Record Growth in an Evolving Marketplace: An Interview with Richard Carleton

2016 will officially go down as one of the best years in the Canadian Securities Exchange’s history.

At the outset of the new year, CEO of the CSE, Richard Carleton, sat down with Peter Murray of Kiyoi Communications to discuss and reflect on the achievements of the CSE in 2016 as well as to provide insight on the capital markets ecosystem and what’s around the corner for the CSE in 2017.

Below is the full text from both parts of their interview (for ease of navigation, links to each part and topic have been provided).

Part 1: A look back on 2016 & look ahead to 2017

The first portion of the interview focused on the performance of the Canadian Securities Exchange in 2016, including the record trading and capital raising efforts from companies listed on the exchange. In addition, Richard Carleton highlighted a number of important operational and technical investments that were made to facilitate future growth and enhance investor experiences at the CSE.

Peter Murray (PM): The year 2016 was a particularly good one for the CSE and the financial community is interested to learn what the exchange’s plans are as we enter 2017.  I’ll begin by asking you to walk us through some of the milestones and accomplishments at the CSE during the year just finished.

Richard Carleton (RC): The headline event would be the performance of our overall market, where we enjoyed record trading volume, trading value and number of trades for our CSE listed companies.  We saw very strong momentum begin to build about halfway through the year and it grew to a crescendo in the month of November.  For all members of the team, and perhaps particularly those of us who have been working with the organization from near inception, it was tremendously gratifying to see the investing public accept our issuers to the extent they did.  From an external perspective, I think that is the headline story.

At the same time, I would say some of the things we did behind the scenes were equally important.  We invested very heavily in our infrastructure in 2016.  The first tangible evidence of this effort was the new website launched early in the year.  Though we received plenty of positive feedback on the improved look and usability of the website, we worked to further refine it on a continuous basis over the balance of the year.  I think the website presents a clean, professional and complete view of the Canadian Securities Exchange to all visitors.

We also invested in our trading infrastructure.  In mid-December, we completed the final stage in launching a new trading system that is approximately 11 times faster than our former system but requires considerably less hardware to operate.  For us, that means we are offering a higher level of service at a lower operating cost.

In addition, we bundled the new trading system with order routing solutions, compliance and risk management services.  For example, we provide features such as “fat-finger” protection, credit limits, risk limits, and risk tolerance limits to assist dealers trading on our exchange with meeting their risk management obligations to clients.  Basically, it gives dealers new tools that enable them to provide a higher level of service to their clients.
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PM: You mentioned new volume and value records.  Statistics released by the CSE during the year showed year-on-year volume growth of over 100% in some months.  What drove these increases?

RC: There clearly was a lot of investor interest in the legal cannabis sector, both in Canada and the United States.  With propositions on the ballot during the US election in eight states to either permit medical marijuana or legalize it outright, the belief was that companies active in the US market could have a tremendous increase in business opportunities available to them.  In the run-up to the election we saw a big increase in trading and price performance for names in the sector.

Canada-focused cannabis companies were also caught up in the investor interest given the posture of the federal government toward liberalizing laws in this country.

But I’d hasten to point out that cannabis-related companies weren’t the only ones fueling the growth.  A number of natural resource issuers and technology companies also traded heavily in the latter half of the year.  The result was a string of monthly records for share turnover, value traded and number of trades as we went from September through November.
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PM: On the oversight front, there is an ongoing effort to update the rules companies must abide by while on the exchange, as well as during the listing process.  Where do things stand currently?

RC: Most of the work has been taken up in two specific areas: original listing requirements and continued listing requirements.  The new requirements for original listings have been implemented.  We increased a number of the thresholds, which essentially had not been adjusted since the exchange began business in 2003.  In the intervening 13 years, some of the numbers came to need a reassessment.  Still, I would say that all of the companies approved for listing prior to the adoption of the new requirements would have made it under the new rules as well.

If you consider this together with the work we did in 2015 on plans of arrangement, we are trying to communicate to the investment community that we need to see companies with a business plan and sufficient capitalization to meet financial requirements for that plan over a 12 to 16 month period prior to listing.

To assist companies in meeting their disclosure obligations, both as they list and subsequent to listing, we retained two very important individuals in 2016.  Dr. Francis Manns is now our consulting geologist working with prospective issuers to provide expert-level peer review of 43-101 reports, or in the case of oil and gas issuers 51-101 reports.  Francis is universally respected in the mining and financial communities and is a real asset for resource companies to work with as they list with us.

Another strong addition is John Hughes, who joined our compliance team in a management capacity.  John is a consulting accountant who advises firms on the impact of IFRS and other contemporary accounting issues.  John reviews financial statements and other disclosure documents from prospective and current issuers with a view to helping companies meet the highest standards when it comes to financial reporting and disclosure.

For companies listing with us, having Francis, John and the other experts on our team to turn to is a real benefit.

We are still working on the continued listing requirements and the idea there is to establish minimum criteria a company must meet to remain listed on the exchange.  The objective of the exercise is to ensure companies on the exchange are actively pursuing the business they have set out in their disclosure materials and listing statement.  If a company decides that it needs to raise additional capital or find another business, it has a period of time in which to do that, but we are not going to allow inactive companies to reside on the exchange indefinitely.
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PM: Quite clearly, 2016 was a year of progress on multiple fronts.  What is the CSE team preparing to focus on as we enter 2017?

RC: Now that we’ve got the new trading system running we are really going to shift our attention to improving market making and overall market quality for our issuers.  We have been working with several dealers on ways for market makers to deepen liquidity and reduce the choppiness in prices by contributing buy and sell orders to the CSE book.  Ensuring that companies have a continuous two-sided market is quite important for issuers and their investors.

We are also going to be continuing our efforts to bring companies listed on the exchange to the attention of investor audiences in Canada, the United States and beyond.  We are planning quite a few events over the course of 2017 designed to introduce more potential investors to our issuers.  And, of course, that has the side benefit of demonstrating to entrepreneurs deciding where to list that they should choose the CSE ahead of some of the alternatives, as we quite actively support the efforts of our issuer community in markets around the world.  This is going to be another important focus of our energies over the course of 2017.
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PM: The CSE approach to issuers and markets has some unique aspects to it.  Do you think the CSE has helped change the environment for securities listings in Canada?

RC: Well, we sure hope so.  Our Senior Vice President of Market Development, Rob Cook, said the other day that when the organization launched in 2003, while we may not have been re-inventing the wheel, we certainly set out to apply a healthy degree of lubrication to the process.  And in many respects we have successfully done that.  We are continuing our mission to facilitate the lowest cost of public capital for small-cap companies in Canada.  The principal means by which we do that is improving the listing process and the secondary trading environment, and we work with as many parties as we can to accomplish our objectives.  This is our core strength and we will retain that commitment to a higher level of service for our issuers.
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Part 2: Industry Insights

In the second portion of the interview Richard Carleton provided his insights on a spectrum of issues facing Canadian capital markets. In particular, Carleton provided his take on the evolving landscape for IPOs, performance of commodities markets, algorithmic trading and opportunities for Canadian listings in the US.

Peter Murray (PM): Data shows that 2016 was a slow year overall for Initial Public Offerings in Canada.  What is your viewpoint on what has happened to the IPO and what is going to be its role for future public financings and listings?

Richard Carleton (RC): I don’t think there is any doubt that the decline in the number of IPOs is more than a cyclical phenomenon.  We have witnessed a sea change in how early stage corporate finance is conducted in Canada.  Participants are voting with their feet and avoiding the IPO process.  They are doing so because of concerns about cost, concerns about delay in having their prospectus approved, and also that there are now very few dealers who have the capacity, willingness or business model to support a small-cap IPO and distribute the securities to their clients and to the clients of other members of an underwriting syndicate.

The so-called “exempt market” has really stepped into the gap.  Here, I am talking about dealers (specifically “exempt market dealers”) who are able to distribute securities on the basis of one or more prospectus exemptions in the different securities acts.  The most common means, the “accredited investor” exemption, where securities may be distributed to high net worth individuals and institutions without a prospectus, accounts for the lion’s share of the funds raised by early stage companies in Canada today.   I prefer to think of this development as less as of an IPO crisis than as the emergence of a new dynamic, the funding of new businesses via the exempt market.  Typically, a new company will conduct a reverse takeover of an existing listed company, or existing listed company management may decide to undergo a fundamental business change.  In both cases, the exempt market is where 90% to 95% of the funds are being raised for new CSE companies.  This development means we are working not just with the traditional IIROC dealers on their underwriting activities, but also with exempt market dealers who are the lead actors in this new access to private capital for public companies.
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PM: A year or two ago when junior markets were having a particularly tough time, some observers criticized predatory trading practices for contributing to the weakness.  Are such things as high-frequency trading and black boxes issues for companies on the CSE?

RC: We saw the first consistent participation by high-frequency trading firms on the CSE this year.  These firms were pursuing a market-making strategy, which means they are significant contributors to the available liquidity in a particular stock.  The firms are very competitive; they tend to narrow spreads and provide for deeper order books.  I believe it has contributed in a positive way to liquidity on the CSE.  There were complaints voiced about “HFTs” a few years back when there was a lot of selling pressure, but we didn’t hear so much in the way of concern when the early stage markets began to recover.
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PM: Given the differences in the two markets, there seems to be an opportunity to harmonize Canada’s public venture market with capacity in the United States for deal flow and retail investing.  How do you see this developing and what role can the CSE play?

RC: There is no doubt Canada is an extremely advantageous jurisdiction in which to launch a smaller public company.  The economics don’t really support it in the US, UK or EU.  Arguably, Australia is the only other place in the world where small companies without revenues – typically mineral exploration companies – have an opportunity to raise public capital.

We know from experience that there is a lot of interest in our companies from investors in the United States.  We have a close working relationship with the OTC Markets Group in the US and in many cases we encourage issuers to obtain a quotation on one of the OTC’s regulated boards and to make sure their securities are properly registered with the clearing and settlement agency in the United States.  With these measures, US-resident retail investors will be able to trade these stocks via their discount brokerage accounts.

Issuers end up enjoying the best of both worlds.  They have a relatively low-cost jurisdiction in which to list their company, but at the same time can tap the US capital markets for both investment capital out of the gate and further rounds once they are trading in the secondary market.  That is something several of our companies have taken advantage of.  Generally, companies that obtain a US quotation have seen an immediate improvement in liquidity and it gives them additional fundraising opportunities in the US.  The fact is that Canadian public companies travel very well internationally.
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PM: Do you have any closing thoughts for issuers and investors, perhaps on issues we have not addressed so far?

RC: I would more so just take the opportunity to state again that the two things we will focus on in 2017 are working more with market-making and other groups to improve liquidity, and secondly that issuers should expect opportunities to work with us to promote both the exchange and their companies on an international basis.  We are going to be very active in the US, in Europe and potentially in Asia as well.

Really, what this is all about is proving the value of a listing on the CSE, and in so doing make the challenge facing our issuer companies of raising funds significantly easier.
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