What a start-up needs, and what an IPO forces

One company, four stages

Governance is not one-size-fits-all. A rule that protects 4,000 dispersed shareholders is a pointless cost for a company with one. Follow a single business — a Kelowna maker of electric outboard motors — through four stages.

Stage 1 — founder-run. The founder owns all the shares, is the sole director, and is the CEO and chair because there is nobody else. There is no agency problem: the owner and the manager are the same person. Financial statements are prepared for the bank and the CRA; under CBCA s. 163 a non-distributing corporation may dispense with an auditor if all its shareholders consent, and she does. Governance is a formality.

Stage 2 — private with outside investors. A venture fund buys 30 % of the shares. Now there is an owner who is not the manager, and the agency problem is born. The fund takes two board seats, the board meets quarterly with minutes, the statements are reviewed by an accountant (a review engagement, not an audit), and a shareholders’ agreement lists the decisions that need the investors’ consent. The company still reports under ASPE.

Stage 3 — IPO-ready. Eighteen months before listing, the company must look like a public company before it becomes one. It adopts IFRS, because a listed company is a publicly accountable enterprise. It appoints an auditor and gets two years of audited statements. It recruits independent directors, forms an audit committee that meets NI 52-110, separates the chair from the CEO or names a lead director, and puts the CEO and CFO through their first NI 52-109 certification. The prospectus describes all of this, because the investors it is asking for money will judge the governance before the product.

Stage 4 — mature public. A majority-independent board; an independent chair; audit, compensation and nominating committees all fully independent; a written code of conduct; regular board assessments; and continuous disclosure — quarterly statements, an annual information form, a proxy circular describing every governance practice. This is the company Lakehead Marine is supposed to be.

The pattern: each step adds a class of owner who cannot see inside the company, and governance grows to match the asymmetry. Skipping a step is what an IPO exposes.

Comply or explain

Canada does not legislate most of this. NP 58-201 states in s. 1.1 that its guidelines are not intended to be prescriptive; issuers are encouraged to consider them in developing their own practices. What is mandatory is disclosure. NI 58-101 s. 2.1 requires a non-venture issuer that solicits proxies for a director election to include Form 58-101F1 in its circular — a form whose items read “disclose whether the board has a majority of independent directors; if not, describe what the board does to facilitate independent judgement.” A venture issuer (TSX Venture, CSE) files the lighter Form 58-101F2 (s. 2.2). A company may fall short of a guideline; it may not stay silent about it. That is comply or explain, and it is why the answer to “is NP 58-201 law?” is: the guidelines are not; the disclosure is.