The Ontario Securities Commission offices in Toronto.Fred Lum/The Globe and Mail
Ontario’s securities watchdog alleges that fund manager Emerge Canada Inc. and two senior executives improperly borrowed $6-million of investor money to cover operating expenses to run the company.
The Ontario Securities Commission announced Monday that it has launched a case against Emerge Canada; its founder, Lisa Langley; and its chief financial officer, Desmond Alvares. The OSC also levelled allegations against three members of the Independent Review Committee overseeing the Emerge funds: Marie Rounding, Monique Hutchins and Bruce Friesen.
This is the first time the OSC has launched an enforcement case against IRC members. Every investment fund in Canada is required to have an IRC, which is responsible for reviewing a fund manager’s potential conflicts of interest on behalf of unitholders.
Emerge Canada, Ms. Langley and Mr. Friesen did not respond to The Globe and Mail’s request for comment. Mr. Alvares declined to comment.
Adam Chisholm, a lawyer with McMillan LLP and legal counsel for Ms. Hutchins and Ms. Rounding, said the OSC is relying upon “tenuous” grounds for its case.
“We believe the proceeding is being used to expand the obligation of IRC members at a cost of our clients personally,” Mr. Chisholm said in an interview with The Globe.
The OSC alleged in its enforcement action that Emerge Canada “acted in its own interests” by taking an estimated $6-million of investor money, in “self-dealing loans” from the funds over a period of nearly four years. Most of the money was used to prop up Emerge’s own businesses that were experiencing financial distress, the regulator said.
In addition, the OSC said the Emerge IRC members’ response to the loans breached their duties to investors and other obligations under securities law.
“Through the IRC’s inaction, it deprived investors of safeguards designed to protect them from this type of harm,” the regulator said in a statement.
The OSC alleges Emerge breached its duties to investors, caused the funds to enter into prohibited loans, failed to properly address the conflict of interest created by the receivable, and failed to maintain proper books and records, or an adequate system of controls and supervision to ensure compliance with securities legislation.
Investors were first alerted of trouble at Emerge on April 14, 2023, when the OSC imposed a temporary trading halt – known as a cease-trade order – on the company’s 11 exchange-traded funds.
At the same time, The Globe reported that Emerge Canada, which managed about $118-million in assets, owed a total of $2.53-million to its six Emerge ARK funds. The funds are branded Emerge ARK because of a partnership with U.S.-based ARK Investment Management LLC, which is run by prominent U.S. investor Cathie Wood.
A month later, the OSC suspended Emerge Canada’s operating licence. The regulator revealed that the amount owed was $5.5-million, and that Emerge Canada was short of cash because it hasn’t collected money owed to it by U.S.-based Emerge Capital Management Inc. Both companies are led by Ms. Langley.
At the end of 2023, Emerge Canada disclosed it still had not been able to pay back a remaining balance of $4.7-million to fund holders, including accrued interest, and shut down the ETFs on Dec. 29. The money remains unpaid, leaving investors as unsecured creditors.
The OSC said Emerge Canada has been “silent” on whether it intends to pay the 2.5-per-cent interest on the outstanding loan amount.
The regulator’s allegations revealed that Emerge Canada, almost immediately after launching its ETFs in 2019, began to transfer investor money from the investment funds’ bank accounts into its own bank accounts and those of its U.S. affiliate.
Emerge Canada did not notify the funds’ independent review committee prior to setting up the loans. The transfers continued for four years, until December, 2022, when Emerge Canada told the OSC that the company and funds’ auditor, BDO Canada LLP, had resigned. Over that time, the loans had grown to $6-million, about 6.1 per cent of the funds’ total net asset value.
The OSC found the company’s books and records did not contain sufficient detail to identify how Emerge Canada spent the money, did not match cash transfers recorded in Emerge U.S.’s books, and failed to document all compensation arrangements and incentive practices for Ms. Langley.
The regulator’s allegations also pointed fingers at the IRC members, saying the committee had an “inadequate response” to Emerge Canada’s conflict when the loan was referred to the committee in October, 2021. At that time, the loan was less than $1-million, and Emerge told the IRC it would pay back the full amount by the end of that year.
After the fund’s referral in October about a potential conflict of interest, the OSC said, the IRC requested additional information from the fund manager and identified a number of potential conflict of interests related to the loan.
Then, in early 2022, despite initial communications calling the matter a “conflict-of-interest referral,” the fund’s portfolio manager said the loan was not a conflict of interest and that it had brought the topic to the IRC for “informational purposes” only.
Mr. Chisholm said his clients will “dispute” the OSC allegations that they received a referral in 2021.
In March, 2022, after months of discussions, Emerge notified the IRC that it had ceased the practice of borrowing investor funds and that the loans would be paid off by the end of that year.
The IRC made no disclosure of the October, 2021, discussions in the Emerge 2022 Annual Report, and the OSC alleges the committee made no further follow-up to ensure the manager had ceased borrowing funds and was making repayments.
At the same time, the regulator alleges that Emerge Canada made misleading and inaccurate statements to the IRC.
Ms. Rounding, Ms. Hutchins and Mr. Friesen resigned on June 30, 2023.
An OSC hearing has been set for the end of March.