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Proposed exemption for financial institutions offering debt securities to the public [2000] NZSecCom 8 (1 October 2000)

Last Updated: 5 November 2014

Proposed Exemption for Financial Institutions
Offering Debt Securities to the Public

Request for comment on proposed exemptions

October 2000

Introduction

1. The Securities Commission seeks comment on exemptions it proposes to grant relating to offers of debt securities to the public made by "financial institutions".
2. The Financial Services Federation Inc., the industry body representing a range of non-bank financial institutions, has requested a range of exemptions as a result of the promulgation of Financial Reporting Standard 33 "Disclosure of Information by Financial Institutions" by the Institute of Chartered Accountants of New Zealand.
3. The Federation's objective was to achieve improved harmonisation between the financial reporting requirements of the Second Schedule to the Securities Regulations 1983 (which prescribe the contents of a debt security prospectus) and generally accepted accounting practice. This in turn should:
   1. reduce regulatory compliance costs for its members; and
   2. avoid possible confusion that may arise from having financial information about a particular entity in the public arena prepared on two different bases.
4. The Commission considered the Federation's request having regard to:
   1. Our preference to harmonise the financial reporting requirements of the Securities Regulations with those of the Financial Reporting Act 1993;
   2. the particular disclosure requirements of FRS-33;
   100. current regulatory policy; and
   4. the review of the Securities Regulations which is now underway.
5. The Commission has approved in principle an exemption notice to be applicable to offers of debt securities to the public by "financial institutions". The draft Securities Act (Financial Institutions) Exemption Notice 2000 is attached to this paper.

Outline of the proposed exemptions to apply to financial information to be incorporated in prospectuses for debt securities

6. The exemption would apply to financial institutions, being entities whose principal activity is to obtain funds for lending or investing in financial assets other than equity instrument. This is in essence the definition of "financial institution" contained in FRS-33.
7. Where a financial institution has non-guaranteeing subsidiaries, but these in aggregate are not "significant" (defined as a level of 5% or less of total group assets or contribution to group operating surplus or where the investment in them is 5% or less of total group equity) in relation to the group as a whole, the financial institution would be free to use its group financial statements that comply with the Financial Reporting Act rather than its borrowing group financial statements prepared in accordance with the Second Schedule to the Securities Regulations. It would be a condition of exemption that the prospectus also contains some supplementary disclosure in the prospectus about the size and significance of the non-guaranteeing subsidiaries.
8. Any financial institution would be able to use group or parent (where there are no guaranteeing subsidiaries) financial statements that comply with the Financial Reporting Act rather than the Second Schedule, except that, for a group with guaranteeing and non-guaranteeing subsidiaries, those financial statements would be in respect of the "borrowing group" (the issuer and all the guaranteeing subsidiaries) rather than the full consolidated group.
9. The Financial Reporting Act does not permit non-consolidation of subsidiaries. As a consequence there is no applicable accounting standard that deals with accounting for non-consolidated subsidiaries. The proposed exemption notice provides that financial institutions presenting borrowing group financial statements should account for the investment in the non-guaranteeing subsidiaries in accordance with their accounting policies for investments outside the group.
10. Financial institutions would be exempted from the prohibition on the use of equity accounting in the financial statements provided there was disclosure in the prospectus of the effect of the use of equity accounting on surplus or deficit, equity, and investments.
11. The Commission is aware that under future financial reporting standards equity accounting may no longer be an approved method of accounting for investment in associated companies. In that eventuality the terms of the exemption notice, if it were still in force in its proposed form, would be reviewed.
12. Financial institutions would be exempted from the need to provide a "maturity ladder", details of the proportion of debtors more than 3 months old, and details of the aggregate exposure to the six largest debtors because the financial statements would include information about the financial institution's asset quality prepared in compliance with the requirements of FRS-33.
13. There would be consequential exemptions in relation to the requirements for summary financial information to be included in the prospectus, and in respect of the audit statement, to ensure consistency with the form of the primary financial statements.

Reasons for Exemptions

14. The Commission's reasons for approving these proposed exemptions include:
    1. To reinforce the trend to reliance on financial reporting standards rather than the Schedules to the Securities Regulations to determine the financial information to be included in offer documents for securities where relevant standards are available. It is a consequence of the promulgation of FRS-33, which, among other things, prescribes disclosure of information about asset quality and risk management that is more comprehensive than the disclosures required by the Second Schedule to the Securities Regulations.
    2. To reduce regulatory compliance costs for financial institutions without compromising the quality of financial information available to prospective investors interested in subscribing for debt securities issued by financial institutions; and
    100. To minimise possible confusion that might arise from a financial institution having financial statements publicly available prepared on different accounting bases.
15. With respect to the proposed granting of the exemption to financial institutions from the prohibition on the use of equity accounting the Commission recognises that other issuers of debt securities might consider this a precedent but noted that
    1. granting the exemption was consistent with the recent direction of securities law policy which was to use financial statements that comply with the Financial Reporting Act for Securities Act purposes where possible;
    2. the relaxation was likely to be short-term in respect of investments in associates because of expected changes in financial reporting standards.

Detail of the proposed exemption

16. In order to achieve the desired outcomes some aspects of the drafting of the proposed exemption are complex. The draft notice includes a detailed explanatory note designed to explain the purpose and effect of each clause of the notice. Readers are referred to that explanatory note.

Public Consultation

17. The proposed notice involves departures from two significant elements of the financial statement requirements for debt securities prospectuses, namely the prohibition on the use of equity accounting and, in limited circumstances, the borrowing group concept. For each departure certain supplementary information should be disclosed in the prospectus as a condition of exemption. The notice also provides for a method of valuing investments in the non-guaranteeing subsidiaries that differs from the prescription in clause 24 of the Second Schedule.
18. Before formally promulgating the exemption notice the Commission has decided to invite limited public comment on the decisions incorporated in the draft notice. We welcome your comments on the draft notice.
19. Please send your comments to:

Kerry Morrell
Senior Executive (Surveillance)
Securities Commission
P O Box 1179
WELLINGTON

You can also send in your comments by facsimile to 04 472 8076 or by email to kerry.morrell@seccom.govt.nz .

Comments should reach us by 9.00a.m. Tuesday 24 October 2000.