1999 Ruling 9909163 - STOCK OPTION EXCHANGE, DELAY EXERCISE RIGHTS

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ARC.

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the Department.

Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle du ministère.

Principal Issues: Will an exchange of stock options as a result of a corporate merger meet subsection 7(1.4) where the rights to exercise the options are suspended for a period because of a previous corporate demerger and the number of shares to be issued under the option agreement is dependent upon the structure of the demerger transaction?

Position: Yes

Reasons: The provisions of subsection 7(1.4) are satisfied. The employee's rights during the interim period continue to be an agreement to issue shares for the purposes of section 7 and the value for value requirements of paragraph 7(1.4)(c) are met.

XXXXXXXXXX
XXXXXXXXXX 990916
XXXXXXXXXX

Attention: XXXXXXXXXX

XXXXXXXXXX, 1999

Dear Sirs:

Re: Advance Income Tax Ruling
XXXXXXXXXX

This is in reply to your letter dated XXXXXXXXXX, wherein you requested an advance income tax ruling on behalf of the above-noted taxpayer. We also acknowledge the information provided in your facsimiles dated XXXXXXXXXX, and during our various telephone conversations (XXXXXXXXXX).

Our understanding of the facts and proposed transactions is as follows:

Facts

1. XXXXXXXXXX (the "Corporation") is a taxable Canadian corporation and is controlled by XXXXXXXXXX (the "Parent"). The expression "taxable Canadian corporation" has the meaning assigned by subsection 89(1) of the Income Tax Act (the "Act").

The Corporation's address is XXXXXXXXXX. The Corporation XXXXXXXXXX. The Corporation files its tax returns with the XXXXXXXXXX Taxation Centre and is serviced by the XXXXXXXXXX Tax Services Office.

2. The Parent was incorporated under the laws of the XXXXXXXXXX and is a resident of the United States with its head office in XXXXXXXXXX. Parent's Common Stock, par value $XXXXXXXXXX per share, the ("Parent Shares") traded on the XXXXXXXXXX Stock Exchange until approximately XXXXXXXXXX.

3. The Parent acquired control of the Corporation on XXXXXXXXXX. The Corporation was formerly known as XXXXXXXXXX and its name was changed to XXXXXXXXXX after Parent's acquisition of control.

4. Until XXXXXXXXXX, the Corporation was a Canadian-controlled private corporation ("CCPC"), within the meaning assigned by subsection 125(7) of the Act. On XXXXXXXXXX, the Corporation became a public corporation, within the meaning assigned by subsection 89(1) of the Act, by an initial public offering.

5. When the Corporation was a CCPC, it provided certain of its employees with options to acquire approximately XXXXXXXXXX shares of its capital stock. After the Corporation's initial public offering and before it was acquired by Parent, the Corporation provided certain employees with options to acquire approximately XXXXXXXXXX shares of its capital stock. The exercise price in respect of all options granted by the Corporation (hereinafter collectively referred to as the "Original Options") was set at the fair market value of the shares of the Corporation on the grant date of such options. On the acquisition of control of the Corporation by Parent, the employees of the Corporation received stock option rights to acquire Parent Shares ( the "Exchanged Options") in exchange for their Original Options. The provisions of subsection 7(1.4) of the Act applied to the exchange of the Original Options for the Exchanged Options. Subsequent to the acquisition of control, Parent also granted additional options to acquire approximately XXXXXXXXXX Parent Shares to certain employees of the Corporation ("New Options") (hereinafter the New Options and the Exchanged Options held by the Corporation's employees will be collectively referred to as "Parent Options"). The exercise price in respect of the New Options granted by Parent to employees of the Corporation was set at the fair market value of the Parent Shares on the grant date of such options.

6. On XXXXXXXXXX, Parent and XXXXXXXXXX, announced the agreement for the acquisition of Parent by XXXXXXXXXX for total consideration of $XXXXXXXXXX U.S. including assumed net debt of $XXXXXXXXXX U.S., at an agreed price of $XXXXXXXXXX U.S. per share in cash (the "Merger Agreement"). The ordinary shares of XXXXXXXXXX (the "XXXXXXXXXX Shares") trade on the XXXXXXXXXX Stock Exchange.

7. On XXXXXXXXXX reached an agreement on the principal terms of a proposed restructuring which will involve the separation from XXXXXXXXXX of XXXXXXXXXX and its merger with XXXXXXXXXX (the "Demerger"). This Demerger will result in two separate businesses; XXXXXXXXXX. Until the Demerger is completed, XXXXXXXXXX is unable to issue stock options to its employees or employees of related corporations. It is anticipated that the Demerger will be completed by XXXXXXXXXX.

8. In respect of employees of the Corporation that hold Parent Options (the "Employees"), the Merger Agreement generally provides for the following:

(a) subject to (c) below, each vested Parent Option held by an Employee will be cancelled by Parent and each holder of such cancelled and vested Parent Option will be entitled to receive from Parent or, at Parent's option, from any related corporation in consideration for such cancellation an amount in cash equal to the product of the number of Parent Shares subject to the vested Parent Option multiplied by the excess, if any, of the price per Parent Share paid by XXXXXXXXXX under the Merger Agreement (the "Per Share Merger Consideration") when the merger is completed (the "Merger Date") over the exercise price per Parent Share under the Parent Option.

(b) each unvested Parent Option held by an Employee (other than Parent Options that by their terms are automatically cancelled or terminated as a result of the Merger Agreement) will not be cancelled or exercised but shall be converted into phantom stock units equivalent to a number of ordinary shares of XXXXXXXXXX (rounded down to the nearest whole share) in accordance with a conversion ratio, as described in subparagraph 8(d) below, outlined in the Merger Agreement. The value of each phantom stock unit will be payable upon exercise, at XXXXXXXXXX election, in cash or XXXXXXXXXX Shares (provided that such XXXXXXXXXX Shares are publicly traded on the XXXXXXXXXX Stock Exchange or a U.S. Stock Exchange), valued as described in subparagraph 8(d) below.

(c) Any Employee, to which (a) above applies, may elect to be treated in the same manner as employees holding unvested Parent Options rather than receive the cash payment entitlement under the Merger Agreement, as described in (a) above.

(d) For purposes of converting vested and unvested Parent Options, as described in (b) and (c) above, the number of XXXXXXXXXX Shares that will be made available will be determined by multiplying the number of Parent Shares that may be acquired under the Parent Options by a conversion ratio (the "Conversion Ratio").

XXXXXXXXXX

(e) The Merger Agreement does not create any rights which are enforceable by the holders of Parent Options.

Proposed Transaction

9. On the later of the Merger Date and the receipt of an advanced income tax ruling, each Employee, that holds vested Parent Options and has not elected as described in 8(c) above, will receive a cash payment, as described in paragraph 8(a) above, in respect of the disposition of the Employee's rights under the Parent Options.

10. The purpose of subparagraphs 8(b) and (c) above is to convert Parent Options into options to acquire XXXXXXXXXX Shares ("XXXXXXXXXX Options") and suspending any rights to exercise the rights to acquire shares under either the Parent Options or the XXXXXXXXXX Options until the earlier of the completion of the Demerger and a specific date in the future (in case the Demerger is delayed beyond a reasonable period). In order to achieve this objective, XXXXXXXXXX will enter into a binding agreement (the "Binding Agreement") with each Employee that holds unvested Parent Options on the Merger Date or that elects not to receive cash for his or her vested Parent Options in accordance with paragraph 8(c) above. The Binding Agreement will provide for the following:

(a) XXXXXXXXXX and Parent will agree to exchange existing vested and unvested Parent Options held by the Employee for XXXXXXXXXX Options.

(b) The conversion factor for converting the Parent Options into XXXXXXXXXX Options will be fixed on the Merger Date in accordance with the Merger Agreement. Given XXXXXXXXXX restructuring and inability to currently issue options, the Binding Agreement contemplates that the holder of Parent Options will be entitled to XXXXXXXXXX Options in exchange for Parent Options following the completion of the disposition by XXXXXXXXXX of its XXXXXXXXXX business, or by a specific date in the year XXXXXXXXXX, whichever occurs first.

(c) The rights and conditions contained in the XXXXXXXXXX Options will be substantially similar to those provided in the Parent Options.

(d) During the term of this Binding Agreement and until XXXXXXXXXX Options are issued to the Employees, the Employees will not be eligible to exercise any of the Parent Options or the underlying XXXXXXXXXX Options. In the event of termination of employment for any reason prior to the issuance of the XXXXXXXXXX Options, the Employee will be entitled, with respect to each vested Parent Option, to receive in cash the amount by which the closing price for XXXXXXXXXX Shares on the XXXXXXXXXX Stock Exchange exceeds the converted exercise price for the underlying vested XXXXXXXXXX Options, net of any applicable withholding taxes (the "Termination Payment").

(e) On the date that the Demerger is completed, the number of XXXXXXXXXX Shares eligible to be acquired under the XXXXXXXXXX Options pursuant to the Binding Agreement will be adjusted to take into account the effect of the Demerger on the value of XXXXXXXXXX Shares as is appropriate in order to prevent dilution or enlargement of the benefits or potential benefits intended to be made available under the XXXXXXXXXX Options.

11. As a result of the Binding Agreement and the Demerger, each Employee will dispose of his or her rights to acquire shares under the Parent Options for consideration consisting solely of rights under the Binding Agreement and the amount by which the total value of the XXXXXXXXXX Shares, on the date of the Merger, that the Employee may purchase under the XXXXXXXXXX Option to be issued under the Binding Agreement exceeds the total amount payable by the Employee to acquire such XXXXXXXXXX Shares under the Binding Agreement does not exceed the amount by which the total value of the Parent Shares that the Employee may have purchased under the Parent Options immediately before their disposition (as of the date of the Merger) would have been payable by the Employee to acquire the Parent Shares under such Parent Options.

12. XXXXXXXXXX will distribute XXXXXXXXXX Options to the Employees, as per the Binding Agreement, on the earliest of the completion of the disposition by XXXXXXXXXX of its XXXXXXXXXX business or by the specific date in the year XXXXXXXXXX. Once the Employee receives his or her XXXXXXXXXX Options, the Employee will be entitled to exercise his or her rights under XXXXXXXXXX Options after they are vested and before the termination of such rights under the XXXXXXXXXX Options.

Purpose of the Proposed Transactions

13. The purpose of the proposed transactions is to allow the Employees to exchange their Parent Options for XXXXXXXXXX Options under the Binding Agreement having the same rights and conditions as the Parent Options even though the Demerger prevents this from happening on the Merger Date.

Additional Information

14. To the best of your knowledge and the knowledge of the Corporation, none of the issues involved in this request for an advance income tax ruling:

(a) is in an earlier return of the Corporation or of a person related to the Corporation;

(b) is being considered by a tax services office or taxation centre in connection with a previously filed return of the Corporation or of a person related to the Corporation;

(c) is under objection by the Corporation or by a person related to the Corporation;

(d) is before the courts; or

(e) is the subject of a ruling previously issued by the Income Tax Rulings and Interpretations Directorate.

Rulings Given

Provided that the preceding statements constitute a complete and accurate disclosure of all of the relevant facts, proposed transactions and purpose of the proposed transactions, and provided that the proposed transactions are completed in the manner described herein, we rule as follows:

A. The Binding Agreement will constitute an agreement to issue shares to employees for the purposes of section 7 of the Act.

B. Provided the Binding Agreement is completed as described in paragraph 10 above, the provisions of subsection 7(1.4) will apply in respect of the conversion, as of the date of Merger, of the Parent Options held by the Employees into rights under the Binding Agreement, which includes the issuance of XXXXXXXXXX Options. The issuance of the XXXXXXXXXX Options in satisfaction of the rights under the Binding Agreement will not constitute a disposition of rights or an acquisition of new rights to acquire shares.

C. The amount to be included in an Employee's income for a year in respect of any Parent Options or XXXXXXXXXX Options, excluding any Termination Payment, will consist of the following:

(a) under paragraph 7(1)(b) of the Act, the cash payment, as described in paragraph 9 above, in respect of the disposition of the Employee's rights under the Parent Options; and

(b) under paragraph 7(1)(a) of the Act, the amount by which the fair market value of any XXXXXXXXXX Shares acquired in the year under the XXXXXXXXXX Options exceeds the amount paid by the Employee to acquire the XXXXXXXXXX Shares and, if applicable, the amount paid by the Employee to acquire such XXXXXXXXXX Options.

D. Provided that the conditions in paragraph 110(1)(d) of the Act are satisfied, the Employee will be entitled to claim a deduction under paragraph 110(1)(d) of the Act in respect of the amounts included in an Employee's income, as described in Ruling C above.

E. Paragraph 7(3)(a) will apply to restrict the benefits deemed to have been received or enjoyed by the Employees in respect of the Parent Options, the Binding Agreement and the XXXXXXXXXX Options to those described in Ruling C above. For greater certainty, there will not be a disposition for purposes of section 54.

The above rulings, which are based on the Act in its present form and do not take into account any proposed amendments thereto, are given subject to the general limitations and qualifications set out in Information Circular 70-6R3 dated December 30, 1996, and are binding on Revenue Canada provided that the proposed transactions are completed within six months of the date of this letter.

Yours truly,

for Director
Financial Industries Division
Income Tax Rulings and
Interpretations Directorate

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