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The Burdens of No-Contest Settlements

Updated: Mar 31, 2018

First published in The Globe and Mail -

By Anita Anand, Andrew Green and Matthew Alexander.

The Ontario Securities Commission’s recent no-contest settlements (NCS) with RBC Dominion Securities Inc. and Manulife Securities Inc. are the most recent in a string of settlements reached with Canada’s major financial institutions regarding overcharging clients. All in all, nine NCS have been finalized with financial institutions under which approximately $354 million in aggregate will be paid to investors.

Many people will praise these settlements for returning money to investors. Even the corporations penalized under an NCS may feel like winners because they do not need to admit guilt or other forms of culpability. For financial institutions and individuals who wish to avoid taking the reputational hit that often accompanies an OSC prosecution, the ability to settle a matter quietly and without admitting fault makes NCS an attractive option. However, NCS raise important questions of process and law which suggest that their use may not be in the public interest.

The OSC started using NCS in 2014 around the same time as the U.S. Securities and Exchange Commission reduced its use of them. Since that time, the OSC arguably has concluded enforcement actions more efficiently. However, efficiency is not synonymous with efficacy. When examining NCS, it is crucially important to examine if they further pertinent goals of enforcement such as deterrence.

OSC staff may recommend that an enforcement matter be resolved via a NCS after considering a number of factors such as: the extent of the respondent’s cooperation during the investigation; the degree and timeliness of self-reporting; remedial steps taken by the respondent such as providing compensation to investors; and any disgorging of the amounts obtained. Eligibility for NCS will not be prohibited if the respondent has previously been subject to enforcement activity.

OSC staff and respondents may then negotiate and agree upon facts and sanctions in an NCS. Respondents do not make formal admissions with respect to alleged misconduct. A panel of OSC commissioners must ultimately adjudicate on whether the NCS is in the public interest prior to approving the NCS.

This process appears to be distinct from determining the appropriate investor compensation made pursuant to the NCS. In the case of the recent NCS with financial institutions, figures relating to compensation appear to have been tabled by the banks in a “compensation plan” for the OSC to approve. The implication is that the OSC itself does not determine the ideal amount to which investors are entitled but rather relies on the financial institution’s calculation. Does this process ensure that investors are fully and justly compensated? Without more information, we cannot be sure that the amount paid out is less than the amount that was overcharged.

The bottom line is that it is not clear that the recent NCS involving financial institutions are in the public interest. Why not? First, to the extent that NCS reflect agreed upon facts, fewer charges and no admission of guilt, other regulated parties and the general public may not know the basis for the sanction, thus lessening general deterrence.

The press sometimes states that the banks’ clients were “mistakenly charged” and these mistakes were uncovered by “routine compliance reviews.” But “routine compliance reviews” seems to be an inaccurate term. For example, NCS have been used to address the overcharging of fees. These charges occurred over timespans ranging from two to fourteen years depending on the product, with each major bank having at least one issue that spanned eight years or more. A truly routine compliance review should have picked up the issue earlier.

After the NCS with TD Waterhouse Private Investment Counsel Inc. and related entities became public at the end of 2014, six other major financial institutions reached NCS based on near identical issues and proposed compensation plans. The odds that each of these institutions independently undertook “routine compliance reviews” and detected the same issues in the same short timespan seem low.

Second, and relatedly, NCS raise concerns about the law’s development. They are negotiated and discussed in camera and may result in fewer precedents for investors to use as a basis for future actions or for regulated parties to rely on in protecting themselves. Because of this black-box process, certain types of misconduct may never come to light, remaining obfuscated in an NCS agreement.

A regulator may wish to maximize the total sanctions imposed in any given year – perhaps because it thinks that doing so best protects investors, maintains the efficiency of capital markets and enhances confidence in capital markets. But the consequence of allowing the financial institutions to proceed by way of NCS has been that the public at large remains in the dark about the wrong that was committed.

Third, this lack of transparency can allow perverse incentives to creep through. Our country’s major financial institutions may now believe that if they engage in egregious misconduct, perhaps conduct that violates the law, all that needs to be done is to pay their own version of appropriate compensation to their customers and a voluntary fine to the OSC. They can rest assured that the market will lack a factual detailed account of events and that they will not suffer a major reputational blow as no reports of a hearing will be dragged through the daily news cycle.

There may be a legitimate role for NCS in Ontario securities law but issues regarding the process and relevant law raise serious concerns.

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First published in The Globe and Mail - Since 1995, Ontario’s Securities Act has contained

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