Slowdown in Securities

There was no shortage of doubters after the Supreme Court of Canada (SCC) released its landmark 2015 trilogy setting the standard that plaintiffs must meet to satisfy the leave threshold for filing secondary market securities class actions.

“One plaintiff’s lawyer I was facing called it nothing but a speed bump,” says Matthew Milne-Smith of Davies Ward Phillips & Vineberg LLP in Toronto. “But it was a speed bump that wrecked his case.”
From all appearances, the trilogy — Canadian Imperial Bank of Commerce v. Green, Silver v. Imax Corporation and Trustees of the Millwright Regional Council of Ontario Pension Trust Fund v. Celestica Inc. (reported as CIBC v. Green, 2015 SCC 60) — did more than that. By enunciating a robust interpretation of the leave standard throughout Canada and mandating a realistic review of the evidence and meaningful legal analysis that substantiated a reasonable chance of success for a plaintiff, the SCC put an end to many courts’ tendency to rubber-stamp leave applications. “This meant that there was suddenly much more upside for defendants to fight leave vigorously,” says Andrea Laing in Blake, Cassels & Graydon LLP’s Toronto office.

Plaintiffs’ lawyers took note. “It has become clear that leave is a real barrier, not a walk,” says Michael Robb in Siskinds LLP’s London, Ontario office. “So people became rightfully cautious and careful to build cases up properly, something which is an impediment to taking on smaller matters.”

Indeed, according to NERA Economic Consulting’s report, “Trends in Canadian Securities Class Actions: 2017 Update,” the year saw only six new securities class actions filed, of which four related to the secondary market, bringing the average rate of filings from 2015 to 2017 “to about half that of the preceding seven years.” This led NERA to conclude that the slower rate of filings was more than a “temporary lull,” but rather the “new norm.”

Still, the extent to which NERA got that right is not clear. While Canadian lawyers on both sides of the Bar generally acknowledge the recent slowdown and the impact of the trilogy, many cite other factors that could spark rejuvenation in the number of filings. They include a turnaround from the current bull markets to a bear scenario. “When markets are going up, even bad news has less of an impact on a company’s stock price,” Robb says. “So in a rising market, there tend to be fewer securities class actions.”

Contrarily, however, there’s been a revitalization of the genre in the US, where NERA reports that securities class actions saw record growth for the third year in a row. Indeed, the 432 class actions filed in 2017 represented an 89 per cent increase over the last two years, a growth rate not seen since the late 1990s. NERA’s statistics indicate that the record pace continued through the first six months of 2018. 
Still, the statistics from the US bear cautious analysis. “The US and Canada have different statutory regimes and different jurisprudence, so even when there are consistent external factors, these factors can have inconsistent consequences on either side of the border,” Milne-Smith says. 

It is true that the proportion of Canadian statutory secondary market cases that originated with parallel filings in the US have risen steadily, constituting 48 per cent of filings between 2011 and 2017 compared to 37 per cent between 2006 and 2010. The fact that there were no such filings in Canada in 2017, therefore, bucks the trend, and undoubtedly contributed to the low number of filings in that year.
Nonetheless, the securities class action litigation risk for companies listed in Canada is substantially lower than for companies listed on major US exchanges — and the gap has widened over the last three years. “In short, while the much larger number of annual filings in the US is partly a function of the larger number of listed companies, it is also due to the substantially greater probability of a company being sued in the US,” wrote the authors of NERA’s 2017 Canadian report.

Finally, federal merger-objection filings — sometimes called “strike suits” — dominated in the US, growing for a record fifth straight year and representing some 46 per cent of filings. In contrast, strike suits have not fared well in Canada: in 2015, in Theratechnologies Inc. v. 121851 Canada Inc., 2015 SCC 18, a Québec case that was a forerunner to the trilogy and featured a leave provision that corresponded to the Ontario legislation that was the subject of the trilogy, the SCC ruled that leave was intended to be a “meaningful screening mechanism” designed to prevent “costly strike suits with little chance of success.”
There are other factors that make securities class actions less attractive in Canada as well. For example, the US is a no-cost regime; in Canada, only British Columbia is a no-cost regime while Québec caps costs. In the other provinces, unsuccessful parties on leave applications bear the costs. “Some companies have been very successful at mounting a massive defence to leave motions that requires a response involving huge resources of time and money,” Robb says. “So, even in a good case, our assessment of the economics has to build in that risk.”

Damages are also treated differently in the two jurisdictions. In Canada, if a stock price recovers, damages are erased; the US, however, has a “snapshot” approach that fixes damages at a certain time. “So whenever you see a stock drop in the US, you tend to see cases filed,” Robb says. “We’re more cautious here in Canada.”

Finally, the U.S. Securities and Exchange Commission governs a far larger population and is considerably more aggressive than its Canadian counterparts. “That’s important because class counsel can piggyback their cases on regulatory investigation and findings,” says Wendy Berman in Cassels Brock & Blackwell LLP’s Toronto office. “In 2017, for example, the Canadian Securities Administrators took actions against only seven companies for disclosure violations.”

The upshot is that securities class actions now give plaintiffs’ lawyers much greater pause for thought than they did in the past. “The SCC breathed life into the idea that the plaintiffs must introduce some evidence to show that they can succeed and that the court must do a full analysis of that evidence,” Berman says. “Plaintiffs’ counsel now have to invest significantly at the outset of the case in terms of marshalling factual and expert evidence.”

In other words, a fortified leave test has caused plaintiffs’ lawyers, working on contingency, to look harder at their financial metrics. “We’re seeing a more conservative approach from plaintiffs who have to invest resources up front in securities class actions,” Laing says. “There are also other types of capital markets cases, such as the ones relating to the manipulation of financial benchmarks, that don’t require leave and will divert resources available for securities class actions.”

Robb, a plaintiffs’ side counsel, agrees. “The leave mechanism has a definite impact even before we file, because the heightened standard means we have to do careful vetting and screening before we consider jumping into these things,” he says. “There’s no doubt that the jurisprudence on leave standards has impacted the way counsel and investors assess value.”

For his part, Milne-Smith believes that plaintiffs’ counsel have been on a learning curve. “What they’ve come to see is that what might appear to be a straightforward case of misrepresentation can turn out to be a complex case of business executives exercising their best judgment in trying circumstances,” he says. “Sometimes they’ll get it right and sometimes they’ll get it wrong, but our courts have recognized that merely getting it wrong doesn’t merit a multi-million-dollar class action based on tortious conduct.”

All this having been said, Laing, for one, remains hesitant to anoint the current downturn in securities class actions as the new norm. “What Canada is experiencing so far is a little bit of a slowdown,” she says. “We’ll have to wait and see, especially because it takes from six to 18 months for US actions to spur copycat cases in Canada.”

The statistics alone don’t determine the issue — certainly not based on the sparse sample size that exists. The Ontario Court of Appeal’s decision in Yip v. HSBC Holdings plc, 2018 ONCA 626, represented the only case decided in 2018 that involved a leave application. But even there, the decision was not based on the merits of the case but on the fact that the alleged misconduct occurred outside Canada.
According to NERA, of the 144 securities class actions filed since 1997, 25, or 17.4 per cent, had been denied leave or certification. Some 81 of these cases were statutory secondary market matters and 14 of these, or 17.3 per cent, have been denied leave or certification (10) or discontinued (four). Claims in 35 cases have been settled and 32 remain unresolved.

What the statistics don’t tell us is how many of the leave applications were contested or how many were resolved on consent. Without this information in the context of an appropriate sample size, it’s hard to know just what the 2017 statistics mean going forward.

The good news for the business community, however, is that the near-panic that transpired before the enactment of Ontario’s secondary market liability regime in 2005 (the first in Canada) has proved to be unwarranted. “There was a perception for some period of time before and after the enactment of the legislation that securities class actions might be low-hanging fruit for plaintiffs’ lawyers,” Milne-Smith says. “Practice has proven that this is not in fact the case.”