Canada: Corporate Law; Contract Law: Unique Broadband Systems, Inc. (Re) 2014 ONCA 538

Last Updated: August 18 2014
Article by Gregory Hogan

Court of Appeal reiterates that business judgment rule is a rebuttable presumption; lack of expert advice to support, or reasonable, objective justification of, board decisions fatal to reliance

This appeal was of trial findings that (a) Unique Broadband Systems, Inc. ("UBS") was liable to its former CEO Gerald McGoey for enhanced severance, and (b) that Mr. McGoey was not entitled to certain compensation awards and for indemnification for legal and other expenses. UBS held an interest in Look Communications Inc. ("Look"), the primary asset of which was a band of telecommunications spectrum that, after an auction process, sold for a less than anticipated $80 million. It was expected that the sale would increase the share price of UBS. When this did not happen (the price remained in the range of $0.15), the board cancelled its stock appreciated rights ("SAR") plan and established a SAR cancellation payment pool using a price of $0.40 a share. It then also created a bonus pool of $3.4 million. Similar pools were established at Look. All in, the pools contained almost $15 million, which the Court noted was 97.6% the market capitalization of UBS. Mr. McGoey received $600,000 as his SAR cancellation award, $1.2 million from the bonus pool (to be paid on receiving the $80 million) and $5,565,696 in "Restructuring Awards" directly by Look. McGoey later received $200,000 to cover legal fees after shareholders began to object to these other payments. McGoey was removed from office by the shareholders, prompting him to resign as CEO. He argued that he had been terminated because he was not re-elected to the board, entitling him to enhanced severance of $9.5 million under his services agreement with UBS.

Directors need to act in an informed manner, in good faith, and in the best interests of the corporation to take advantage of the "business judgment rule"; documenting the basis of a decision and independent and expert advice will provide evidence of this. At trial, it was determined that Mr. McGoey breached his fiduciary duty to UBS and was not entitled to either his SAR cancellation payment nor his bonus payment. That the business judgment rule would only be of assistance to Mr. McGoey if he acted honestly and in good faith, with a view towards the best interests of the corporation, was the basis on which the actions of Mr. McGoey were examined. The trial judge focused on the use of a share price of $0.40, which was set at a time that the board knew that the market did not view the sale of the spectrum assets as favourably as the board did, and which was set by a compensation committee with no disinterested members as all held SARs (although each disclosed their interest in the SAR cancellation awards). She found "the decision... [was] driven by the board's own self interest, and not the interests of the corporation. There was nothing in it for UBS shareholders. As for Mr. McGoey's bonus, there was no business rationale for it". In short, the $0.40 share price was not objectively set and did not reflect the actual market price. The board decided to implement the SAR cancellation awards without the benefit of any independent or third party advice that might support their decision. Similarly, the bonus pool was created without any expert advice or any comparable or other executive compensation data. No documentation was provided to show how the size of the pool was determined. The Court of Appeal upheld the trial finding that the business judgment rule was of no assistance to Mr. McGoey because he did not satisfy the rule's preconditions of honesty, prudence, good faith, and a reasonable belief that his actions were in the best interests of the company. The Court of Appeal reminds us that the rule is a rebuttable presumption that directors or officers act on an informed basis, in good faith, and in the best interests of the corporation - a board that is engaged in conduct that has no legitimate business purpose and that is in breach of its fiduciary duties will not be provided deference.

Fiduciary duties and corporate law will inform the interpretation of contracts with executives. At trial, it was found that Mr. McGoey was entitled to enhanced severance as a breach of fiduciary duty was not found to be cause or a default, as such terms were defined under Mr. McGoey's services agreement. Interestingly, the interpretation at trial as to what constituted a default under Mr. McGoey's services agreement turned on the use of the word "and", which appeared to require the occurrence of two events as preconditions to a default under the agreement. The trial judge interpreted it in the conjunctive sense. The Court of Appeal found that the interpretation of the agreement at trial would result in a commercially absurd result, whereas interpreting the "and" as "or" did not, which is a principle of contractual interpretation. This was supported by s. 134(3) of the Business Corporations Act (Ontario) which states that no contract "relieves a director or officer from the duty to act in accordance with this Act and the regulations or relieves him or her from liability for a breach thereof". Interpreting the "and" in the conjunctive sense would relieve Mr. McGoey of his obligation to act in a manner that is consistent with his fiduciary duties and receive the enhanced severance under the services agreement.

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.

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Gregory Hogan
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