Securities Law & Instruments


Headnote

National Policy 11-203 Process for Exemptive Relief Applications in Multiple Jurisdictions – Relief granted to certain investment funds to invest in and hold securities of blocker entities subject to conditions – relief required to permit the funds to use the blockers to indirectly invest in certain issuers in a tax-efficient manner and to avoid certain ownership restrictions.

Applicable Legislative Provisions

National Instrument 31-103 Registration Requirements, Exemptions and Ongoing Registrant Obligations, ss. 13.5(2)(a), 15.1.
Securities Act (Ontario), R.S.O. 1990, c. S.5, ss. 111(2)(b), 111(4), 113.

January 18, 2019

IN THE MATTER OF
THE SECURITIES LEGISLATION OF
ONTARIO
(the Jurisdiction)

AND

IN THE MATTER OF
THE PROCESS FOR EXEMPTIVE RELIEF APPLICATIONS
IN MULTIPLE JURISDICTIONS

AND

IN THE MATTER OF
BRIDGEPORT ASSET MANAGEMENT INC.
(the Filer)

AND

BRIDGEPORT CANADIAN EQUITY FUND,
BRIDGEPORT U.S. EQUITY FUND,
BRIDGEPORT SMALL AND MID CAP EQUITY FUND,
BRIDGEPORT HIGH INCOME FUND,
BRIDGEPORT CANADIAN EQUITY LP,
BRIDGEPORT U.S. EQUITY LP,
BRIDGEPORT SMALL AND MID CAP EQUITY LP,
BALMORAL WOOD COMMERCIAL ADVOCATE PARALLEL FUND I LP,
BALMORAL WOOD COMMERCIAL ADVOCATE FUND I LP,
BALMORAL WOOD COMMERCIAL ADVOCATE INTERNATIONAL FUND I LP,
BRIDGEPORT STRATEGIC INCOME LP,
BRIDEPORT ALTERNATIVE INCOME LIMITED PARTNERSHIP AND
BRIDGEPORT ALTERNATIVE INCOME FUND
(the Initial Funds)

DECISION


Background

The principal regulator in the Jurisdiction has received an application from the Filer for a decision under the securities legislation of the Jurisdiction of the principal regulator (the Legislation) for a decision:

(a)           exempting each Fund from the restriction in the Legislation which prohibits an investment fund from knowingly making an investment in a person or company in which the investment fund, alone or together with one or more related investment funds, is a substantial security holder and the restriction in the Legislation which prohibits an investment fund, its management company or its distribution company, from knowingly holding such an investment (the Substantial Security Holder Relief); and

(b)           pursuant to section 15.1 of National Instrument 31-103 Registration Requirements, Exemptions and Ongoing Registrant Obligations (NI 31-103) exempting the Filer from paragraph 13.5(2)(a) of NI 31-103 (the Consent Relief),

in each case to permit each Fund to purchase and hold securities of Blockers (as defined below) (together, the Requested Relief).

Under the Process for Exemptive Relief Applications in Multiple Jurisdictions:

(a)           the Ontario Securities Commission is the principal regulator for the application; and

(b)           the Filer has provided notice that subsection 4.7(1) of Multilateral Instrument 11-102 Passport System (MI 11-102) is intended to be relied upon:

(i)            in respect of the Substantial Security Holder Relief, by each Fund in each other Applicable Jurisdiction (as defined below);

(ii)           in respect of the Consent Relief, by the Filer in British Columbia.

Interpretation

Terms defined in MI 11-102, National Instrument 14-101 Definitions and NI 81-102 have the same meaning if used in this decision, unless otherwise defined. The following additional terms shall have the following meanings:

“Applicable Jurisdiction” means Ontario, British Columbia and Alberta.

“Funds” means the Initial Funds and the Future Funds.

“Future Fund” means a future investment fund that is not a reporting issuer under the securities legislation of any jurisdiction of Canada and for which the Filer is the manager.

“NI 81-102” means National Instrument 81-102 Investment Funds.

“OSA” means the Securities Act (Ontario).

The representations by the Filer respecting each Future Fund are made as of the date such Future Fund relies upon the Requested Relief.

Representations

This decision is based on the following facts represented by the Filer:

Filer

1.             The Filer is a corporation incorporated under the laws of the Province of Ontario with its head office located in Toronto, Ontario.

2.             The Filer is registered in the categories of investment fund manager, portfolio manager and exempt market dealer in Ontario, British Columbia and Quebec, and in the category of portfolio manager in Manitoba.

3.             The Filer is not a reporting issuer in any jurisdiction of Canada.

4.             The Filer is the manager and portfolio manager of each Fund.

Funds

5.             Each Fund is either:

(a)           a trust formed under the laws of Ontario, British Columbia or another jurisdiction of Canada; or

(b)           a limited partnership formed under the laws of Ontario, British Columbia or another jurisdiction of Canada.

6.             Each Fund is an “investment fund” (as such term is defined under the OSA). Each Initial Fund is not, and each Future Fund will not be, a reporting issuer under the securities legislation of any Applicable Jurisdiction. Each Fund is not subject to the requirements of NI 81-102.

7.             The Filer and each Fund is not in default of securities legislation in any Applicable Jurisdiction.

Blockers

8.             To ensure compliance with foreign tax filing obligations and/or ownership restrictions on certain of a Fund’s investments and minimize withholding tax issues, the Filer may interpose an entity (a Blocker) between a Fund and any issuer in which it owns securities (an Issuer).

9.             Each Blocker will be either (i) a corporation, partnership or trust established under the laws of a jurisdiction of Canada, (ii) a company, such as a société à responsabilité limitée (“SARL”), or partnership established under the laws of Luxembourg, (iii) a corporation, limited liability company or partnership established under the laws of a jurisdiction of the United States, (iv) a limited liability company established under the laws of the Netherlands, or (v) a company or partnership established under the laws of the Cayman Islands.

10.          Each Blocker will be formed by the Filer or an affiliate of the Filer and its securities will be held by one or more Funds.

11.          In Canada, securities of the Blockers will be issued pursuant to prospectus exemptions in accordance with National Instrument 45-106 Prospectus Exemptions.

12.          A Fund may transfer an existing interest in an Issuer to a Blocker in exchange for securities of the Blocker. In addition, a Fund may purchase securities of a Blocker for cash or provide a loan to a Blocker, and the Blocker would use that cash to invest in an Issuer. To the extent the Fund(s) transfers an existing interest in an Issuer to a Blocker, the respective Fund(s) will retain the identical beneficial interest in the Issuer.

13.          Each Blocker will restrict its activities to owning and holding securities of one Issuer. For greater certainty, different Blockers will hold securities of different Issuers.

14.          All of the outstanding securities of each Blocker will be owned by one or more Funds which are seeking to make an investment in the Issuer held by the Blocker.

15.          The assets of each Blocker will consist of securities of an Issuer, cash and cash equivalents. The liabilities of each Blocker will consist of any amounts owing for accounting, legal and tax services provided to the Blocker.

16.          The Filer is not aware of any additional risk of insolvency to the Funds that would arise as a result of implementing the Blocker structure.

17.          Each Blocker will exist solely to achieve the objectives of the applicable Fund(s) which are invested in such Blocker.

Fund-Blocker Structure

18.          This type of structuring is fairly common to protect investors from recognizing negative tax consequences of holding the underlying investments directly which is why such entities are often described as “blockers”.

19.          The tax purposes and benefits of the Fund-Blocker structure will vary depending on the particular investment being made.

20.          In the case of Issuers that are U.S. issuers:

(a)           a Blocker can block potential U.S.-source effectively connected income at the Blocker level which results in only the Blocker having to make any required U.S. tax filings with respect to such income (ie. the Blocker and not the owners of the Blocker are subject to U.S. tax); and

(b)           the Fund-Blocker structure may prevent attribution of a U.S. trade or business up the chain to the Fund and potentially the investors in the Fund, which may otherwise result in investors in the Fund being subject to U.S. tax filing obligations.

Therefore, the Fund-Blocker structure can eliminate both the risk of filing a U.S. tax return and the risk that an investor in a Fund may be deemed to be engaged in a U.S. trade or business.

21.          A Blocker may also minimize tax filing obligations for a Fund and/or its investors in connection with Issuers in other jurisdictions.

22.          Withholding taxes payable on distributions by Issuers based in certain jurisdictions can be eliminated, minimized or deferred through use of Blocker entities in the jurisdiction of the source of the distribution.

23.          The constating documents or investment agreements for international fund Issuers typically contain restrictions on direct transfers of investments. If a Fund invests in an Issuer through a Blocker entity, this eases transfer of beneficial ownership of the investment where indirect transfer by an underlying investor (a Fund or an investor in a Fund) is not prohibited. Typically, indirect transfers behind corporate Blockers are not prohibited by international fund Issuers. Other less typical types of ownership restrictions can include (a) specific persons as partners or other investors in unincorporated Funds, or (b) tax residents of certain jurisdictions. In each case, the Fund-Blocker structure can eliminate the restriction. The Fund-Blocker structure will only be used in those jurisdictions where to do so would be consistent with applicable laws in such jurisdictions.

24.          Each Fund may invest in more than one Blocker for purposes of making underlying investments.

25.          A Blocker will only purchase securities of an Issuer which the Funds are permitted to purchase directly, under applicable securities law.

26.          No Issuer will be related to the Filer or the Funds (other than through indirect ownership by the Funds in securities of the Issuer).

27.          Though each Fund will indirectly bear additional costs resulting from use of Blockers (mainly in the form of incorporation and maintenance costs of the Blocker, as well as the costs of preparing its annual financial statements), the cost savings and/or other benefits resulting from the Fund-Blocker structure are expected to significantly exceed such additional costs.

28.          For the purpose of implementing the Fund-Blocker structure, the Filer shall ensure that:

(a)           prior to a Fund entering into a transaction with a Blocker, the Filer’s Investment Committee will review the pricing terms to ensure that the transaction will be conducted at fair market value;

(b)           the arrangements between or in respect of each Fund and a Blocker will not result in any duplication of management fees or incentive fees;

(c)           the offering document (if applicable) of each Fund will describe the Fund’s intent, or ability, to invest in securities of one or more Blockers; and

(d)           the investments by the Funds in a Blocker represents the business judgement of responsible persons uninfluenced by considerations other than the best interests of the Funds.

29.          Each Fund, either individually or together with other Funds, may own more than 20% of the voting securities of a Blocker through which it makes an investment in an underlying Issuer and therefore will be a “substantial security holder” (as that term is defined in the OSA) of the Blocker. Accordingly, absent the Substantial Security Holder Relief, each Fund that is a mutual fund will be prohibited by paragraph 111(2)(b) and subsection 111(4) of the OSA and the equivalent securities legislation in the other Applicable Jurisdictions, from making and holding, respectively, investments in Blockers.

30.          The directors and officers of each Blocker will be comprised solely of individuals who are directors, officers, employees and/or agents of the Filer and/or an affiliate of the Filer. Some or all of such individuals are expected to be a “responsible person” of the Funds as defined in section 13.5(1) of NI 31-103. Accordingly, absent the Consent Relief, each investment by a Fund using a Blocker will contravene paragraph 13.5(2)(a) of NI 31-103.

31.          In the absence of this Decision, pursuant to the Legislation, the Funds would be precluded from implementing the Fund-Blocker structure.

32.          The Fund-Blocker structure represents the business judgement of responsible persons uninfluenced by considerations other than the best interests of each Fund.

Decision

The principal regulator is satisfied that the decision meets the test set out in the Legislation for the principal regulator to make the decision.

The decision of the principal regulator under the Legislation is that the Requested Relief is granted provided that:

(a)           securities of the Funds are distributed in Canada solely pursuant to exemptions from the prospectus requirements in accordance with National Instrument 45-106 Prospectus Exemptions;

(b)           prior to the Funds entering into a transaction with a Blocker, the Filer’s Investment Committee will review the pricing terms to ensure that the transaction will be conducted at fair market value;

(c)           each Issuer is arm’s length from the Filer and the Funds;

(d)           prior to a Fund entering into a transaction with a Blocker, the Filer will make reasonable efforts to ensure that the proposed transaction:

(i)            is entered into free of influence by an entity related to the Filer and without taking into account any consideration relevant to an entity related to the Filer;

(ii)           is uninfluenced by considerations other than the best interests of the Fund;

(iii)           is in compliance with the written policies and procedures of the Filer; and

(iv)          achieves a fair and reasonable result for the Fund;

(e)           the Fund-Blocker structure is compatible with the fundamental investments objectives of each Fund;

(f)            the arrangements between or in respect of each Fund and a Blocker will not result in any duplication of management fees or incentive fees;

(g)           for each Fund that is a mutual fund, the product of:

(i)            the number of voting securities of the Issuer held by the Blocker; and

(ii)           the percentage of outstanding shares of the Blocker owned by the Fund and related mutual funds,

does not exceed 20% of the votes attached to all of the outstanding voting securities of the Issuer;

(h)           the number of voting securities of an Issuer held by all Blockers invested in that Issuer will together not exceed 20% of the votes attached to all of the outstanding voting securities of the Issuer; and

(i)            all new investors in the Funds will consent generally to the Fund-Blocker structure through the investment management agreement or subscription agreement or other document.

As to the Consent Relief:

“Neeti Varma”
Manager (Acting)
Investment Funds and Structured Products
Ontario Securities Commission


As to the Substantial Security Holder Relief:

“Lawrence P. Haber”
Commissioner
Ontario Securities Commission

“Janet Leiper”
Commissioner
Ontario Securities Commission