish issuer credit ratings, it may be confusing if the LDD cannot mention those ratings at all if a product rating is obtained. It would be more helpful to investors if both ratings could be included and the reasons for the differences explained. It may also assist investors to understand the significance of some of the features of the relevant product. Clauses 29-32: The risks that are required to be disclosed are quite specific and limited. There are risks associated with both the complexities of the instruments and loss absorbency that should be required to be disclosed by these provisions.
Sch 9: cl 1 Sch 9, new cl 5 Sch 9, new cl 13(5) As noted above in relation to new 49C, convertibles that have been issued recently by New Zealand banks for regulatory capital purposes convert into equity securities issued by the bank's parent company. In order for the convertibles to qualify as regulatory capital for both the New Zealand bank and its parent entity (on a group basis), the trigger events for conversion relate to both the New Zealand bank and the parent entity. This is not contemplated by the definition of "bank hybrid products". The following amendments should be made to address this: "bank hybrid products means debt securities issued by a registered bank that will be converted, or exchanged for, another financial product in connection with an event or a circumstance relating to the insolvency, or a financial difficulty, or capital position of the registered bank or the issuer of the new product" Proposed clause 5(2)(b) will require the LDD to disclose the name of the issuer of the new products. It is often a term of bank regulatory capital instruments that the issuer of the equity securities on conversion may be substituted for a non-specified non-operating holding company ("NOHC"). This allows for the parent entity to restructure its business and is an important contractual right to have where the convertible instrument may have a longer term or be perpetual. However, it is important that, if a NOHC is substituted for the initial issuer of the equity securities, the issue of the equity securities in the NOHC on conversion does not result in a new regulated offer that would require new disclosure. The Securities Act (Banks' Regulatory Capital) Exemption Notice 2014 specifically allowed for the equity securities issued on conversion to be issued by a NOHC and the same outcome should be provided for under the LDD regime. The warning statement in subclause (3) states that the convertible instruments may convert if the issuer "experiences financial difficulty". The comparable statement set out in the Securities Act (Banks' Regulatory Capital) Exemption Notice 2014 states that the convertible instruments may convert if the issuer "experiences severe financial difficulty". We are not aware of any changes to the requirements for regulatory capital since that Exemption Notice was issued in March 2014 which would require this change to the warning statement. In addition, the warning statement does not contemplate the trigger events for conversion relating to both the New Zealand bank and the parent entity. Accordingly, the language in the warning statement should be amended as follows: Warning These [name of debt securities] carry similar risks to shares but do not have the same opportunity for growth as shares. If [names of issuers] experience[s] severe financial difficulty, [name of debt securities] can be converted into, or exchanged for, [name of new products], which may be worth less than your investment [or even written off completely]. This means you could lose all of your investment. As discussed above in relation to new clause 5(3) of Schedule 9 referred to above, the prescribed statement in this subclause simply refers to "financial difficulty", not "severe financial difficulty" and does not contemplate the trigger events for conversion relating to both the New Zealand bank and the parent entity. In addition, the last sentence of this statement will not be correct where the convertibles are being issued to qualify as "Additional Tier 1" capital. In
Sch 9, new cl 24(6) Sch 9, new cl 30(4)(b) that case, the convertibles are required to be perpetual and interest payments must be discretionary. Accordingly, the language in the warning statement should be amended as follows: If [names of issuers] experience[s] severe financial difficulty, the [name of debt securities] may be converted to, or exchanged for, [name of new products] or written off. You will not have any choice as to whether a conversion or write off occurs, and you may not have a chance to sell your [name of debt securities] before the conversion or write off. The value of the [new products] that you receive if this occurs is likely to be less than the amount you invest in the [name of debt securities]. If conversion or exchange is required but is not possible, the [name of debt securities] will be immediately written off in part or in whole and you will lose some or all of your investment. [Interest may not always be paid on [name of debt securities] and missed payments will not accumulate.]* * Delete if not consistent with the terms of the convertibles. In addition, clause 13 should allow the LDD to include a brief summary of the risks regarding loss absorbency of regulatory capital instruments, including conversion, write-off and risks relating to the issuer of the equity security. Convertibles that have been issued recently by New Zealand banks for regulatory capital purposes convert into equity securities issued by the bank's parent company. In those cases, the primary quotation of those equity securities has been on the ASX. The ASX is not a "licensed market" for the purposes of the Act, so accordingly, the new products will not be "quoted" for the purposes of proposed clause 24(6). This issue has been addressed in proposed new clause 10(5) of Schedule 9 to the. The same approach should be taken in relation to proposed clause 24(6) and 24(6) should be amended as follows: " In the case of convertibles, the following apply: (a) if the new products are of the same class as financial products that are quoted on a market licensed in New Zealand or on another established market at the time of the offer, the LDD must include a statement that those products are already quoted: (b) if the new products are equity securities that are not quoted on a market licensed in New Zealand or on another established market at the time of the offer, the LDD must include a description of the key features of the equity securities (to the extent that those features are not already disclosed in section 3 of the LDD (terms of the offer) and are not features that apply to ordinary shares in a company generally). Subclause (4)(b)(i) should be amended as follows to reflect the fact that the investor does not pay for the equity securities as such: "... the investor is able to sell his or her equity securities at a higher price than the investor paid for them the [name of convertible]"
DIMS - schedule 21 Subclause (4)(b)(iii) should be amended as follows to make it clear that this paragraph is referring to the issuer of the equity securities: "if the issuer of the equity securities runs into financial difficulties..." Reg 40 Sch 21: cl 27 Sch 21: cl 37 Exposure draft Reference Reg 4 Reg 3 Reg 5 Reg 11 Exposure draft Reference Reg 4 Reg 13 Reg 4 Reg 14 FA Custodians Regulation FA Exemption Regulation Section two: feedback on the alternative PDS concept Question Do you think the alternative structure would be useful or beneficial to fund providers? What benefits (if any) does it have over the
usual managed fund PDS structure? In what circumstances would you envisage the alternative structure being used? How likely are you to use the alternative structure? Are there any improvements you would suggest to its design? Section three: feedback on policy issues Question Should there be ongoing disclosure requirements for: unquoted mandatory convertible products? other delisted issuers? We agree with the Ministry's conclusion in the "Supplementary Financial Markets Conduct : Commentary and request for submissions" that the minimal benefit to holders of requiring continuous disclosure for delisted issuers is outweighed by the cost to the issuer of complying with those obligations. Are there significant benefits in extending the same class exclusion in Schedule 1 to cover options by way of issue? Or would this result in less useful information being available to investors? Are there significant benefits to unlisted issuers in removing elements of the PDS disclosure for offers to existing product holders? Should the requirement to include all other material information on the register entry be removed to the extent that the information has already been disclosed in annual reports and other such documents? Are there practical problems with using the
usual PDS disclosure for options by way of issue that the s should address? Other Comments