The Ontario Securities Commission (“OSC”) published for comment a proposed framework (the “Proposal”) to facilitate retail investment in illiquid Long-Term Assets (as defined below) through a new type of prospectus-qualified investment fund. The “Ontario Long-Term Fund” (“OLTF”) would be similar to the European Long-Term Investment Fund (ELTIF) and the UK Long-Term Asset Fund (LTAF). OLTFs would invest in Long-Term Assets through collective investment vehicles (“CIVs”) with at least one institutional, Cornerstone Investor (as defined below) that holds at least 10% of the CIV’s equity. While the OSC proposed no rule amendments or policy changes at this time, stakeholder feedback is being sought to identify key success factors and areas of concern. Comments are due by February 7, 2025.
Background
For the purposes of the Proposal, “Long-Term Assets” are “illiquid assets” as defined under National Instrument 81-102 Investment Funds (“NI 81-102”) and are assets that cannot be readily disposed of, may be difficult to value and generally have a longer investment horizon than more liquid assets. Long-Term Assets may include venture capital, private equity or debt, mortgages, real estate, infrastructure and natural resource projects. Under the Proposal, the definition of “Long-Term Assets” would be broad and inclusive so as to facilitate the greatest opportunities for retail investment in a range of assets.
The OSC notes that while Long-Term Assets may offer significant investment upside, these investments require careful consideration of market access, information asymmetry, an investor’s financial goals and investment horizon, as well as the overall risks of holding an investment. The OSC also notes that retail access to Long-Term Assets is limited for a variety of reasons, including: that retail investors may be unwilling or unable to invest in public companies that own Long-Term Assets; that privately funded Long-Term Assets may be unavailable to retail investors; and the growing propensities for private financing and for issuers to remain private for longer.
The Proposal
The OSC suggests that retail investors might benefit from additional opportunities to invest in Long-Term Assets through investment fund product structures whose regulatory framework is more tailored to their needs. Increasing the allocation of capital to Long-Term Assets might also benefit the owners and managers of such assets, as greater capital inflows could help to reduce funding costs. The OSC indicates that the Ontario government is considering innovative ways to finance transportation, housing, energy and municipal services, including through institutional investment, and that the Proposal contemplates an ecosystem that could support such projects.
Ontario Long-Term Fund
To address the fact that an OLTF would fall within the definition of a “mutual fund” or a “non-redeemable investment fund”, the OSC proposes a unique regulatory framework to modify many of the requirements that are otherwise applicable to investment funds, and which seeks to balance flexibility with investor protection. As proposed, the characteristics of an OLTF would include:
- Prospectus-qualified offerings: OLTFs would become reporting issuers in Ontario through a prospectus-qualified offering;
- No listing: Available only to Ontario investors, OLTFs would not have any securities listed and traded on a marketplace in Canada;
- Control restrictions: The primary purpose of an OLTF would be to invest money provided by its securityholders. Like other categories of investment funds, OLTFs would not invest for the purpose of exercising control or being actively involved in the management of any issuer in which they invest;
- Protections to address Long-Term Asset risks: While OLTFs would not be subject to the illiquid asset restrictions applicable to other investment funds, they would need to address inherent risks associated with Long-Term Assets, such as liquidity, volatility, concentration, duration and informational asymmetries, by incorporating robust requirements and protections. As discussed below, OLTFs would also be required to hold a minimum and a maximum percentage of Long-Term Assets;
- Fixed-term or evergreen funds: An OLTF could be a fixed-term or an evergreen fund, provided that liquidity risks arising from redemption and funding mismatches are disclosed and managed effectively. The Proposal suggests that fixed-term OLTFs may be appropriate for funding infrastructure or other development projects with expected completion dates and that evergreen OLTFs may be appropriate for investing in rolling pools of private equity or debt or real estate or for holding operational and commercialized infrastructure assets;
- CIV requirement: OLTFs would be required to invest in Long-Term Assets through the securities of underlying CIVs. CIVs would be issuers with the objective of investing in Long-Term Assets and would be required to have an investor like a pension fund or other institutional investors (each, a “Cornerstone Investor”). OLTFs would therefore invest alongside other sophisticated long-term investors, and the right to exit investments in CIVs by Cornerstone Investors would be proportional to the exit rights of OLTFs;
- Involvement of IFMs and PMs: Like other investment funds, OLTFs would be managed by an investment fund manager (“IFM”), with portfolio assets selected and monitored by a portfolio manager (“PM”); and
- Potential for fund-on-fund structures: The OSC posits that there may be scope to incorporate OLTFs into fund-on-fund structures; however, this would require amendments to the investment restrictions in Part 2 of NI 81-102 and the participation of the Canadian Securities Administrators.
Threshold issues
The OSC has provided its current views on the following threshold issues and is seeking feedback on how these (and any other threshold issues identified) should be addressed:
- Redemptions: The OSC believes that redemption restrictions should be permitted to the extent necessary for OLTFs to manage their liquidity and reporting needs given the characteristics of the Long-Term Assets held. While redemptions should be no more frequent than monthly and no less frequent than annually, the OSC would permit OLTFs to choose a redemption frequency within a specified range. The Proposal also considers parameters for redemption discounts, caps, notice and payment requirements and suspensions;
- Valuation: The OSC recognizes that OLTFs may find it difficult to calculate net asset value (“NAV”) on a continuous basis, as the fair value of an OLTF’s portfolio assets may not be based on reported prices and quotations in active markets. The OSC is, however, of the view that an experienced IFM should have the ability or resources to calculate a fair and reasonable price for individual Long-Term Assets. OLTFs would also be required to obtain an independent valuation at least annually. The OSC states that the requirements for experienced IFMs, Cornerstone Investors and independent valuations would mitigate the challenges associated with the calculation of NAV and bolster confidence in the valuation of portfolio assets;
- Monitoring, review and governance: The OSC indicates that, in addition to the requirements applicable to other investment funds, further monitoring, review and governance requirements may assure investors that the atypical risks and challenges associated with Long-Term Assets are appropriately managed. Among other things, the OSC may prescribe: (i) that OLTFs be structured as corporations with an independent board of directors (but the OSC has not ruled out other structures, such as trusts, that would have an independent review committee (“IRC”)); (ii) the responsibilities of such boards (or IRCs); (iii) certain disclosure relating to portfolio management, valuation and the experience of IFMs and PMs; and (iv) independent valuations, referred to above;
- Disclosure: The OSC proposes a new prospectus form for OLTFs. Such form could be based on Form 41-101F2 Information Required in an Investment Fund Prospectus and would mandate certain disclosure of the features and risks unique to each OLTF. The OSC will also consider other OLTF-specific disclosure documents (e.g., a Fund Facts document and a Management Report of Fund Performance). An OLTF would be required to include “Ontario Long-Term Fund” in its name, and only those funds that comply with all of the OLTF requirements would be permitted to identify themselves in this manner;
- Investment restrictions: The OSC notes that for OLTFs to invest in Long-Term Assets, the investment restrictions in Part 2 of NI 81-102 would need to be amended. Proposed investment restrictions for OLTFs include the following:
- Long-Term Assets: 50% to 90% of NAV must be invested in Long-Term Assets (or other limits consistent with redemption policies and anticipated redemptions);
- CIV limit: not more than 10% equity ownership of any one CIV;
- Asset concentration limits:
- Fixed-term OLTF: not more than 10% of NAV invested in any one asset;
- Evergreen OLTF: not more than 20% of NAV invested in any one asset;
- Debt: limited to 10% of NAV at the time of borrowing (subject to consideration of an exception for temporary liquidity management);
- Transactions in specified derivatives for non-hedging purposes, securities lending transactions and purchase or repurchase transactions: prohibited;
- Transactions in specified derivatives for hedging purposes: permitted; and
- Distribution of OLTF securities: OLTF securities would be distributed by registered investment dealers, portfolio managers and/or mutual fund dealers that distribute alternative mutual funds, where an OLTF is a mutual fund. The OSC is considering either prohibiting distribution through order-execution-only (“OEO”) dealers or, potentially, introducing a self-assessment questionnaire and other disclosure requirements to support investors, given the unique features of OLTFs and that know-your-client, know-your-product and suitability requirements would not apply to purchases made through the OEO channel.
What’s Next?
Stakeholders are invited to comment on OSC Consultation Paper 81-737 Opportunity to Improve Retail Investor Access to Long-Term Assets through Investment Fund Product Structures until February 7, 2025. This input will be considered in the next phase of the Proposal, which is expected to include the publication for comment of proposed rule amendments and policy changes.
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