Blurred Lines: Securities

Leo E. Strine, Jr., Chief Justice of the Delaware Supreme Court, has never shied away from controversy. However, the wide range of his opinions are grounded in a vision as to the roles of boards and shareholders.

He has consistently reinforced the role of the board and the sanctity of the business-judgment rule.

In Canada, there doesn’t appear (yet) to be a singular voice such as Chief Justice Strine’s. Instead, we seem to have provincial securities commissions (there is no single, national regulator) vying for a degree of the jurisdiction formerly understood to belong to courts.

This initially became evident in contested take-over bids and related-party transactions but has moved into areas such as proxy access, executive compensation policies and dilutive acquisitions.

As provincial securities regulators expand their reach – especially the Ontario Securities Commission, which governs companies listed on the Toronto Stock Exchange – the courts are finding themselves preempted by securities commission rulings, say certain attorneys.

Some observers blame shareholder activism for the trend; more stringent governance practices appear to have triggered a power struggle over who is actually charting a company’s flight path, its shareholders or its board. Their interests are generally the same but not always. And when boards and their largest shareholders clash, Canadian securities regulators emphasize investor protection and come down hard for shareholder choice.



To step back for a moment, securities law in Canada traditionally focused on the world outside the corporation. Regulators governed market integrity and efficiency, protecting investors from unscrupulous brokers and promoters.

Corporate law ruled over most everything that happened inside, from directors’ duties to shareholder rights, and the distinction between the two seemed, in retrospect, fairly clear to all.

The borders started to crumble when regulators assumed responsibility for protecting minority shareholders in related-party transactions. That initial responsibility expanded to take-over defenses and, over time, regulators have used their public-interest jurisdiction to extend further still, says Edward Waitzer, who leads the governance group at Stikeman Elliott LLP in Toronto — adding that the definition of public interest “remains somewhat amorphous.”

Waitzer, a former Ontario Securities Commission chair, says the encroachment is putting boards of Canada’s publicly traded corporations on shaky ground with regulators regularly doing things like cease trading take-over defenses because they violate shareholders’ right to sell the company.

“In the US, most of these areas like poison pills are purely corporate law,” says Waitzer. “That’s what the Delaware court is all about.”

He says the contrast can be seen by comparing decisions in Air Products and Chemicals, Inc. v. Airgas, Inc. and In re Southern Peru Copper Corporation Shareholder Derivative Litigation with similar Canadian cases. He points to the British Columbia Securities Commission decision in Lions Gate Entertainment Corp., the OSC ruling in Baffinland Iron Mines Corp., the Québec securities regulator and courts in AbitibiBowater Inc. v. Fibrek Inc. and Ontario’s regulator and courts in Re Magna International Inc.

The way Delaware law has evolved, he says, highlights the shaky status of Canadian boards caught between two forces.

“On the one hand, you’re saying to directors, ‘You’ve got statutory duties to act in the best interests of the corporation. We’re going to hold you to those duties and have broad remedial powers to enforce that.’

“Then securities regulators step in and say, ‘We’re going to decide what your duties are, not you. We’re going to decide how long a pill should be outstanding. We’re going to decide whether you’ve conducted yourself properly on a related-party transaction. And we’re going to make those decisions not based on a court proceeding, where you have evidentiary discipline and a rigorous process. We’re going to make it on the basis of a casual one-day or half-day hearing where there’s no formal evidence. Oh, and we’re bringing the proceeding, not shareholders.’

“You end up undermining the responsibility of directors, who just say, ‘Ok, we’ll do whatever the commission tells us to do.’ Somebody needs to step back and redefine the boundaries because they’re getting very blurred.”


If one case illustrates what’s going on in Canada, it may well be Magna (a case Waitzer acted on).

The auto-parts company decided to collapse its dual-share structure into a single class of shares. Like so many other Canadian deals these days it was done as a plan of arrangement, which requires the purchaser to go to court for a fairness hearing after shareholders vote.

A number of Canadian pension funds opposed the proposal, which would pay company founder Frank Stronach an 1,800 percent premium for his multiple-voting shares.

Two weeks after the circular was mailed, the Ontario Securities Commission called a hearing, alleging the plan was contrary to the public interest.

Ultimately, the OSC rejected arguments that Magna’s board had failed to comply with its fiduciary duties, and found there was no reason to conclude the transaction was abusive of common shareholders.

It simply ordered Magna to provide additional disclosure. The proposal went to a shareholder vote and was approved by 75 per cent of the minority class A shares.

The institutions again voiced their concerns before an Ontario Court judge at a fairness hearing but, by then, the regulator had determined the transaction was not abusive and a majority of shareholders had approved it.

John Smith, a partner at Lawson Lundell LLP in Vancouver, says regulators and courts have complementary roles. But by the time take-over bids or related-party transactions done by plan of arrangement get before the court, he acknowledges, it’s usually a foregone conclusion.

“It would be a big step for the court to say, ‘We think the disclosure’s inadequate. We think the shareholders have been misled. Go back and hold the meeting again.’ That’s a tough thing for a court to do. So if the issuer elects to go that route, there’s a real disincentive for the court to fix this thing other than in a really egregious situation.”

Smith believes the role of the securities commission is simply to deal with the disclosure, not to say, “‘Do we think the transaction’s fair?’ The SEC would never get into that, they’d say that’s for the courts.

“Magna’s the interesting example. I would categorically say that to the extent the commission focused on making sure there’s full disclosure … that’s completely within their jurisdiction. But it’s a very big step for them to go beyond that and say they will adjudicate on their fairness of the transaction. That is not their job.”

But they have, and Waitzer says that highlights the problem.

“I think it annoys the courts because once a specialized tribunal adjudicates something, even if it’s a matter of corporate law, they’re supposed to defer. There is some unhappiness at having the commission step in ahead of them so they have to step back even though they think it may be bad law.…

“Basically, the commission is second-guessing boards who are exercising their duties under corporate law.”


When Sharon Geraghty, a partner at Torys LLP in Toronto, is working on a public-company deal that may have issues, one of the first things she does is bring in one of her firm’s litigators.

“If you’re in a situation, and this happens so much in M&A, where we think someone might challenge what we’re doing, we will definitely sit down and look at what we think is the best place for our client to be – where we will get the right result – and try to figure out how to get it there.”

She says the growing chasm is making it tactically more difficult.

“Securities regulators sharply put their stake in the ground in favor of shareholder primacy, which the institutional investors very much favor and like.

“The issuers, on the other hand, have very good arguments that shareholder primacy is not the right thing. They focus on the corporate law ... and say quite rightly that the courts take a more deferential approach to boards.

“So their view is that corporate governance has really improved, so you should be trusting the board. They want securities regulators to get out of this space and leave it to the courts.”

The way this tug-of-war falls out will have “a huge impact” on Canada’s capital markets, she predicts.

Jeffrey Leon, co-chair of litigation at Bennett Jones LLP in Toronto, believes the growing friction may reflect a disagreement inside Canada’s securities commissions.

“I think what’s happened on the corporate finance side of securities regulators is they’re pushing these issues on to the board, and presumably then to the courts, whereas the enforcement side of the commissions are getting more into corporate-law issues under their public-interest jurisdiction. You now have enforcement staff taking a much broader view of that.”

He says one casualty amid all the dissonance is the longtime view that conduct had to be abusive of capital markets in order to trigger the public interest.

“The commissions – Ontario in particular – seem to have retracted from that position, indicating in the Biovail case [Biovail Corp. (Re)] in particular that you don’t have to have abusive conduct in order for it to be found contrary to the public interest.

“What that’s done is spurred on enforcement staff to take an increasingly proactive approach relying on the public-interest power.”

He says Magna really drove that home.

“Before Magna, you used to be able to think the conduct has to reach an abusive standard before you tripped the interest of the securities commissions. Now you can’t say that. Just about anything that staff thinks wasn’t a nice thing to do may be the subject of an allegation of acting contrary to the public interest.

“It creates so much uncertainty and ambiguity that I think, in effect, it runs contrary to the public interest.”

There can be positives to being in front of the regulator and not the courts, says Kent Kufeldt, regional leader of the Western Canada securities and capital markets group at Borden Ladner Gervais LLP.

For one thing, there is no guarantee in most provinces that the judge assigned to hear the case will have the business experience to deal with a complex commercial matter. “I think, there’s sometimes a reluctance to roll the dice on judges,” says Kufeldt. “So you go to the regulator. At least with the regulator that’s all they do.”

Also, until a regulatory hearing gets underway, counsel can pick up the phone and explain the client’s position to staff.

“Once you’re before a panel of the securities commission it’s very much like a court. But in the interim, when you’re dealing with staff, there’s an opportunity to have a conversation. And one thing that scares people off is court decisions are black and white. You have to be prepared for that.

“If you go to a panel, through that process, I think there’s an opportunity to reach a consensus or work out a solution.”


There is one final complication in this fight over who regulates what in Canada. Ottawa.

The federal government has circulated proposals for comment on modernizing the Canadian Business Corporations Act, the federal business statute. Over 235,000 companies are incorporated under the CBCA, including over 700 distributing or publicly held corporations — about half the companies listed on the Toronto Stock Exchange.

Many of the changes being floated could put corporate law right back into the ring with securities law.

The consultation paper asks whether the statute should be more rigorous regarding publicly traded corporations and expand into areas such as mandated board diversity, take-over bids, corporate social responsibility and creating a role for shareholders on dilutive transactions.

Francis Legault, a senior partner at Norton Rose Fulbright Canada LLP in Montréal, says some of the proposals would just create more overlap.

“They’re proposing a shareholder advisory vote on compensation packages and I think most people’s reaction here is that this is something securities regulators are already doing, mandating very detailed disclosure with respect to executive compensation.

“So, let me understand this. Disclosure is part of securities regulation — but say-on-pay would also be embedded in a CBCA statute?” He pauses. “Why?”

He’s also asking why Ottawa is now considering weighing in on things like voting for individual directors as opposed to slates, and imposing maximum one-year terms.

“Those things are already covered off by TSX rules. It’s strange because their consultation paper doesn’t acknowledge that this stuff is already covered off by TSX rules that apply to Canadian TSX-listed companies. It’s really strange.

“The proposed CBCA amendments cover all sorts of things. They cover over-voting and empty voting, looking for reaction, even as we have consultations by the Canadian Securities administrators on improvements to the back office on voting public-company shares. So there’s a disconnect. The problem is it causes confusion in market participants.”

Legault is blunt. He hopes the revised CBCA does not beef up its oversight as it’s hard to report to two masters giving contradictory instructions.

“It’s something that we’d like to avoid.”

Sandra Rubin is a freelance legal affairs writer.