Written By Jeff Taylor, Katherine Booth and Emma Arnold-Fyfe

Securities-related regulatory action regarding “AI washing” has been increasing in the United States, serving as a warning of potential future developments in Canada. AI washing, as defined by the Canadian Securities Administrators (the CSA), refers to an issuer making false, misleading or exaggerated claims about its use of AI systems in its products or services to capitalize on the growing use of and investor interest in AI systems. The CSA reported that it identified disclosure and promotional campaigns that included AI washing during its most recent continuous disclosure review program. We are also seeing securities class actions alleging AI washing being filed in the United States.

Regulatory Action in the United States

Regulators in the United States have been warning of AI washing for some time now. In February 2023, the Federal Trade Commission (the FTC) published a comprehensive blog detailing the risks associated with misrepresenting AI capabilities and outlining the areas the FTC will scrutinize in the future when individuals and companies are alleged to be exaggerating their AI functionalities.

In February 2024, during remarks at Yale Law School, the US Securities and Exchange Commission (the SEC) Chair Gary Gensler warned public companies against AI washing, stating that “whether it’s by companies raising money or financial intermediaries, such as investment advisers and broker-dealers, [AI washing] may violate the securities laws.”

The SEC took action on several occasions last year:

• On March 18, 2024, the SEC announced it had settled charges against two investment adviser firms, Toronto-based Delphia (USA) Inc. and San Francisco-based Global Predictions Inc. for making false or misleading statements regarding their use of AI. The firms agreed to settle the SEC's charges and pay $400,000 in total civil penalties.
• On June 11, 2024, the SEC charged Ilit Raz, CEO and founder of the AI recruitment startup Joonko, with defrauding investors of at least $21 million. On the same day, the US Attorney's Office for the Southern District of New York announced criminal charges against Raz.
• On September 10, 2024, the SEC posted a video with SEC Chair Gary Gensler, discussing AI related disclosure risks and the importance of companies having a reasonable basis for claims they make regarding AI.
• On October 10, 2024, the SEC announced charges against Rimar Capital entities and owner Itai Liptz for defrauding investors by making false and misleading statements about the use of AI. The parties agreed to settle the SEC’s charges and pay $310,000 in total civil penalties.

Securities Class Action Litigation Based on AI Washing Claims

In addition to securities-based regulatory activity, shareholders have begun filing securities class actions in the United States alleging that companies and directors made materially false and misleading representations about the use of AI technologies. These lawsuits often follow the publication of an investor report that identifies the alleged misrepresentations, which is often followed by a decline in the company’s share price. Although, to our knowledge, no AI washing class actions have been filed in Canada, these cases preview the potential litigation risks Canadian issuers may face north of the border.

A few recent US examples include:

• In May 2022, a proposed class action was filed against Upstart, Inc., a cloud-based AI lending platform that claimed it leveraged AI technology to better quantify the true risk of a loan. The complaint alleges that the company made materially false and misleading statements by failing to disclose that its AI model could not adequately account for macroeconomic factors such as interest rates that impact the market-clearing price for loans, it was experiencing a negative impact on its conversion rate and was likely to use its balance sheet to fund loans. Upstart issued a press release on May 9, 2022, announcing its financial results for the first quarter of 2022 and detailing that the loans on the company’s balance sheet had more than doubled in just one quarter. As a result, the price of Upstart’s shares declined 56%. On September 29, 2023, a decision released in response to certain motions to dismiss and strike detailed that all but five claims of securities fraud against the Upstart defendants were dismissed. Two of these actionable claims pertained to statements about the advantages of Upstart’s AI underwriting model over traditional, FICO-based models, and statements about the ability of the model to “quickly adjust” to changing macroeconomic conditions. The matter currently awaits class certification.¹
• In February 2024, a proposed class action was filed against Innodata Inc., a global data engineering company that asserted it provided AI-enabled software platforms and services for AI data collection and other business processes. The complaint alleges that Innodata made materially false and misleading statements because it did not in fact have viable AI technology, its AI platform was in fact a rudimentary software developed by a handful of employees, it was not going to utilize AI to any significant degree in new contracts, and was not effectively investing in research and development for AI. Innodata's share price declined after an investor report was published alleging Innodata's AI was "smoke and mirrors".²
• In July 2024, a proposed class action was filed against Oddity Tech Inc., an online cosmetics platform. The lawsuit alleges, among other things, that Oddity had made materially false and misleading statements regarding its AI technology and capabilities and/or the extent to which AI technology drove the company's sales. A subsequent report alleged that the company's purported AI technology was merely a customer questionnaire, and that the company's reports of repeat customer sales were due to customers unknowingly entering into non-cancelable plans, not the result of AI technologies. Oddity's stock price declined after the report was released. On August 22, 2024, the case was transferred to the Southern District of New York.³

What Regulators are Saying in Canada

The CSA identified AI washing as a disclosure deficiency and a form of overly promotional disclosure during its most recent continuous disclosure review program.⁴ The CSA observed an increase in AI washing and offered guidance regarding disclosing AI practices, stating that “when describing current and proposed products, services or activities, issuers must not make false, misleading and exaggerated claims about their use of AI systems”. Issuers should ensure their disclosure of AI practices is factual, balanced and does not place undue emphasis on their AI practices.

The issue of AI washing in continuous disclosure documents and prospectus documents is firmly within the CSA’s scope of attention. We expect that any enforcement action will resemble enforcement action taken against greenwashing.

Ontario Securities Commission

The Ontario Securities Commission (the OSC) has issued several reports and publications concerning AI. In October 2023, the OSC released a report on AI in Ontario's capital markets. The report outlines current AI use cases, benefits, and challenges with the objective of raising awareness of the opportunities and risk associated with AI in capital markets. Notably, the report highlights a major challenge in adopting AI systems in capital markets, namely, their inherent lack of explainability. Unlike traditional mathematical models, AI systems are highly complex and often difficult to understand, which can hinder trust. Explainability is essential for building trust, however there is no agreed-upon definition of what explainability actually means in the AI industry.

In February 2024, the OSC issued an announcement highlighting their whistleblowing program, which actively seeks tips on novel and emerging issues in securities regulation, including the "misuse of algorithms and artificial intelligence." The OSC's focus on emerging issues underscores the growing importance of AI-related concerns and further signals that enforcement relating to AI washing is on the rise in Canada.

Autorité des marché financiers

The Autorité des marché financiers (the AMF) published a discussion paper on AI in February 2024 on the opportunities and issues associated with the use of AI in the industry. In Best Practices for the responsible use of AI in the financial sector, the AMF articulates practices to establish an adequate level of transparency regarding financial players' use of AI. The AMF's key points to increase transparency for consumers include disclosing information about the AI design and use of framework, disclosing information on the use of AI in products and services, explaining outcomes to the consumer related to transparency for consumers and the public, and providing consumers with communication channels and assistance and compensating mechanisms.

Board Oversight of AI

In its 2025 Benchmark Policy Guidelines for Canada, Glass Lewis identified potential risks of AI and indicated boards should “be cognizant of, and take steps to mitigate exposure to, any material risks that could arise from their use or development of AI”.⁵ Glass Lewis went on to recommend that companies that develop or employ AI provide clear disclosure regarding the board’s role in overseeing AI.

Key Takeaways

Although Canada has yet to see regulatory enforcement and class actions similar to those in the United States, the increasing volume of commentary and publications from the CSA and various market participants suggest these actions are coming.

Companies seeking to raise capital in Canada should view the CSA’s comments, and the SEC’s comments and enforcement actions, as a warning of what could soon come in Canada. Companies that use or develop AI should ensure their boards oversee risks related to AI and that shareholders are provided with meaningful and accurate disclosure regarding the role of the board in overseeing such risks. Issuers need to take care when disclosing their AI practices and market participants may want to adopt more rigorous due diligence practices rather than simply buying into the "hype" surrounding novel AI technologies.

As AI innovation continues to gain traction among market participants, a prudent approach to AI implementation, risk management and disclosure must be applied to safeguard investors and uphold market integrity.

To discuss how to manage AI use and related disclosure, please contact one of the authors.

The authors are grateful for the assistance of Nathalie Hunter, Summer Law Student, in connection with the preparation of this article.