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Report on Business Cannabis Professional B.C. securities regulator joins with Ontario to increase scrutiny of the CSE

The Canadian Securities Exchange, home to dozens of small-cap and U.S.-focused cannabis companies, will soon be under increased scrutiny from securities regulators. The British Columbia Securities Commission announced on Friday that it will start overseeing the junior exchange alongside the Ontario Securities Commission – the current regulator.

“The CSE has grown in the past few years, driven largely by cannabis listings, and now has about 500 companies trading shares on its platform. With the legalization of cannabis in Canada and in some U.S. states, CSE market capitalization has risen dramatically in the last two years,” the BCSC said in a news release.

The CSE has become a popular place to take early stage cannabis companies public through the reverse takeover of shell companies – often dormant mining or energy firms – listed on the exchange. RTOs provide a quick route to market, but entail fewer disclosure requirements than prospectus-based Initial Public Offerings.

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The exchange has also become the go-to spot for U.S.-based and U.S.-focused marijuana firms. That’s because cannabis remains illegal at a federal level in the United States, and mainstream exchanges, such as the Toronto Stock Exchange or the New York Stock Exchange, don’t let listed companies participate in federally illegal activities.

The emergence of young, untested cannabis companies on exchanges such as the CSE has created a challenge for Canadian securities regulators. Despite success raising funds, many firms have been slow to adapt to the increased disclosure and corporate governance requirements that come with being publicly traded.

In October, the Canadian Securities Administrators put out a staff review notice indicating widespread problems:

  • “Licensed cannabis producers (LPs) often did not provide sufficient information in their financial statements and management’s discussion and analysis (MD&A) for an investor to understand their financial performance.”
  • “International Financial Reporting Standards (IFRS) require issuers to record growing cannabis plants at their fair value. 100% of the LPs we reviewed needed to improve their fair value and fair value related disclosures.”
  • “74% of issuers with cannabis operations in the U.S. did not provide sufficient disclosure about the risks related to their U.S. operations to satisfy the disclosure expectations.”

The review did note that, “where deficient disclosure was identified during our review, issuers either committed to prospective improvements or, when the deficiencies were pervasive, refiled certain documents.”

Insufficient disclosure has not prevented cannabis companies from aggressively promoting their stock.

Promotional activity is to be expected in any industry full of start-ups vying for retail investor dollars. But promotion in the cannabis space has been particularly flagrant and widespread, with companies paying tens or hundreds of thousands of dollars to “investor relations” firms that orchestrate favourable coverage – via blog posts, e-mail campaigns, web videos and social media – often aimed at unsophisticated retail investors.

The BCSC did not go into detail about their mandate with the CSE, but did point to their experience regulating junior mining, a sector notorious for promotional activity.

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“The B.C. Securities Commission brings extensive knowledge and experience to the public venture markets by virtue of its long history regulating the junior mining sector and overseeing the TSX Venture Exchange with the Alberta Securities Commission,” Brenda Leong, the BCSC’s chair and chief executive officer, said in the news release. “We believe we can add significant value to supporting venture financing on CSE and managing issues unique to early-stage companies.”

“We will continue to work closely with our colleagues from the British Columbia Securities Commission to enhance our collective investor protection efforts and access to capital for B.C.-based entrepreneurs,” CSE chief executive Richard Carleton said in the news release.

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