Canada has seen some recent success in having its venture-backed companies progress through IPO, and total venture capital invested in Canadian companies has doubled over the past 5 years. As U.S.-based investors look across the border for investment opportunities involving Canadian technology companies, they should be aware of some key differences between U.S. and Canadian laws that impact the way deals are structured in Canada. Here is a quick summary of some of the important items to consider:
- Canadian securities laws are set at the provincial, as opposed to the federal, level. Canada is working towards a national securities law framework, but for now Canadian companies have to consider the laws of their particular province. From a practical point of view, this is much less likely to impact private companies than companies entering the public markets.
- Canadian corporate law allows a company to have unlimited authorized capital, and most Canadian companies take advantage of this opportunity. Obviously, this raises dilution concerns which are usually addressed by including protective provisions in a company’s charter documents or an investor rights type agreement which imposes a predetermined level of shareholder approval before additional shares may be issued.
- Canadian companies can issue preferred shares in series, as seen in the US. However, in Canada, no series of shares can have a priority over any other series within the same class of shares with respect to dividends or return of capital. Consequently, Canadian companies will typically issue multiple classes of preferred shares, rather than multiple series within a single class of shares, in order to allow for differing liquidation preferences among different investment rounds.
- Investors should review any possible conflicts between Canadian statutory voting rights, which provide for separate class voting rights in connection with certain extraordinary corporate events, and negotiated approval rights. Similarly, Canadian law is not as flexible as, for example, Delaware law in the area of shareholder consents. In Canada, shareholder consent must be obtained either at a duly called shareholder meeting or by way of a unanimous written consent (although this does not apply as to matters that require shareholder consent as a result of contractual approval rights). Considering that at some point a unanimous written consent of shareholders may be a logistical nightmare, voting trusts are sometime used, or powers of attorney are granted by investors.
- Unanimous shareholder agreements are an interesting creature of Canadian law. This is an agreement among all of the shareholders of a company that, although a contract, is considered as one of the company’s organizational documents, alongside the company’s articles and bylaws. As such, they are considered binding on all future shareholders, even if they do not sign the agreement. Also, they allow shareholders to impose limits on the authority of the company’s directors to manage the business of the company, so that the shareholders may bypass the board and manage the company directly. These agreements are widely used by Canadian private companies, and frequently also cover, in a single document, many of the governance, voting and shareholder rights that U.S.-based transactions may address in multiple agreements, such as investor rights, voting and registration rights agreements.
- Board nomination rights are also typically found in a unanimous shareholder agreement as opposed to the articles of incorporation. In this regard, it is important to note that some Canadian companies, depending upon their province of organization, may require that at least 25 percent of the company’s directors be Canadian residents, and that, in order for a valid meeting of the directors of the company to be held, at least 25 percent of the directors present must be Canadian residents. U.S.-based investors who wish to ensure that they can place non-Canadian residents on the board of directors should negotiate for these rights in the context of the composition of the non-Canadian members of the board.
Certainly this is not an exhaustive list of issues to be considered in a cross-border investment transaction. However, it is important for U.S. investors to understand and be prepared to address these significant differences between U.S. and Canadian deal structure when developing and implementing investment strategies.