Over the past few decades, public companies have had to provide information to investors on all material aspects of their business activities, their financial performance and their future projects. This continuous reporting is done through periodic disclosure in the form of public documents and releases describing material changes.
In 2005, the Autorité des marchés financiers du Québec adopted National Instruments (NI) 51-102,1 52-1092 and 58-1013 to specify the nature and scope of information to disclose, to make certain officers accountable for information-gathering and for the accuracy of communications, and to require the disclosure of governance practices. The Québec Securities Act and NI 51-102 provide that a reporting issuer must provide periodic reports of continuous disclosure, including an annual information form (AIF) and a management discussion and analysis form (MD&A), which must be filed annually.
As we will see below, NI 51-102 Forms and Policy Statement 51-102 have specified the environmental content of periodic disclosures.
However, many stakeholders are still unsatisfied with the scope and the generic character of environmental disclosures.4 Some authors even talk about a "disclosure gap" to describe this lack of consistency between regulatory requirements and disclosures filed.5 These discrepancies are also observed in climate change risk disclosures.6
In response to the pressures made by various segments of society,7 financial market authorities have looked at environmental disclosures by companies whose activities affect the environment and have severely criticized them.8
On October 27, 2010, the Canadian Securities Administrators published CSA Staff Notice 51-333, Environmental Reporting Guidance to assist reporting issuers in meeting their existing obligations to disclose environmental information. Notice 51-333 provides guidelines to assess the materiality of environmental information and examples of adequate disclosure. It also points out that, as of January 1, 2011, reporting issuers may have to disclose more information about environmental liabilities, as the International Financial Reporting Standards may require greater accruals for environmental liabilities, compared to the Canadian GAAP.
It is in this evolving context, which appears to be moving towards increased environmental disclosure, that we shall address two issues that consistently arise when directors, officers and advisors of corporations consider the information gathered and identify the information to be reported, namely (a) evaluating the threshold of materiality of information beyond which disclosure is required, and (b) the breadth of forward-looking information to be disclosed.
2. Material Information
Securities laws and regulations define what is material information, the disclosure of which is required. Canadian and American courts have shed some light on the materiality threshold and on the analysis required to determine the materiality threshold in a given context.
a) Statutory Definition
The materiality threshold above which information must be disclosed is defined in Québec in the Securities Act (QSA),9 as well as in Forms 1 and 2 of Regulation 51-102.10
The QSA provides that a reporting issuer must periodically disclose information about its business and internal affairs in compliance with regulatory requirements.11
Regulation 51-102 provides that material information must be disclosed in the annual information form (AIF) and the MD&A.12
In the AIF, the reporting issuer must (i) describe the environmental requirements applicable to the corporation as well as their effects on capital expenditures, earnings and competitive position of the corporation;13 (ii) mention environmental and social policies fundamental to operations, as well as steps taken to implement these policies;14 (iii) list material environmental and public health risk factors relating to the company's operations;15 and (iv) describe all civil and regulatory proceedings, current and contemplated.16
The MD&A must give material information on the current and future activities of the corporation, including the information that complements and supplements the financial statements and that may not be fully reflected therein. It must discuss important trends and risks that could affect the financial statements or that are reasonably likely to affect them in the future.
Each AIF and MD&A must be certified by the chief executive officer and the chief financial officer as to the adequacy of the management and data collection systems and, to their knowledge, as to the accuracy of the disclosures.17 This certification includes the collection and disclosure of information on the environmental performance and responsibilities of the company.
Public companies that fail to report material information in an AIF or in a MD&A could be subject to penal proceedings18 by the AMF, a statutory civil action taken by investors19 and civil liability proceedings under Article 1457 of the Civil Code of Québec (CCQ). The AIF and the MD&A are core documents within the meaning of Section 225.3 of the QSA.
The forms to Regulation 51-102 set out the following test to determine if information is material: "Would a reasonable investor's decision whether or not to buy, sell or hold securities in your company likely be influenced or changed if the information in question was omitted or misstated?"20
This regulatory test of what constitutes material information to be reported in periodic continuous disclosure documents, based on the decision of a reasonable investor, is different from the test for what constitutes a material fact under the QSA, which is used in public offerings of securities.21 Assessing a material fact is based on its impact on the market, meaning that information must be disclosed if it has the potential of changing the value or the price of the securities of the corporation. The rights to undertake statutory civil proceedings under the QSA are based on the existence of a misrepresentation, itself defined as any misleading information on a material fact22 and therefore capable of affecting the value or the price of securities.
The Canadian definition of material information is similar to that adopted in the United States.23 Canadian courts often refer to the more abundant American case law to establish the parameters of materiality.24 We shall do the same in this article.
Even though the reasonable investor standard is an objective one, its appreciation is based on the facts and circumstances of each case. The decision to disclose information, or not to disclose it, must result from a rigorous analysis of all relevant facts and the potential impact of such information. This decision must also take into consideration the expectations and concerns of a reasonable investor.
In a recent ruling,25 the Ontario Securities Commission (OSC) describes the assessment of the materiality of a statement as follows:
Accordingly, the assessment of the materiality of a statement is a question of mixed fact and law that requires a contextual determination that takes into account all of the circumstances including the size and nature of the issuer and its business, the nature of the statement and the specific circumstances in which the statement was made. The reasonable investor standard for determining materiality articulated in TSC Industries has been accepted and applied by the Commission in a number of decisions.
The notion of "reasonable investor" is evolving and does not only include economic components. It also reflects social values and fluctuating market trends, at a given time. The person who must determine the impact of information on the decision of this virtual person must therefore try to understand the economic expectations of investors generally, as affected by contemporary social concerns, and determine what would be capable of influencing this person.
b) Case Law
The courts have set out certain principles that define the materiality threshold of information to be disclosed and that illustrate what they believe to be consistent with a reasonable investor's behaviour. Although these decisions do not address environmental information directly, they are helpful to understand how to assess materiality. We set out some of these principles below.
(i) Potential Impact
In Kripps v. Touche Ross,26 it was decided that for information to be material, it is not sufficient to establish that it "could potentially" influence the decision of a reasonable investor; it must be demonstrated that it "probably would."
(ii) Excessive Disclosure
In YBM,27 excessive disclosure that includes immaterial facts is qualified as "counter-productive." This approach results in overwhelming the reasonable investor, watering down material information and creating confusion in the investor's mind. The court specified that judgment and common sense should prevail.
In TSC Industries, the judge states the following:
...if the standard of materiality is unnecessarily low, not only may the corporation and its management be subject to liability for insignificant omissions or misstatements, but also management's fear of exposing itself to substantial liability may cause it simply to bury the shareholders in an avalanche of trivial information — a result that is hardly conducive to informed decision-making.28
(iii) Company-Specific Risks
Continuous disclosure reports must contain information describing material risks that are specific to the company. It is insufficient, if there are company-specific risks, to mention risks shared by the whole industry or risks affecting all companies within a given geographical area.29 In this decision, there was a report from one of the Board committees on the corruption of certain employees who would have had links with organized crimes in Eastern Europe.
(iv) Time of Determination
The determination of materiality of information must take into consideration the information available at the time of reporting, and not after the filing of disclosure documents, when all the information becomes available.30
(v) Indemnity Agreements
In Levine v. N.L. Industries,31 the court decided that the reporting issuer may take into account indemnity agreements given by a solvent person, in this case the government, in the determination of the materiality of information. If the indemnity agreements are such that they remove potential liability, disclosure of potential liability is not required. This case involved a uranium-processing facility operated in violation of federal environmental laws by the subsidiary of a reporting issuer, and potentially resulting in significant compliance costs.
(vi) Statutory Violations
American courts have decided that existing violations of environmental laws, in the absence of litigation, could constitute material information to be disclosed.32
c) Environmental Information
Since the 1980s, American courts and the Securities Exchange Commission (SEC) have rendered several decisions on the disclosure of environmental information.
Some of them address the accounting treatment of environmental information, such as the failure to audit, assess and disclose in financial statements and continuous disclosure documents the costs of groundwater contamination remediation,33 and the inappropriate use of reserves for site clean-ups.34
Other decisions examine the materiality of environmental information and the necessity of disclosing it. In SEC v. Allied Chemical Corporation,35 the company had failed to disclose the discharge of contaminants in the environment, for which the company knew the impact. In re Occidental Petroleum Corporation36 involved one of the worst environmental disasters in the United States, commonly called the Love Canal case. The court decided that the company should have disclosed the leaching of chemical waste in the groundwater of a residential area.
In Endo,37 the company disclosed that it had retained certain environmental liabilities after the sale of one of its subsidiaries, but did not believe that these liabilities were material. This general information was deemed insufficient due to the significant economic value of these liabilities, which were then assessed at $60 million.
Failure to disclose the estimated material cost of measures required to ensure regulatory compliance of a plant's air emissions38 was also found inadequate.
However, it was decided that a chemical product manufacturer must not describe general risks associated with his activities in the continuous disclosure documents, since these risks are common knowledge and more detailed information on these risks is easily accessible in other types of documents.39
3. Forward-Looking Information
Another considerable challenge for those who prepare continuous disclosure documents is determining if they must disclose a liability or a fact that has not yet materialized, if they have knowledge of facts that could lead to its realization. Of course, they must disclose only if this forward-looking information is material, but what are the bounds of foreseeability? How far must corporate officers look into the future?
Forward-looking information is defined under Section 5 of the QSA as disclosure regarding possible events, situations or operating results that is based on assumptions about future economic conditions and courses of action. Forward-looking information that would have to be disclosed if material could come from various sources, including all documents published by the reporting issuer and made public, as well as information presented on the reporting issuer's website.40
When forward-looking information is disclosed, it must be identified as such and worded cautiously by specifying that the results may vary from forecasts and mentioning risks that could influence these results.41 Assumptions used and the policy for updating forward-looking information must also be stated.42 These specifications may give rise to certain defences in the event of statutory civil recourses.43
Forward-looking information may be divided into two categories: (i) contingent liabilities that must be disclosed in financial statements, the MD&A or the AIF;44 and (ii) information that is to be disclosed in the MD&A for the purpose of providing comments and a context to the financial statements, including important trends and risks that have affected the financial statements and that are reasonably likely to affect them in the future.45
For example, the rehabilitation costs for an industrial site on which activities will be terminated in short order and the expenditures for upgrading the effluent treatment equipment anticipated for the next three years are contingent liabilities, the disclosure of which is required if the expenses are material. On the other hand, the eventual adoption of regulatory standards requiring greenhouse gas (GHG) reductions and establishing a cap-and-trade system for offsets corresponds to a trend, a prospective risk, the disclosure of which is required in the MD&A if the financial consequences of their adoption on the company is or will be material.
American case law has developed a test to determine if a fact or a future trend must be disclosed; called the double-negative standard, it has been recognized and recommended by the SEC.46
This test reads as follows:
- Is the fact or future trend likely to come to fruition?
- If management cannot make that determination, it must presume that it will and make an objective evaluation of the consequences.
- Disclosure is not required if a material effect on financial condition or results of operations in not reasonably likely to occur.
In Danier,47 the board of directors had approved the wording of a prospectus that was filed for a public offering of securities. After the filing of the prospectus, but prior to the closing date of the public offering, the board of directors found out that the financial results of the last quarter were lagging behind the forecast set out in the prospectus. The Supreme Court of Canada decided that it was a material fact that, if known at the time the prospectus had been prepared, should have been disclosed. As this forward-looking fact was not foreseeable, it could not have been disclosed.48
Neither regulation nor case law establish a time limit beyond which a reporting issuer must not question material facts or beyond which disclosure of a forward-looking information is not required. In Policy Statement to NI51-102, it is specified that the reporting issuer must consider the nature of its industry and its operating cycle to determine the time period.49 In the United States, Regulation S-K provides that a two-year period is sufficient for an estimate, except where the absence of disclosure of a future fact that would happen more than two years later is misleading.50
b) The Specific Case of Climate Change
Observation by the scientific community of global warming and of the resulting climate and physical phenomena has led to social debates on the permanence of warming, its causes and ways to stabilize warming. The debate is mostly on the future impact of this phenomenon.
In the European Union, a regulatory regime requires the progressive reduction of GHG and permits the trading of allowances and offsets to attain reductions.
In Canada, two provinces, British Columbia and Québec, have implemented a carbon tax. A third province, Alberta, has adopted a statutory regime to reduce GHG emissions based on the intensity of reductions that is less stringent than the European rules and is the only mandatory regime in North America. There is no federal regulatory regime yet,51 except for the obligation imposed on certain large emitters to report their GHG emissions on a yearly basis.52
Many voluntary initiatives and programs include government,53 institutional investors54 and industrial55 stakeholders who promote emissions reduction, the dissemination of information on emissions and the adoption of regulatory standards requiring reductions.
The Canadian Institute of Chartered Accountants (CICA) has already emphasized the importance of considering the challenges related to climate change when preparing the MD&A and provided guidelines on the issues that may require disclosure.56
More recently still, the SEC published a guide explaining the application of existing disclosure rules to climate change matters.57 The SEC recommends a review of facts, trends and liabilities, current and future, related to climate change that could have a material impact on a public company, in order to determine if they must be disclosed in the AIF or the MD&A.58
Although the requirement to disclose information related to climate change is the subject of controversy,59 it would be wise to consider the current and future consequences of this issue on the financial results of a public company, where a significant part of its operations and markets are in jurisdictions that have already adopted GHG regulation.
A few American court decisions,60 as well as the settlement agreement of a criminal action initiated by the Attorney General of the State of New York against energy producers,61 establish precedents that heighten the importance of climate change issues.
The instances and quality of environmental disclosures related to climate change have increased over the last few years.62
Social pressures in North America and Europe for more precise and comprehensive disclosure of material environmental information have intensified over the last few years, including with regard to the disclosure by public companies in continuous information documents.
More specifically, investors are seeking a more stringent and uniform system for reporting environmental information, one that would enhance the reliability of disclosed information.63 Investment brokers are developing ethical investment fund products that require in-depth analysis of the environmental and social performance of public companies, which they can only conduct superficially if disclosures are inadequate.64
It therefore seems to us that the expectations and the behaviour of the reasonable investor are evolving and the decision made today by this investor to buy, sell or hold securities issued by a public company is more influenced by material environmental information, than it was even a few years ago. It also appears that the reasonable investor is no longer influenced only by the economic consequences of environmental information, but also by non-financial factors, such as environmental performance and its impact on a company's reputation.
1. National Instrument 51-102 respecting Continuous Disclosure Obligations, Autorité des marchés financiers du Québec (AMF), in force June 1, 2005.
2. National Instrument 52-109 respecting Certification of Disclosure in Issuer's Annual and Interim Filings, AMF, in force June 1, 2005.
3. National Instrument 58-101 respecting Disclosure of Corporate Governance Practices, AMF, in force June 1, 2005.
4. Wagner, Constance; "Corporate Environmental Reporting and Climate Change Risk: The Need for Reform of Securities and Exchange Commission Disclosure Rules"; 11 Transactions: Tenn. J. Bus. L. 152 (2009-2010), p. 153.
5. "Corporate Social Reporting Initiative — Report to Minister of Finance," prepared by the Hennick Centre for Business and Law and Jantzi-Sustainalytics, in 2009 (Hennick Report), p. 12.
6. A review of annual reports for 2009 filed by 400 public companies with the Securities Exchange Commission revealed that only 17 per cent of reviewed reporting issuers mentioned climate change risks; in Tonello, Matteo, "Sustainability in the Boardroom," The Conference Board, No. DN-008, June 2010, in note 39 of its text; only 24 of the 1,400 reporting issuers listed on the Toronto Stock Exchange have filed a report on social responsibility by using the Global Reporting Initiative in 2009 (Hennick Report, supra, note 5, p. 12).
7. Through various means, stakeholders, shareholders, institutional investors and professional groups have shown their interest in having more detailed, more complete and more systematic information available to them. See: Hennick Report, supra, note 5, p. 12; Wagner, Constance, supra, note 4, p. 154; Tonello, Matteo, supra, note 6, p. 3
8. For example, the Ontario and Alberta securities commissions examined the corporate environmental disclosures in sectors related to the environment, and came to the conclusions that these disclosures were general and inadequate. See: OSC Staff Notice 51-716 – Environmental Reporting, (2008) 31 OS CB 2223; and "Continuous Disclosure Review Program," ASC, February 2008, p. 20.
9. RSQ c. V-1.1 (QSA).
10. Supra, note 1.
11. Section 73 QSA.
12. Part 4A for the MD&A and Part 6 for the AIF.
13. Section 5.1(1)(k) of Form 51-102F2.
14. Section 5.1(4) of Form 51-102F2.
15. Section 5.2 of Form 51-102F2.
16. Section 12 of Form 51-102F2. Civil proceedings must not be disclosed if damages claimed do not exceed 10 per cent of the corporation's assets. Significant penalties or sanctions imposed by a court or a regulatory authority must be disclosed.
17. NI 52-109.
18. Sections 73, 202 and 203 of the QSA.
19. Sections 218 and 225.2 and following of the QSA.
20. Part 1(e) Form 51-102F2 for the AIF and Part 1(f) of Form 51-102F1 for the MD&A. This definition is in keeping with that of the CICA Handbook governing information to be reported in financial statements.
21. A material fact also differs from a material change, which must be published immediately. See: Kerr v. Danier Leather Inc.,  3 S.C.R. 331, para. 38, which specifies the differences between the two notions; and In the Matter of Piergiorgio Donnini, OSC Panel, September 12, 2002, p. 34; confirmed by the Ontario Court of Appeal, 2005 CanLii 1622.
22. Section 5 QSA.
23. In a document entitled "SEC Guidance Regarding Disclosure Related to Climate Change; Final Rule," Federal Register/Vol. 75, No. 25, February 8, 2010, the United States Securities Exchange Commission (SEC) states at p. 6293 that "Information is material if there is a likelihood that a reasonable investor would consider it important in deciding how to vote or make an investment decision, or, put another way, if the information would alter the total mix of available information."
24. See, for example, Donnini, supra, note 21, pp. 36 and following and In the Matter of YBM Magnex International Inc., (2003) 26 OSCB 5285, para. 101.
25. In the Matter of Biovail Corporation, Eugene Melnyk et al, OSC Panel, September 30, 2010, p. 16.
26. 1997 CanLii 2007, (CACB), p. 48.
27. YBM, supra, note 24, p. 23.
28. TSC Industries Inc. v. Northway Inc., 426 US, 438 (1976), p. 448.
29. YBM, supra, note 24, p. 40.
30. Danier, supra, note 21, para. 40; In re Union Carbide Class Action Securities Litigation, 648 F Supp 1322.
31. 926 F. 2d 199 (US, CA 2nd circuit), February 15, 1991 (Levine), p. 5.
32. Levine, supra, note 31, p. 4;Grossman v. Waste Management, 589 F. Supp. 395 (N.D. 111, 1984); SEC v. Texas Gulf Sulfur Co., 401 F 2d 833, p. 849.
33. In the Matter of Lee Pharmaceuticals, Exchange Act Release No. 39843, 1998 SEC LEXIS 691 (April 9, 1998). In this case, the reserves created were deemed insufficient.
34. In In re Ashland Inc., Exchange Act Release No. 54830, 2006 SEC LEXIS 2738 (November 29, 2006) and in SEC v. Safety-Kleen Corp., Litigation Release No. 17891, 2002 SEC LEXIS 3169 (December 12, 2002), the reserve had been reduced without justification, which artificially scaled up revenues; see also SEC v. ConAgra Foods, Inc., Litigation Release No. 20206, 2007 SEC LEXIS 1610 (July 25, 2007) and SEC v. Buntrock, Litigation Release No. 17435, 2002 SEC LEXIS 736 (March 26, 2002) addressing inappropriate capitalization of environmental expenditures.
35. SEC v. Allied Chem. Corp., Litigation Release No. 7811, 1977 SEC LEXIS 2280 (March 4, 1977).
36. Exchange Act Release No. 16,950, 1980 SEC LEXIS 1158 (July 2, 1980).
37. Endo v. Arthur Andersen & Company, 163 F. 3d 463, January 4, 1999 (US Court of Appeals, 7th circuit).
38. In re U.S. Steel Corporation, Exchange Act Release No. 16,223 [1979-1980 Transfer Binder] (Sept. 27, 1979).
39. In re Union Carbide Class Action Securities Litigation, supra, note 30.
40. Companion policy to NI51-102, Part 4A.1.
41. NI51-102, Part 4A.3(a) and (b).
42. NI51-102, Part 4A.3(c) and (d).
43. Section 218 for the primary market and sections 225.2 and 225.8 for the secondary market.
44. Form 51-102F2, Part 1(f) and 51-102F1, Part 1, p. 79, Section 1.4(d).
45. Form 51-102F1, Part 1(a). Additional information and precautions that must be followed when reporting forward-looking information are listed under Part 4A.3 NI 51-102.
46. See SEC Release No. 33-6853 (May 18, 1989) and SEC Guide, p. 6295.
47. Supra, note 21.
48. The court, however, concluded that this fact was not a material change requiring immediate disclosure.
49. Policy Statement to NI 51-102, Part 4A.8.
50. Davis Polk & Wardwell, "Environmental Disclosure in SEC Filings – 2009," January 21, 2009, p. 4.
51. It is interesting to note the existence in Montréal of the Climate Exchange, where futures for offsets that will eventually be created under a federal regime can be exchanged.
52. The obligation to report GHG emissions also exists in most Canadian provinces.
53. For example, the membership of the Western Climate Initiative includes American states and Canadian provinces that intend to set up a regulatory system of emissions reduction and exchange of emission allowances and offsets starting in 2011.
54. See in particular the initiatives of the Carbon Disclosure Project and the Investor Network on Climate Risk (INCR), which seek disclosure by public companies of their GHG emissions as well as their strategies to reduce these emissions.
55. See in particular the voluntary disclosures made by companies publishing social responsibility reports in accordance with the GRI rules and filing emissions and reduction data with the Climate Registry and the Chicago Climate Exchange.
56. "Guide: CICA Disclosure Brief," published in 2005 suggesting what a MD&A should contain; and "Building a Better MD&A, Climate Change Disclosures," published in 2009, recommending the disclosure of business strategies, physical, regulatory and reputational risks, litigation, foreseeable financial impact, governance policies implemented to address this issue, direct and indirect emissions as well as reduction costs.
57. The SEC guide, supra, note 23. The SEC gives examples of effects resulting from climate change for which disclosure may be required: costs related to regulatory compliance, the fluctuation of the demand for goods and services the manufacturing or use of which generate GHG emissions, the increase in the demand for renewable energy, the increase in the cost of fuel and reputation.
58. Ibid, p. 6291.
59. Boecher, N.M., "SEC Interpretive Guidance for Climate-Related Disclosures," 10 Sustainable Dev. L & Policy, 43 2009-2010, p. 43. A SEC Commissioner, Mrs. Kathleen L. Casey, stated that the risks of physical damages are not relevant as they are unforeseeable if they only happen over decades or centuries (January 27, 2010).
60. These court cases include Massachussetts v. EPA, 549 US 497 (2007) where the Supreme Court of the United States decided that the EPA has the authority to regulate CO2 emissions under the Clean Air Act; Native Village of Kivalina v. Exxon Mobil Corp., N.D. Cal., filed February 2008, dismissed in September 2009, and under appeal, where a claim for damages filed by residents of an Alaskan village against oil and energy companies was dismissed due to the political nature of climate change issues; Comer c. Murphy Oil USA, Inc., US, CA. (5th Circuit), #07-60756 (October 16, 2009) where residents and owners of land and property filed an action in damages against producers of fossil fuels for having contributed to the ferocity of Hurricane Katrina , which damaged their properties.
61. See settlement agreements in In re Xcell Energy Inc., Assurance of Discontinuance Pursuant to Executive Law No. 63(15), AOD #08-012 (August 26, 2008) and In re Dynegy Inc., Assurance of Discontinuance Pursuant to Executive Law No. 63(15), AOD #08-132 (October 23, 2008).
62. See examples of disclosure by public companies in the United States in 2009, indexed by Carter, Ledyard & Milburn, April 22, 2010.
63. Rapport Hennick, supra, note 5, page 20; et Dhir, Aaron A., "The Politics of Knowledge Dissemination: Corporate Reporting, Shareholder Voice, and Human Rights," 47 Osgoode Hall L.J. 47 (2009).
64. ICCA, "Environmental, Social and Governance (ESG) Issues in Institutional Investor Decision-Making," September 2010, p. 11.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.