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Ottawa, October 24, 2002
2002-086

Statement by the Honourable Maurizio Bevilacqua, Secretary of State (International Financial Institutions), to the Standing Senate Committee on Banking, Trade and Commerce

Ottawa, Ontario

Check Against Delivery

I want to thank the Chair and committee members for the invitation to address the Standing Senate Committee on Banking, Trade and Commerce today on the importance of strengthening investor confidence in Canadian capital markets.

I would also like to congratulate the Chair on his re-election. I know from personal experience the rewarding contribution committee work can make.

Let me also say how much I welcome your committee’s examination of the issue of how we best foster investor confidence in the wake of the Enron and WorldCom debacles in the United States. By its very nature, investor confidence must be sustained by a wide range of capital market participants: chief executive officers (CEOs), boards of directors, stock exchanges, the accounting profession, rating agencies, analysts, regulators, governments – the list goes on. So having a national forum like this committee examining all of the critical issues, and the linkages across issues, is vital.

Mr. Chairman, why such a focus on investor confidence? Because, whether it’s competitive taxes, regulatory reform or demands for good corporate conduct, government has a responsibility to do what’s necessary to support the growth of an economy in a way that works for all Canadians.

These areas, which establish the environment for commerce, continue to evolve, and we must adapt with them. In this reality, we either continually transform our Canadian system into a competitive advantage, or we fall behind world-leading nations. Let me be clear: we must, and we will, act. Standing still is not an option for Canada.

Investor confidence is crucial to efficient capital markets, which themselves are crucial to a more prosperous economy for all of us. Efficient capital markets allow our nation to realize its full economic potential, our businesses to expand and innovate, and our fellow citizens to achieve their personal dreams.

They are a vital lifeline for companies – large and small – to grow at all stages of their development, particularly in their start-up phase.

And the effectiveness of our capital markets is anchored on the trust and integrity of all participants. Undermining this trust, as Enron and WorldCom have done, hurts all capital market participants, not just in the U.S. but around the world.

Canada has a strong tradition of fostering sound corporate governance. With Toronto Stock Exchange leadership, we were among the first countries to systematically study ways to improve governance and to implement comprehensive governance guidelines. We have required the timely and continuous disclosure of material information to markets for many years, well in advance of similar initiatives in the United States.

And we have had a clear and determined focus on assuring board independence, in particular by emphasizing the key role in governance that can be played by an empowered, non-executive board chair or lead director.

In this context, our government’s view is that, while our system of corporate governance and financial reporting has real strengths, it can be improved. It must adequately reflect the new standards that investors are demanding.

Recent U.S. corporate scandals have made it all the more urgent for us to review our standards and practices, and to question again our assumptions. Our standards must not only stand up to investor scrutiny in this country, but around the world.

The U.S. response to its corporate scandals was the passage of the Sarbanes-Oxley Act of 2002. It is sweeping legislation, intended to promote confidence in U.S. capital markets.

Many other countries are now reviewing their own standards and practices in order to prevent Enron-type scandals from occurring within their borders. And international bodies, such as the International Organization of Securities Commissions and the Financial Stability Forum, are also focused on this issue.

In Canada much work is underway. The federal government, as announced in the Speech from the Throne, is working with regulators, business leaders and market participants to bolster investor confidence and improve the efficiency and integrity of Canadian capital markets.

As part of that effort, I am here today to do the following:

• first, provide a framework of what the Government believes are the key areas that must be addressed;

• second, set out the progress to date by Canadian market participants in these areas; and

• third, pose some fundamental questions that must be considered as we move ahead.

Let’s be clear about our ultimate objective. It is a Canadian corporate governance solution that suits our needs, while simultaneously meeting the highest international investor and market standards.

At the outset, let me state the five elements that are, in the Government’s view, essential to strengthening investor trust and confidence:

• First, companies must have strong corporate governance. A core element must be that a company’s board of directors is independent from management.

• Second, management must be accountable. CEOs and chief financial officers (CFOs) must certify their firm’s financial statements.

• Third, financial reporting must be improved. The bottom line is that disclosure must be complete, transparent and timely.

• Fourth, there must be a credible audit process. This is a complex area, but the basic principle is clear: auditors must be independent of the firms they audit, and there must be effective oversight of auditors’ work.

• Fifth, there must be stronger enforcement. Effective laws, and effective enforcement of those laws, are essential to provide a genuine deterrent to actions that undermine the trust and integrity of capital markets.

Substantial progress in strengthening investor confidence is being made in Canada. It reflects the cooperation among capital market participants as they work together towards solutions in key areas.

An important step to help ensure a credible audit process was the creation of the Canadian Public Accountability Board this summer. This cooperative effort of regulators, including the federal regulator (the Office of the Superintendent of Financial Institutions), and the accounting profession should ensure that Canadian standards will be met through effective enforcement.

The Canadian Institute of Chartered Accountants is building on this. It has now released draft auditor independence rules for comment, rules that are intended to enhance the quality of the audit process. The rules are due to be finalized by the end of 2002 and implemented by the end of 2003.

To improve reporting, the Accounting Standards Board has just issued new guidelines for comment on special purpose entities and financial guarantees, accounting topics that are under renewed scrutiny in the wake of the Enron scandal. The Board also announced that it plans to require the expensing of stock options granted to company employees.

The Canadian Council of Chief Executives recently released action plans for their CEOs and boards of directors. The Canadian Coalition for Good Governance, a group of major institutional investors, plans to take a collective approach to improve governance practices at Canadian public companies. And the Toronto Stock Exchange (TSX) has announced new measures to enhance corporate governance practices at TSX-listed companies.

And the federal government committed, in the Speech from the Throne, to work with provinces, regulators, business leaders and market participants to foster an effective securities regulation system that will respond to the needs of regional capital markets and emerging public companies.

As part of that commitment, the Honourable John Manley, Deputy Prime Minister and Minister of Finance, appointed Harold MacKay as Special Representative on Canadian securities regulation. Mr. MacKay is charged with recommending, by November 15, the best process that will lead to improved securities regulation, as well as the issues this process should address.

On the enforcement front, the Crawford Committee, as part of a five-year review of Ontario securities legislation, stressed the importance of better enforcement, and recommended increased powers for the Ontario securities regulator, new securities offences and increased penalties. The Ontario government recently announced that it would adopt many of these recommendations on enforcement by proposing greater powers for the regulator and increased penalties for securities law violations. The Quebec government has also proposed increased penalties for securities law violations.

Finally, to provide investors and capital market participants with a real-time record of these developments to strengthen investor confidence, the Department of Finance has created a comprehensive progress report on its Web site, Fostering Confidence in Canada’s Capital Markets.

Mr. Chairman, while progress is being made, more is required. To move ahead, we are going to have to deal with a number of tough questions.

• First, to what extent are the measures in the U.S. Sarbanes-Oxley legislation, and new stock exchange rules, relevant in Canada?

Given our close economic and financial ties to the U.S., we are clearly influenced by that nation’s capital market developments, and this is certainly the case with respect to its response to the recent scandals.

The Ontario Securities Commission has written to capital market participants, asking whether recent U.S. measures would be appropriate in Canada. The Alberta Securities Commission has initiated its own consultation.

We need to look at these new U.S. rules carefully. We need to ask ourselves if U.S. rules are based on sound public policy and, if they are, how they should best be reflected in Canada. Your committee can play a key role in answering this question. To assist you in this regard, I will be sending you a template identifying key policy changes in the Sarbanes-Oxley legislation.

• Second, to what extent should corporate governance practices be legislated, regulatory or voluntary?

The U.S. has clearly taken the legislative route. Corporate governance rules in Canada are currently a mixture of voluntary guidelines and mandatory rules.

Capital markets can, on their own, provide an impetus for Canadian public companies to move to the highest standards of corporate conduct.

But, on their own, can they provide the universality of coverage and assurance that investors want? Or are additional regulatory and legislated measures required to ensure that good corporate governance practices are adopted consistently by Canadian public companies?

• Third, should we differentiate between the corporate governance requirements of small and large firms in Canada?

New corporate governance rules may place a different degree of burden on smaller companies than larger companies. Therefore, should accommodations be made in the application of such rules to smaller companies, while maintaining the overall investor confidence principles?

For example, in the case of the composition of audit committees, is some flexibility in application appropriate, whereas it may not be, say, in the case of a CEO/CFO certification? This is an important question on which the committee can provide governments with advice.

• Fourth, should we differentiate between the corporate governance requirements of widely held companies and those with controlling shareholders?

Canada has many public companies that are controlled by one or a few shareholders. Should their requirements be different in application, again while maintaining common principles?

Here you may want to consider whether some flexibility is needed to account for public corporations with large shareholders. For instance, defining the "independence" of board and committee members needs to be carefully reviewed – do we simply want independence from management, or are we also seeking independence from all parties with a significant stake in the company? And, if so, why and on what issues?

Finally, Mr. Chairman, as the Government indicated in the Speech from the Throne, we will review and, where necessary, change laws and strengthen enforcement to ensure that governance standards for federally incorporated companies and financial institutions remain of the highest order.

In this context, our government is reviewing the Canada Business Corporations Act and legislation relating to federally regulated financial institutions. As well, we are examining the whole enforcement area, and how we can create as effective a deterrent as possible.

Before I conclude I would like to stress that our business people are, overwhelmingly, honest and hardworking. In no way should the successes of the many be weighed down by the sins of the few.

Members of this committee: I am well aware of the powerful contribution committees can make in the creation of new, innovative policy. Let me assure you that both the Minister of Finance and I appreciate the work you are doing. We look forward to your report by the end of the year. Your role is essential. It will be the focal point for a national debate on this important economic issue.

We believe a national effort is required to meet this national challenge. To be effective, we need a coordinated approach among the federal government, other governments, regulators and private sector participants.

But let’s be clear – this is an urgent issue. Although much progress has been made, and will continue to be made, all of the participants need to move quickly to strengthen investor confidence. For the Government’s part, we will use all the levers at our disposal whenever necessary to strengthen the confidence of investors in Canadian capital markets.

What is at stake today is not just maintaining and enhancing confidence in our capital markets, but also building a stronger, more competitive and prosperous future for generations to come. Thank you.