The Scope of Securities Commission’s Public Interest Jurisdiction: What Constitutes Abuse of the Capital Markets?

In Re Hamilton2018 BCSEECOM 290, the British Columbia Securities Commission (BCSC) was called upon, yet again, to consider the scope of its public interest jurisdiction in an enforcement proceeding pursuant to s. 161 of the British Columbia Securities Act, RSBC 1996, c. 418 (the “Act”) in the absence of allegations of specific breaches of securities law.

The Allegations

Commission Staff alleged that the respondents created a publicly traded shell company for use in a securities manipulation by deceiving foreign regulators and the public. The respondents allegedly controlled the company by installing and impersonating nominee directors and officers, concealed control by one of the respondents over all of the company’s shares by pretending to have independent shareholders, made false filings with US securities regulators to secure the company’s registration and public quotation of its shares on the OTC Bulletin Board (“OTCBB”), and sold secret control over all the shares in the publicly trading company.

Staff argued that the respondents’ conduct as a whole “did not squarely engage a specific provision of the Act” and was abusive, and therefore warranted the imposition of enforcement sanctions in the public interest.

Challenges to the Exercise of the Commission’s Public Interest Jurisdiction

The respondents argued, among other things, that because Staff could have alleged specific contraventions of particular sections of the Act, and that the SEC had enforcement powers to deal with the specific aspects of the alleged misconduct, it was both unnecessary and inappropriate for the BCSC to exercise its public interest jurisdiction.

The Hearing Panel disagreed. The allegations related to a pattern of deceptive conduct alleged to have brought harm to the capital markets. While certain aspects of the conduct could have resulted in allegations of breach of specific sections of the Act, there were no specific prohibitions against other aspects of the conduct. The entirety of the conduct must be assessed when considering the use of the Commission’s public interest jurisdiction.

Further, the case did not raise the potential procedural unfairness concerns that had arisen in Re Carnes, 2015 BCSECCOM 187, where the notice of hearing alleged that the respondent’s conduct contravened a specific fraud section of the Act and the basis for an order in the public interest was the same. “There is potential unfairness to a respondent in circumstances in which an allegation is made under a specific provision of the Act and, in the event that the executive director is unable to prove the requirements of the statutory provision, then the [sic] use of the same conduct as the basis for public interest orders”.

The fact that the SEC had enforcement tools and the jurisdiction to use them in a manner that overlaps with the enforcement tools and jurisdiction of the BCSC was irrelevant.

The hearing panel also rejected submissions that the adoption of BC Instrument 51-109 Issuers Quoted in the US Over-the-Counter Markets (the “OTC Rule”) and related legislative changes “covered the field” with respect to the regulation of manufacturing shell companies which are subsequently quoted for trading on the OTCBB such that compliance with those provisions could have generated a reasonable expectation that if the respondents did not breach those requirements then there would be no basis for regulatory action. The OTC Rule  did not prescribe certain activity as misconduct that the Commission would be undermining by finding similar activity to be contrary to the public interest.

Threshold for the Exercise of the Public Interest Jurisdiction in Enforcement Proceedings: Abuse of the Capital Markets is Required

The Hearing Panel considered the threshold for the exercise of its public interest jurisdiction and identified the following principles that emerge from a review of the jurisprudence: (1) Panels must tie their analysis of the scope of that jurisdiction to the twin mandates of the Act: investor protection and ensuring fair and efficient capital markets; (2) any analysis should focus on the totality of a respondent’s conduct; and (3) the public interest jurisdiction must be exercised cautiously as any orders that flow from its use serve to restrain conduct that is otherwise not expressly prohibited by statute or regulation.

Observing that some decisions of Canadian securities commissions have suggested a narrow scope for the exercise of the public interest jurisdiction (requiring conduct to be clearly abusive of the capital markets) and others have adopted a broader approach (permitting it to be used where the conduct contravenes one of the “animating principles” of the applicable statute), the Hearing Panel affirmed its view expressed in the Carnes case that the abuse threshold was appropriate at least in the enforcement context.

Establishing Abuse of the Capital Markets

The Hearing Panel stated that the “abuse” threshold is high and connotes, at least “serious behaviour that is outside the ordinary course of conduct in the capital markets” and “either risk, or actual harm, to the capital markets arising from the conduct”.  Further, a useful check on a conclusion that conduct is abusive of the capital markets is whether the reasonable expectations of participants in the capital markets would be met with the exercise of the Commission’s public interest jurisdiction in the circumstances.

In this case, the Commission was satisfied that it was in relation to Hamilton. “[M]aterial public interest concerns arise as a consequence of the sustained and concerted effort…to deceive foreign regulators (and the Commission by subsequent filings of the registration statement), critical gatekeepers in the capital markets and the public” about the true ownership of the company in issue.

While the allegations against the other respondent were dismissed, the Panel found that Hamilton’s conduct was deceitful and abusive of the capital markets. Unlike the reasonable expectations of market participants about the conduct of the respondent in Carnes,  the public would not be surprised by a finding that those who conceal their control and direction of a public company and file false disclosure statements, conceal their identity from critical gatekeepers, fabricate records and file them with securities regulators and secretly sell control of a public company risk securities regulatory sanction.