Backgrounder
Federal Strategy to Deter Serious Capital Market Fraud
Maintaining investor confidence
in Canada's publicly traded companies and capital markets is a crucial element
of sustained economic growth. Investor confidence in Canada's capital markets
has suffered following corporate scandals in the United States, such as Enron
and WorldCom in 2001-2002. Strengthening enforcement and legislation - ensuring
individuals and companies that violate the public trust must face punishments
consistent with the seriousness of the violation - is an important element of
efforts to bolster confidence in Canada's capital markets.
In Canada, enforcement of laws
governing corporate and securities activities is a shared responsibility, involving
the federal government, provincial governments, and securities regulators. In
this context, the federal government works closely with the
provinces, market regulators, law enforcement and industry to ensure the integrity
of Canada's financial markets. However, in the wake of recent corporate scandals
in the U.S. and elsewhere, the federal government would like to ensure that
this work not only continues, but is significantly strengthened.
Effective efforts to deter serious
capital market fraud depend on four critical pillars, namely:
- Legal framework: A strong legal framework is required to provide
appropriate sanctions for capital market fraud activity, and the necessary
tools for investigators and prosecutors to take enforcement actions against
such activity.
- Investigations: Enforcement actions relating to capital market
fraud requires dedicated teams of highly qualified investigative personnel
possessing specialized knowledge of financial markets and securities.
- Prosecutions: Prosecutors must have the appropriate resources to
pursue cases in a timely manner. Cases potentially impacting investor confidence
require immediate and sustained attention given the possible widespread economic
impact.
- Sentencing: There must be appropriate sentencing of perpetrators
of corporate fraud and market illegality, proportionate to the crime committed.
The risk of significant legal sanctions can provide a real deterrent effect.
The federal government's proposed
coordinated strategy to strengthen enforcement and legislation against serious
capital markets fraud is based on strengthening these four pillars and enhancing
the linkages among them by:
- Expanding the resources dedicated to investigating serious cases of capital
market fraud. Integrated Market Enforcement Teams (IMETs) will be established
in the key financial centres of Canada;
- Providing additional resources to support prosecutions of capital market
fraud offences under the Criminal Code;
- Proposing legislative amendments to the Criminal Code that would
create new offences and evidence-gathering tools, toughen sentencing, and
establish concurrent jurisdiction with the provinces in the prosecution of
serious cases of capital market fraud.
INTEGRATED MARKET ENFORCEMENT TEAMS (IMETs)
The Integrated Market Enforcement
Teams initiative will strengthen the law enforcement community's ability to
detect, investigate and deter capital markets fraud by focusing resources on
the investigation and prosecution of the most serious corporate frauds and market
illegalities. By sending the message that those who commit serious capital markets
fraud offences will be brought to justice in an effective and timely fashion,
this initiative will promote compliance with the law in the corporate community,
and assure investors that Canada's markets are safe and secure.
The RCMP and federal partners will receive up to $30 million a year, over the
next five years, to create up to nine integrated enforcement teams composed
of police, lawyers and other investigative experts in Canada's four major financial
centers: Toronto, Vancouver, Montreal and Calgary. The teams will be jointly
managed by the Royal Canadian Mounted Police, Justice Canada and other partner
departments and agencies, and will work closely with securities regulators and
additional federal and provincial authorities - building on the RCMP's existing
partnerships with these organizations.
Police officers chosen for IMET
work will be highly qualified financial investigators. The RCMP will ensure
that these investigators receive additional markets-related training, are kept
abreast of the latest techniques and legal developments in their field, and
are dedicated to the teams for specified periods of time. Investigators will
receive ongoing advice from legal advisors from the Federal Prosecution Service.
Three teams, two in Toronto and one in Vancouver, will be established by March
31, 2004, with the creation of three additional teams in Toronto, Montreal and
Calgary within the following year. All teams will have a presence in the key
financial districts of these cities. The teams will incorporate a quick-start
capability, allowing them to respond swiftly to major corporate frauds and market
irregularities anywhere in Canada. Effective management and accountability mechanisms
will be a key feature of the initiative.
LEGISLATIVE AMENDMENTS
Proposed reforms to the Criminal Code to strengthen enforcement and legislation
addressing capital markets fraud respond to commitments made in the 2002 Speech
from the Throne and the 2003 Budget.
How is the law being changed?
Current fraud provisions in the Criminal Code have been used effectively
across a broad range of cases, including those involving capital markets fraud.
But by introducing new offences, evidence-gathering techniques and sentencing
provisions and by forging stronger partnerships with provincial counterparts,
the Government of Canada is going further to deter criminal activity in Canada's
capital markets.
New Offences
When employees of corporations and others use their access to privileged information
that is not available to other investors in order to benefit themselves, investor
confidence can be seriously undermined. The personal savings of individual investors
can also be severely harmed. A new Criminal Code offence would be created
to address this practice, commonly known as "insider trading," and would
carry a maximum penalty of 10 years imprisonment. While improper insider trading
is currently prohibited under provincial securities law and the Canada Business
Corporations Act, the new Criminal Code offence would be used for
cases that merit the more severe responses available through the criminal law.
Employees who inform or assist law enforcement officials in investigating cases
of capital markets fraud also need protection from employment-related intimidation.
Often these individuals play a pivotal role in exposing corporate scandals,
but can face threats - including action taken against their employment or livelihood
- designed to deter them from cooperating with the police. A new offence of
employment-related threats or retaliation would encourage insiders
to cooperate with law enforcement and punish those who retaliate against or
threaten them. This offence would carry a maximum sentence of five years imprisonment.
Tougher Sentencing
To strengthen the penalties for cases of capital markets fraud and to help ensure
that the punishment matches the seriousness of the crime, the proposed reforms
would increase the maximum sentences for existing fraud offences and establish
aggravating factors for courts to take into consideration at sentencing.
Maximum sentences would be raised from
10 years' to 14 years' imprisonment for current Criminal Code
offences of fraud and fraud affecting the public market. The maximum prison
term for fraudulent manipulation of stock exchange transactions would rise from
five to 10 years.
The proposed reforms would also include adding a list of specific aggravating
factors that would permit the court to impose harsher penalties for more
serious offences. Factors, such as the extent of economic damage caused or negative
effect on investor confidence or the stability of the market, could result in
increased penalties. Moreover, a person's reputation and status in the community
or workplace, which are traditionally used as mitigating factors to lower penalties,
would be inapplicable in cases where those who commit serious capital markets
fraud rely on these very factors to carry out their crimes.
Improved Evidence Gathering
Under the proposed reforms, production orders would be added to the Criminal
Code, allowing investigators to obtain pertinent documents or data from
third parties (those not under investigation) within a specified time period.
These orders would be similar to search warrants but more efficient during investigations
and less disruptive for the holder of the documents or data. Production orders,
which already exist in some Canadian legislation, in particular the Competition
Act, would:
- compel the custodian of
data to produce information within a specified period of time in order to
avoid lengthy delays in the investigation. Failure to comply could result
in being charged with a summary conviction offence with a term not exceeding
six months and/or a fine (maximum $250,000);
- ensure that information
can be gathered when it is held outside the country but still under the control
of a custodian of data in Canada, to address the increase in offshore data
storage; and
- help to safeguard the privacy
of those who hold the information, by allowing them to produce the information
themselves rather than police, who might otherwise be forced to search through
unrelated material.
When a production order is issued, rigorous safeguards would be in place - in
particular, the right under the Canadian Charter of Rights and Freedoms
not to be subject to unreasonable searches or seizures. Those who receive an
order can also object, making an application to the court, to producing information
on a number of grounds, including if the information is privileged or protected
from disclosure, or because it is not in their possession or control.
A "general" production order would require a person, other than
the individual under investigation, to produce information. In order to issue
the order, a judge or justice must be satisfied that there are reasonable grounds
to believe an offence has been committed, that the specific documents or data
will produce relevant evidence, and that the recipient of the order has possession
or control of these documents or data.
A "specific" production order would be issued in similar circumstances
to a general production order but would be limited to specific types of information
for which there is a lower expectation of privacy. For example, general details
related to bank accounts, such as the name of an account holder or type and
status of an account, could be obtained through a specific production order.
This type of order, with a narrower scope, would only apply to financial institutions
and other groups specified in the legislation.
While production orders would be
of particular use when gathering evidence to prosecute serious cases of capital
markets fraud, they could apply more generally to other Criminal Code offences.
For example, the proposed legislation provides for a business to produce video
surveillance tapes that may have recorded a criminal act, such as assault. Similarly,
the production of shipping records from a port authority could help identify
a drug smuggler.
Creating Strong Partnerships to Prosecute
Major cases of capital markets fraud have national and sometimes international
impact on the economies of Canada and other countries. As a result, a strong
enforcement approach is needed at the national level to strengthen the investigation
and prosecution of serious capital market fraud cases. Under the proposed reforms,
the Attorney General of Canada would exercise concurrent jurisdiction, with
the provinces, to prosecute certain fraud-related offences in the Criminal
Code, including the proposed insider-trading offence. Federal involvement
would be limited to a narrow range of cases that threaten the national interest
in the integrity of capital markets.
In order to help ensure proper
coordination, the Government of Canada will work with the provinces to establish
prosecution protocols that would ensure a coordinated and effective implementation
of concurrent jurisdiction.
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June 2003
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