The prevalence of shareholder activism should be of concern for companies given that Kingsdale Advisors reports that the average win-rate for management over the past three years has been 54%, with 15 of the 25 activists in 2019 as first-timers, suggesting that an activist can come from anywhere and the argument that they should be ignored is unlikely to be a successful one with the majority of shareholders. Also of note is that in 2019 for the first time, the number of settlements exceeded the number of contests going to a vote. Where settlements are achieved, boards should work together to advance the company, regardless of how the board came to be comprised.
Shareholder activists have had some success in blocking transactions proposed by corporations. The cannabis industry has been the subject of shareholder activism, which is experiencing growing pains similar to any emerging industry but with particular issues arising from the fact that until recently this was an illegal industry. There has also been an increase in short-selling activism. Recent changes have also made it easier for activists to access information to win a proxy fight.
Despite widespread adoption of advance notice bylaws, there is continuing concern about their potential misuse by management and boards. There has been a significant increase in shareholder proposals, primarily related to compensation, environmental, and board-related governance. Applications to the court and/or regulators continue to occur in proxy fights. Finally, Canada has now seen the introduction of guidance relating to the controversial practice of soliciting dealer arrangements.
Shareholder Activism Relating to Transactions
Over the past five years, approximately 28% of proxy fights have been transaction related. Given the costs involved in pursuing a transaction, in addition to the reputational damage, the implications of a failed transaction can be severe.
Most transactions in Canada are structured as plans of arrangement. In order for an arrangement to proceed, the court must determine that the transaction is fair and reasonable. The courts routinely approve arrangements; however, in two recent decisions in Canada, shareholders (one the founder and the other the former CEO and a present director) opposed the arrangements and the court refused to approve the transactions.
In InterOil Corporation v. Mulacek1 the court refused to approve a $2 billion acquisition of InterOil by Exxon when the former founder and director, who held 5.5% of the shares, objected to the arrangement. The court held that despite the fact that 80% of shareholders had voted in favor, the vote could be given weight only if it was an informed vote, which it was not as disclosure deficiencies did not properly allow shareholders to assess value. The court also found that the corporate governance process was seriously flawed. The court also found that the company should have obtained a fairness opinion from an independent financial advisor for a flat fee and the advisor’s analysis should have been disclosed.
Following the failure to obtain court approval, InterOil and Exxon entered into a new plan of arrangement correcting many of the deficiencies identified and the new arrangement was approved by the court. However, in subsequent proceedings, Carlock v. ExxonMobil Canada Holdings Inc.,2 the court again referred to the original flawed process. The proceedings related to dissent rights exercised by certain of the shareholders in connection with the second arrangement, the result of which is that the court held that the fair value of the shares was C$71.46, instead of the deal value of C$49.98. While the decision was largely based on differing views of gas prices, the court expressed concern that the original transaction price came about through a flawed corporate governance process. While the decision is under appeal, there is another recent decision relating to dissent proceedings in which the court ordered substantially more than the deal price. In Fibrek,3 the court determined the fair value of Fibrek’s shares was C$1.99. The cash-only option under the transaction was C$1.00 per share. Fibrek had offered to pay the dissenting shareholders C$.87, which was the equivalent of the cash and share option with no maximum redemption cash consideration. Along with the court’s determination that the fair value was C$1.99, the court also ordered an immediate payment of C$.87 per share plus interest at 5%, despite the right to appeal.
In Core Gold Inc.,4 the court refused to approve an arrangement opposed by Core’s former CEO and a present director. The vote narrowly met the required threshold. The court noted that the CEO had likely been terminated for refusing to support the transaction. The CEO presented extensive arguments at the hearing, including relating to the past conduct of the proposed acquirer, Titan Minerals, which was relevant as the Core shareholders would be receiving shares in Titan, rather than cash. The key factor in the court’s decision was the failure of Core to obtain an independent fairness opinion, rather than one based on a success fee, particularly in the face of serious concerns raised by an opposing expert.
These cases demonstrate the importance of process in any dealings with shareholders. This is a critical element for companies to defend themselves against allegations that they are treating shareholders unfairly, whether assessing if a transaction is fair and reasonable or defending against oppression allegations and in order to receive the benefit of the business judgment rule.
Moreover, novel ways are being used to attempt to defeat plans of arrangement. In Transat AT Inc. v. Group Mach Acquisition Inc.5 the Financial Markets Administrative Tribunal in Quebec issued a cease trade order over a mini-tender for 19.5% of the shares of Air Transat in an effort to defeat a plan of arrangement under which Air Canada would acquire Air Transat. The AMF found that the mini-tender was abusive for a number of reasons including that there was an insufficient time period in which to respond to the offer (11 days), proxies could be obtained for more than the maximum of 19.5% that could be taken up under the offer, and the disclosure was confusing in light of the short time frame. Nevertheless, the decision signals that in other circumstances, the use of a mini-tender may be appropriate.
Shareholder Activism in the Cannabis Industry
In late 2018, cannabis became fully legalized. As of the summer of 2019, there were over 200 publicly listed cannabis companies in Canada. Many of these companies have poor corporate governance and have been and likely will continue to be the subject of shareholder activism. As more institutional investors enter the industry, the demand for better corporate governance is likely to rise. Some of the difficulties arise from CEOs not having enough experience to lead their growing companies, particularly in the face of rising M&A activity in the industry.
There has been a string of executive departures in the cannabis industry. The founder of Canopy Growth left after Constellation Brands, Inc. invested over $4 billion in Canopy. Aphria Inc’s CEO and co-founder both left in 2019 after the company became the subject of a short-seller’s report (and related class actions) concerning a prior transaction undertaken by Aphria. A similar result occurred at Namaste Technologies Inc. when the CEO was terminated after the company became the subject of a short-seller’s report making various allegations, including wrongdoing regarding an alleged related-party transaction. Interestingly, in the news release announcing the CEO’s termination, the company admitted to potential wrongdoing relating to the transaction despite the fact that the company was the subject of securities class actions relating to the transaction, which were subsequently settled. Also of note is the fact that the company originally announced that the CEO had also been removed as a director, though this news release was later recanted after a court application. Another incidence of a CEO termination in the industry was at CannTrust Holdings Inc. after all sales were halted following a Health Canada investigation which alleged the company had illegally grown cannabis in unlicensed rooms, along with the fact that the CEO and chair had been aware of the wrongdoing, leading to their termination.
In order to withstand attacks by shareholders, companies in the cannabis industry, like other emerging industries, should consider whether they have appropriate management in place to move the company forward. This is more pronounced in the cannabis industry given that it is highly regulated, particularly if there is any cross-border element to the operations given the state of cannabis regulation in the United States. Moreover, the talents of the CEOs, which may primarily relate to cannabis growing, are unlikely to be the talents required to move a large company forward as it grows.
As noted above, Aphria’s and Namaste’s transactions both involved a report from a short-seller. Other companies that have been the subject of a short-seller report in recent years include Asanko Gold Inc., Northern Dynasty Metals Ltd, Valeant Pharmaceuticals (now Bausch), and Shopify Inc. Companies that are the subject of a short-sellers report often become the target of class actions and frequently find themselves engaged in litigation.
Short-selling activism is likely to continue, absent legislative change, as there has not been successful regulatory intervention with respect to short-sellers’ reports. In Carnes6 the securities commission dismissed allegations against a short-seller report about Silvercorp finding that while he used a fake name, fake bio, and fake research organization, such conduct did not amount to abuse. The securities commission noted that it was not their role to sanction all persons who publish opinions about public companies, regardless of how fake or warranted some of those opinions might be. Similarly, in Cohodes7 the securities commission found that there was insufficient evidence to support a prima facie contravention of the Securities Act against a short-seller’s report about Badger Daylighting Ltd. With respect to one statement that the securities commission found to be untrue, it found that it was not reasonably expected to have a significant effect on the market price or value of the shares.
Access to Information for Shareholders
Recent amendments to the Canada Business Corporations Act will make it easier for shareholder activists to solicit proxies and target those larger shareholders of the company, particularly in light of the existing exemption from distributing a circular if the solicitation is from less than 15 shareholders. Under the amendments, companies are required to maintain a register of shareholders with “significant control.” An individual with significant control is any individual who, directly or indirectly, holds registered or beneficial ownership of (i) shares that carry 25% or more of the voting rights attached to the corporation’s shares, or (ii) 25% or more of the corporation’s shares measured by fair market value. The share register must contain specified information about each individual with significant control, including name, birth date, address, jurisdiction of residence for tax purposes, the date on which the individual became or ceased to be an individual with significant control, and a description of how each individual is an individual with significant control (i.e., a description of the individual’s interests and rights in respect of shares of the corporation). The share register must be updated within 15 days of the corporation becoming aware of any change to the information required to be included in the share register. The register must be made available to shareholders on request.
In Hemming v. Jazz.FM91 Inc.,8 the court held that the requirement to disclose addresses included the requirement of a company to disclose the e-mail addresses of its shareholders. The e-mail addresses were then successfully used to launch a proxy fight. While companies typically communicate with their shareholders by mail, the use of e-mail addresses by an activist can provide the activist with a distinct advantage in any proxy fight.
Advance Notice Bylaws
The courts have repeatedly held that advance notice bylaws or policies are proper if introduced to ensure that shareholders have sufficient notice of a contested election of directors, as recently held by the court in BullRun River Capital Inc. v. GrowMax Resource Corp.9 Although the court refused to strike down portions of the policy, the court stated that it agreed that advance notice policies should be used to further shareholder democracy and should not be used by management or a board to entrench their position. In Central GoldTrust v. Sprott Asset Management,10 the court held that a bidder had not breached the target company’s advance notice policies. The court held that securityholders would have no concerns about an election by ambush as they would no longer be securityholders of the company as a result of the merger.
Proxy advisors ISS and Glass Lewis have specific guidelines concerning advance notice bylaws. For example, ISS states that enhanced and discretionary requirements for additional information that is not then provided to shareholders, provisions that may prohibit nominations based on restricted notice periods for postponed or adjourned meetings, and written confirmations from nominee directors in advance of joining the board are all examples of the types of provisions that have the potential to be misused and are outside the intended stated purpose of advance notice requirements.
The TSX’s position on advance notice bylaws similarly provides that provisions that frustrate or circumvent shareholders’ rights are not acceptable to the TSX; for example, requirements that nominating shareholders attend the meeting or unduly burdensome or unnecessary disclosure or document requirements.
While there is now a widespread use of advance notice bylaws, those companies that do not have such bylaws in place should consider their implementation, particularly in light of the recent decision in Russell v. Synex International Inc.,11 where the court held that proxies that had been voted from the floor in favor of directors not named in a circular were valid proxies. The court reiterated the presumption of giving effect to proxies so as not to disenfranchise shareholders’ votes.
According to the Kingsdale report, the use of shareholder proposals has dramatically increased from 53 in 2018 to 88 prior to the end of 2019. Notably, however, of the 88 proposals, 31% were withdrawn and only one passed. The proposals primarily related to compensation, environmental, and board-related governance. Corporate jurisdictions across Canada generally allow shareholders to make proposals at annual meetings and to have the proposal included in the management proxy circular for the company’s annual meeting.12 The issuer can reject a proposal if it does not relate in a significant way to the business or affairs of the company or if it is not submitted at least 90 days before the anniversary date of the company’s last notice of meeting.
A shareholder proposal can be used to nominate individual directors or to replace an entire board. For a number of reasons, the shareholder proposal provisions, although regularly used to raise social concerns or governance issues (e.g., say, on pay votes on executive compensation and board structure), are seldom used as a vehicle for director nominations. The deadline for submitting a proposal is effectively four to six months prior to the meeting date and is often passed before an activist investor has firmed-up its plans to take action. The statutory 500-word limitation is not conducive to advocacy. The provisions do not really alleviate the need to pay for and publish a dissident proxy circular since being included in management’s circular is generally insufficient for success. Also, a robust solicitation will generally still be required.
Use of the Oppression Remedy
The oppression remedy is another tool for activist investors. Although there has been some success in getting the court to intervene in an activist campaign, it is generally an uphill battle because of the deference paid to boards under the business judgment rule and the test upon which oppression is based. In Harrington Global Opportunities Fund Ltd. v. Eco Oro Minerals Corp.,13 the petitioners requisitioned a meeting in February 2017 for the purpose of replacing the board. The board called the shareholders’ meeting for April 25, 2017, and selected March 24, 2017, as the record date. On March 16, 2017, the board issued shares to certain shareholders issuable under certain convertible promissory notes, which the petitioners alleged had the effect of diluting the shareholdings of all the shareholders and of likely securing sufficient voting power in “friendly” shareholders for the board to withstand the vote to replace its members.
The court dismissed the petition finding that it was entirely reasonable for the conversion to occur before the record date to ensure the shareholders of the new shares could participate in the vote to replace the board. Further, there was no evidence that the conversion was not in the company’s best interests and the decision of the board to convert the notes to shares was a legitimate business decision.
A similar result occurred in Jaguar Financial Corp. v. Alternative Earth Resources Inc.14 where the court held that the company had not acted oppressively in requesting an extension of time to hold its AGM where shareholders were trying to block a transaction.
In Hastman v. St. Elias Mines Ltd.,15 the British Columbia Supreme Court refused to overturn a chair’s rejection of dissident proxies where the dissidents failed to correct material misstatements in their dissident proxy circular notwithstanding that the mistake had been pointed out to them.
Further, in BullRun Capital Inc. v. GrowMax Resources Corp.,16 the court accepted that the shareholders reasonably expected to be treated fairly during a proxy fight and allowed to exercise their statutory rights. However, the court found that there was no oppression by the company acting in accordance with statute or requirements and taking many actions commonly taken by companies such as rejecting a requisition three weeks after receiving the requisition, calling a meeting prior to rejecting the requisition, adopting an advance notice policy without shareholder approval, announcing a transaction at an opportune time, and soliciting proxies after the deadline without announcing such a waiver.
The court’s reluctance to intervene in a proxy contest has been evidenced by refusals to appoint independent Chairs or to impose protocols for a meeting.17
Applications to Regulators
Another avenue open to an activist is to involve the regulators in a proxy fight. In Eco Oro Minerals Corp.,18 the Ontario Securities Commission effectively reversed a transaction that occurred during a proxy fight to replace the board. The OSC held that even if the transaction was supported by the objective of an improved balance sheet, there was no compelling business objective for the transaction to close prior to the record date that would negate the tactical motive to tip the vote in favor of management.
Although the same facts were involved in both oppression proceedings before the court in BC and in the complaint before the OSC and effectively the same relief was sought in both forums, in Harrington Global Opportunities Fund Ltd. v. Eco Oro Minerals Corp.,19 the court held that both avenues were open to the requisitioning shareholders. The two proceedings were based on different statutes having different objectives. The Eco Oro decision was followed in Imex Systems Inc.20 where oppression proceedings were brought before the court` in Ontario, and there was a hearing and review of the decision of the TSXV before the BC Securities Commission. These decisions may support bringing a multiplicity of proceedings before both the courts and securities commissions. However, while there is authority for applications before both the regulators and the courts, the chances of success at forum shopping among provincial regulators is less likely to occur as demonstrated in the recent case of Mangrove Partners.21 In that decision the OSC declined to exercise jurisdiction in favor of the Alberta Securities Commission, who was the principal regulator of TransAlta Corporation, whose shares were sought to be cease traded, pending the satisfaction of certain conditions including a vote of the TransAlta shareholders, postponement of a shareholder meeting, additional disclosure, and the release from voting commitments.
The commissions have recognized the tension and overlapping jurisdiction between courts and the commissions previously in the context of private placements.22 The same principles that apply to the regulation of defensive tactics under securities law, which typically apply to take-over bids, can also apply to proxy fights.23 If applications are made to a securities commission, other than by way of appeal, the applicant will need to address whether they have standing. In Catalyst Capital Group Inc.,24 the OSC refused to grant standing for an application for better disclosure made shortly before the meeting.
Compensating Brokers for Soliciting Favorable Votes
The use of the controversial practice of a target company paying brokers to solicit favorable votes from retail shareholders in proxy battles was considered by the ASC in PointNorth Capital Inc.25 The ASC declined to invoke its public interest jurisdiction to prohibit soliciting dealer fees. There was no allegation that such arrangements contravene any applicable securities laws; however, it was alleged that these arrangements were not in the public interest and were in essence an improper defensive tactic used in a proxy contest. In order to exercise its public interest jurisdiction, the ASC determined that the conduct had to be clearly abusive of shareholders and the capital markets in general. The ASC found that securities laws set out comprehensive and detailed requirements for proxy solicitation and for the conduct of brokers. Soliciting dealer arrangements are not prohibited under such rules.
As the ASC did not find the arrangement or actions in implementing the plan to be clearly abusive, the ASC declined to exercise their public interest jurisdiction to stop the use of the soliciting dealer arrangements in the proxy contest.
Following the Liquor Stores decision, the CSA issued requests for comment.26 The CSA stated that from the perspective of the dealer, soliciting dealer arrangements raise issues respecting appropriate management of conflicts of interest as well as risks associated with potential solicitations of proxies. From the perspective of the issuer, soliciting dealer arrangements raise public interest–related questions as to whether those arrangements affect the integrity of the tendering process or securityholder vote, including by potentially being used to entrench the board and management. The Canadian Coalition for Good Governance has strongly publicly criticized the use of soliciting dealer arrangements and they are banned in the United States.
In May 2019, the Investment Industry Regulatory Organization of Canada (IIROC) published IIROC Notice 19-0092 Managing Conflicts of Interest from Soliciting Dealer Arrangements after consultation with the CSA and considering the feedback received from the CSA’s request for comment that effectively prohibits such fees in contested director elections. In other situations, like a vote on a transaction, the dealer must consider any conflicts of interest that arise. IIROC notes that disclosure of the conflict is not satisfactory, and the dealer must address how the conflict has been addressed in the client’s best interests.
InterOil Corporation v. Mulacek, 2016 YKCA 14
Carlock v. ExxonMobil Canada Holdings Inc., 2019 YKSC 10
Fibrek, 2019 QCCS 4003
Core Gold Inc., 2019 BCSC 1267
Transat AT Inc. v. Group Mach Acquisition Inc., 2019 QCTMF 44
Carnes, 2015 BCSECCOM 187
Cohodes, 2018 ABASC 161
Hemming v. Jazz.FM91 Inc., 2018 ONSC 7781, 2018 ONSC 7783
BullRun Capital Inc. v. GrowMax Resource Corp, 2019 ABQB 107
Central GoldTrust v. Sprott Asset Management, 2015 ONSC 4888
Russell v. Synex International Inc, 2019 BCSC 34
For example, Canada Business Corporations Act, R.S.C., 1985, c. C-44, section 137
Harrington Global Opportunities Fund Ltd. v. Eco Oro Minerals Corp., 2017 BCSC 664
Jaguar Financial Corp. v. Alternative Earth Resources Inc., 2016 BCCA 193
Hartman v. St. Elias Mines Ltd., 2013 BCSC 1069
BullRun Capital Inc. v. GrowMax Resources Corp., 2019 ABQB 107
Meson Capital v. Aberdeen, 2015 ONSC 532, Kingsway Financial v. Kobex Capital, 2015 BCSC 2155; however, see BullRun Capital Inc. v. GrowMax Resources Corp., 2019 ABQB 107 where the court appointed an independent chair.
Eco Oro Minerals Corp., 2017 ONSEC 23
Harrington Global Opportunities Fund Ltd. v. Eco Oro Minerals Corp., 2017 BCCA 224
Imex Systems Inc., 2019 BCSECCOM 23
Mangrove Partners, 2019 ONSEC 18
Red Eagle Mining Corp., 2015 BCSECCOM 401 at paras 71–73 and Hecla Mining, 2016 BCSECCOM 359, (in a joint hearing with the OSC). In both decisions, the commissions refused to cease trade the private placement. See also Point North Capital Inc., 2017 ABASC 121 where the commission considered the overlapping and concurrent jurisdiction between the courts and the commissions in a proxy fight.
Transat AT Inc. v. Group Mach Acquisition Inc., 2019 QCTMF 44
Catalyst Capital Group Inc., 2016 ONSEC 14; see also Pearson, 2018 ONSEC 53 and Mangrove Partners, 2019 ONSEC 18.
PointNorth Capital Inc., 2017 ABASC 121
CSA Staff Notice 61-303 and Request for Comment – Soliciting Dealer Arrangements