Please click on 'Previous Page' link at the end of this article to read Part One.
15. What factors should be considered in assessing the independence of advisors to the special committee?
When retaining advisors, the committee should consider the potential advisor's past, current and reasonably foreseeable relationships with the other parties involved in the transaction to ensure that the advice received is independent. Accordingly, the committee should ask any prospective advisor to disclose, subject to any applicable rules of conduct, the existence of any such relationships. For example, when selecting a financial advisor, the committee should consider whether the advisor has provided advice or other financial services to any of the parties to the transaction with an interest adverse to those that the committee represents. Committee members should review the potential conflicts of all advisors in much the same way as potential conflicts of the members themselves are to be reviewed by the board.
In the public M&A context where a company is conducting a market canvass or auction process, the company's financial advisor may wish to offer debt financing (also referred to as "stapled" financing) to prospective purchasers. This arrangement is not uncommon where the advisor is part of a larger group that offers institutional lending. The arrangement has its advantages given that it may enable more potential purchasers to submit offers given that financing is made available from a source already familiar with the company; however, the arrangement could lead to a questioning of the financial advisor's independence. Among other things, the financial advisor generally stands to receive significant lending fees, which may exceed by a significant margin the financial advisory fees payable by the company in the event that a prospective purchaser completes a transaction using the credit advanced by the financial advisor. In these circumstances, the special committee should consider whether to allow the financial advisor to offer stapled financing at all. If the committee does allow the financial advisor to offer such financing, the committee should ensure that the financial advisor provides sufficient comfort that the independence of its advice to the committee will not be compromised.
In the context of an insider bid, the Special Transaction Rules prescribe certain relationships that preclude a financial advisor from being considered independent, in which case that advisor would be unable to prepare the formal valuation necessary in such a transaction. While the Special Transaction Rules impose these independence requirements on a financial advisor only when the advisor is to prepare a formal valuation, the relationships prescribed may be considered as indicative of the types of relationships that should be considered in all cases. In any retainer agreement with a financial advisor, regardless of whether or not the advisor is being retained to prepare a formal valuation, the committee should seek an express representation from the advisor concerning its independence.
When retaining legal counsel, the committee should consider whether counsel has any ongoing or prior relationship with any of the parties involved in the matter for which the committee has been established. Applicable rules of conduct governing the legal profession may prevent the company's legal counsel from acting for the committee in those circumstances; however, even where a legal conflict does not arise, it is often prudent for a special committee to retain its own legal counsel to advise it separately from the company's legal counsel. This is particularly important where management may be conflicted since members of management often will be the individuals instructing the company's legal counsel on a day-to-day basis.
16. How should the special committee's advisors be compensated?
When establishing the compensation to be paid to a special committee's advisors, the committee should take care to ensure that the impartiality of the advice to be provided by the advisor would not be compromised. Generally, the payment of customary professional fees to legal counsel, accountants or other professional advisors will not give rise to such concerns. The issue arises in connection with the compensation of financial advisors given that the compensation structure for these advisors often includes some compensation contingent on the success of the transaction.
Where an advisor is compensated based in some measure on the successful completion of a transaction, the impartiality of the advisor could be called into question; however, in financial advisory engagements, some element of a success fee is quite common. In assessing any such arrangement, the committee must balance the risk that the advisor's impartiality may become compromised against the need to appropriately motivate the financial advisor to maximise value to the company and its shareholders. In making its assessment, the committee also should consider whether the financial advisor would receive fees from any other source in connection with the transaction, such as in the case of stapled financing. The committee also must consider that if a success fee were to be eliminated altogether (other than in cases where a success fee is prohibited, such as where the advisor is to prepare a formal valuation for purposes of the Special Transaction Rules), it is quite possible that the financial advisor would seek a higher retainer or work fee, in which case the committee could be criticized for incurring potentially significant expenses even where no transaction is undertaken.
In all circumstances, it is critical that the question of an advisor's compensation, and any special arrangements with respect to such compensation, be established at the outset and properly documented.
17. How should a special committee conduct its deliberations?
A special committee should be prepared to meet often and in many cases those meetings may be called on short notice. Given the issues that special committees are often called upon to consider, it is generally preferable for committee members to meet in person and with their advisors present. Meeting frequently and in person imposes potentially significant time commitments on committee members and therefore the availability of committee members may serve as a key factor in determining who should serve on the committee. While the realities of global travel dictate that not all meetings can be conducted in person, committee members should consider attending in person at meetings where significant decisions are to be made or significant issues are to be debated.
Depending on the circumstances, a special committee may need to meet for several hours or over the course of several days and those meetings may involve formal presentations from the committee's advisors. While formal legal and financial advice is often a necessity, the committee should ensure that the advice is not accepted without question. Committee members should question management and the committee's advisors where appropriate and minutes of the meetings of the committee should reflect the fact that the members have done so.
As discussed above, a special committee may, and often should, involve noncommittee directors and appropriate members of management in the course of fulfilling its mandate; however, at least a portion of the committee's meeting should be conducted in camera with only the committee and its advisors present. In that way, the committee can ensure that members are free to discuss issues of concern fully and openly without potentially conflicted parties present.
The committee's meetings should be recorded in written minutes, which will serve as primary evidence in any inquiry into whether the committee members have properly discharged their duty. In that regard, committee members should review all draft minutes to ensure that they represent an accurate record of the discussions at the meeting. To ensure the most accurate record possible, it is preferable for the minutes to be produced in a timely manner following each meeting of the committee.
Minutes should be sufficiently detailed to record the issues considered by the committee as well as the advice sought and received. Opinions differ on how much information should be contained in the minutes; however, the committee should ensure that an appropriate level of detail is recorded to demonstrate that the committee is entitled to rely on the business judgment rule with respect to the conduct of its inquiries and deliberations. Depending on the context in which the committee has been established, the committee may need to maintain the minutes in confidence and not disclose them to other board members or management or, potentially, the company's the auditors, at least until such time as the committee's report is delivered to the board.
18. How should the special committee deliver its recommendation to the board of directors?
The manner in which the committee delivers its recommendation to the board will depend on the circumstances. In many cases, the committee will report to the board on an interim basis on the progress of its deliberations. Depending on the nature of the committee's mandate, the interim reporting by the committee may be very frequent or only on a periodic basis at regularly scheduled board meetings.
The committee's recommendation to the board should be sufficiently detailed to provide the board with an understanding of the issues considered by the committee, the process undertaken to reach its conclusions and the reasons in support of its conclusion. In some cases, the committee may deliver to the board a formal written recommendation while in other circumstances the report may be delivered orally and reflected in the minutes of the meeting. The committee's report and minutes are critical, as they will serve as the primary record of the committee's actions and deliberations in any subsequent legal or regulatory proceeding.
In certain circumstances where the process and advice of the committee is undertaken in relation to a sensitive matter such as an internal investigation, care should be taken to ensure that the committee does not waive any solicitor-client privilege that may apply.
19. How should the board of directors respond to the recommendation of a special committee?
Canadian courts have ruled that the focus of any inquiry into the board's decision-making process should be whether the board made a reasonable decision rather than a perfect decision. In much the same way as the committee must make its decision on an informed basis, the full board should also carefully scrutinize the committee's report and ensure that the report and its conclusions are appropriately probed. The board may wish to review the recommendation with its own legal, financial and other advisors. Depending on the nature of the recommendations proposed, the board may wish to adjourn to consider the recommendations in detail. The board also will need to consider whether public disclosure of the committee's report or its conclusions is necessary.
In certain contexts, such as in a going private transaction, the recommendation of the committee may not be one that the board responds to favourably, depending on the committee's conclusion and the composition of the board. In those circumstances, the committee members may be subject to detailed questioning regarding their conclusions. In other circumstances, the report of the committee may serve as the basis for further negotiations with respect to the transaction.
20. What are the consequences of a board of directors acting on the recommendation or acting against the recommendation of a special committee?
In Canada, it is generally rare that a board would determine not to follow the advice of its special committee. The board should ensure that it thoroughly reviews the processes undertaken by the special committee and consults with its own advisors in assessing whether the committee has appropriately discharged its mandate.
If a committee has conducted appropriate investigations and deliberations and has been properly advised by outside objective advisors, the board must be careful should it determine to proceed against the recommendations of the committee and should have appropriate evidence to demonstrate that the board itself has appropriately reviewed the issues. In reviewing the report of the committee, the board must bear in mind that the board as a whole has not undertaken the amount of work or made the level of inquiry that the committee has undertaken. Accordingly, a board may be unlikely to act contrary to the committee's recommendation unless it is determined that the committee process itself was flawed. For example, it is possible that the board might determine that the committee did not consider certain material facts or circumstances relevant to its inquiry that would significantly impact on the committee's recommendation or there may have been a significant disagreement at the special committee level such that the committee's recommendation is itself seriously qualified.
Canadian courts have ruled that, in the M&A context, if a board of directors has acted on the advice of a committee of persons having no conflict of interest, and that committee has acted independently, in good faith, and made an informed recommendation as to the best available transaction for the shareholders in the circumstances, the business judgment rule applies. This reasoning could apply equally in other contexts provided that the committee has been properly established and has appropriately discharged its mandate.
As can be seen from the foregoing discussion, a special committee may be established in a variety of contexts with each one requiring an analysis of its own set of unique considerations and issues. It is hoped that this discussion can provide directors with some guiding principles that will be of assistance in that process.
APPENDIX A — SAMPLE MANDATE — M&A TRANSACTION
WHEREAS [describe transaction] (the "Proposed Transaction"); and
WHEREAS the Proposed Transaction will be subject to all or substantially all of the requirements prescribed by Multilateral Instrument 61-101 — Protection of Minority Security Holders in Special Transactions; and
WHEREAS the board of directors of the Company has determined that it is in the best interests of the Company that the decision of the board as to whether the Proposed Transaction is in the best interests of the Company should be preceded by an analysis of the relevant facts and issues conducted by independent directors and accordingly, it is desirable to establish a committee of independent members of the board, to be referred to as the "Independent Committee"; and
WHEREAS each of [name committee members] has advised the board of directors that he or she is independent of [refer specifically or generically to applicable interested parties];
BE IT RESOLVED THAT:
1. A committee of independent members of the board of directors, to be known as the "Independent Committee", is hereby constituted for the following purposes:
(a) to receive details of the Proposed Transaction from,
and discuss them with, representatives of [identify the
offeror], the Company and its affiliates and other
organizations and advisors to the interested parties (the
"Representatives");
(b) to consider and advise the board of directors as to whether the Proposed Transaction is in the best interests of the Company;
(c) without limiting the generality of the foregoing, if thought necessary or advisable by the Independent Committee, to initiate and conduct discussions and negotiations with any third parties regarding any transaction other than the Proposed Transaction which might serve to maximize shareholder value, provided that no commitment to complete any such transaction shall be made without prior approval of the board of directors;
(d) if thought necessary or advisable by the Independent Committee, to canvass with the Representatives any revisions to the structure of the Proposed Transaction that the Independent Committee considers to be necessary or advisable by way of response to matters of concern to the Independent Committee, including negotiations concerning such revisions;
(e) if the Proposed Transaction is approved, to maintain on behalf of the board of directors a review of its implementation;
(f) to consider and evaluate the terms and conditions of offers or any other alternative other than the Proposed Transaction that may be made from time to time for or in respect of the shares or assets of the Company; and
(g) without limiting the generality of the foregoing, to carry out its obligations under all applicable laws, including, without limitation, applicable corporate and securities laws;
it being understood that the Independent Committee shall be entitled, without further authorization from the board of directors, to consider all matters that it may consider relevant to those listed above.
2. The Independent Committee is hereby authorized to meet with any and all persons, including officers and employees of the Company, and legal, accounting, financial and other advisors and consultants to the Company and the board as the Independent Committee may deem necessary or desirable.
3. Directors, officers, and employees of the Company are hereby directed to cooperate with the Independent Committee and its experts, consultants, and advisors as the Independent Committee may reasonably consider necessary, including, without restriction, through the provision of information concerning the business and affairs of the Company and other entities affected by the Proposed Transaction. Without limiting the foregoing, to assist the Independent Committee in discharging its responsibilities, management of the Company shall identify with the Chair of the Independent Committee any issues concerning the business and affairs of the Company that would be affected by the Independent Committee's work in respect of which information has not previously been sought by the Independent Committee.
4. In carrying out its responsibilities, the Independent Committee shall coordinate and consult (both directly and through its experts, consultants, and advisors) with the board of directors, management and experts, consultants, and advisors of and to the Company, but the Independent Committee shall have control of the timing and manner of such coordination and consultation and the times of and the places where meetings of the Independent Committee shall be held and the calling of and procedures at such meeting shall be determined from time to time by the Independent Committee. The Independent Committee shall be authorized to determine its procedures and rules, including rules governing the recusal of members of the Independent Committee in appropriate instances.
5. The Independent Committee shall from time to time provide advice and guidance to the board of directors as to:
(a) whether the Proposed Transaction is in the best interests of the Company, having regard to all relevant considerations and, if so, as to the content of corporate resolutions and other actions reasonably desirable to give effect thereto; and
(b) matters considered by the Independent Committee to be reasonably ancillary to the Proposed Transaction, together with the recommendations of the Independent Committee with respect thereto.
6. In furtherance of its responsibilities hereunder, the Independent Committee may:
7. The Company shall pay the fees and expenses incurred by the Special Committee in discharging its duties.
8. Any member of the Independent Committee may be removed or replaced at any time by the board of directors and shall, at any time, cease to be a member of the Independent Committee upon ceasing to be a director of the Company. Any member of the Independent Committee may resign his or her membership on the Independent Committee at any time. Subject to the foregoing, each member of the Independent Committee shall hold office until such time as he or she may be so removed or replaced, ceases to be a director of the Company or resigns from the Independent Committee. The Independent Committee may determine when and whether its responsibilities have been performed and are at an end.
9. Each member of the Independent Committee shall be paid a fee of $[dollar amount] for acting as a member of the Independent Committee and, in addition thereto, meetings of the Independent Committee (including meetings conducted by telephone conference) shall be treated as meetings of a committee of the board of directors and, accordingly, the members of the Independent Committee shall be compensated therefor and for related expenses in accordance with the Company's current practices, the foregoing payment of fees and expenses being in addition to any other fee and expense payments to which such directors are otherwise entitled. [Note: The foregoing paragraph should be revised as necessary to describe the actual compensation arrangements.]
10. The following persons shall be appointed members of the Independent Committee:
11. The Chair of the Independent Committee shall be [name of Chair].
12. The Independent Committee and the officers and directors of the Company be, and they hereby are, authorized, empowered, and directed to take any and all actions that may be necessary or appropriate in order to carry out the purposes and intent of the foregoing resolutions.
APPENDIX B — SAMPLE MANDATE — INTERNAL INVESTIGATION
WHEREAS [describe facts leading to the need for the investigation]; and
WHEREAS the board of directors of the Company has determined that it is in the best interests of the Company that a committee of independent members of the board to be referred to as the "Special Committee" be created and authorized to: (i) to conduct an independent investigation, review and assessment and of the allegations, and any other matters that the Special Committee may conclude should be considered (such allegations and matters being referred to collectively as the "Allegations"); (ii) to consider and to take any action(s) determined by the Special Committee to be necessary and appropriate as a result of the Allegations; and (iii) to recommend to the board of directors any other appropriate action that the Company should take in response to the Allegations; and
WHEREAS each of [name committee members] has advised the board of directors that he or she is independent of [refer specifically or generically to applicable interested parties]:
BE IT RESOLVED THAT:
1. A committee of independent members of the board of directors, to be known as the "Special Committee", is hereby constituted for the following purposes:
2. The Special Committee shall make independent determinations and conclusions regarding the Allegations and, accordingly, shall be not be bound by any determinations or conclusions reached by the board of directors or any other committee thereof regarding such matters.
3. The Special Committee shall be authorized to determine the procedures and rules governing its investigation, including rules governing the recusal of members of the Special Committee in appropriate instances.
4. Directors, officers, and employees of the Company are hereby directed to cooperate fully with the Special Committee and its advisors, including being interviewed at the request of the Committee or its counsel, or providing the Committee or its counsel with such business, financial and other information regarding the Company as may be reasonably requested by them in conjunction with the performance of their duties hereunder.
5. The Special Committee is directed to report its findings and conclusions to the board of directors in a manner and at such times as counsel to the Special Committee shall determine is consistent with the independence of and charge to the Special Committee.
6. In furtherance of its responsibilities hereunder, the Special Committee may:
7. The Company shall pay the fees and expenses incurred by the Special Committee in discharging its duties.
8. Any member of the Special Committee may be removed or replaced at any time by the board of directors and shall, at any time, cease to be a member of the Special Committee upon ceasing to be a director of the Company. Any member of the Special Committee may resign his membership on the Special Committee at any time. Subject to the foregoing, each member of the Special Committee shall hold office until such time as he may be so removed or replaced, ceases to be a director of the Company or resigns from the Special Committee. The Special Committee may determine when and whether its responsibilities have been performed and are at an end.
9. Each member of the Special Committee of the board of directors shall be paid a fee of $[dollar amount] for acting as a member of the Special Committee and, in addition thereto, meetings of the Special Committee (including meetings conducted by telephone conference) shall be treated as meetings of a committee of the board of directors and, accordingly, the members of the Special Committee shall be compensated therefor and for related expenses in accordance with the Company's current practices, the foregoing payment of fees and expenses being in addition to any other fee and expense payments to which such directors are otherwise entitled. [Note: The foregoing paragraph should be revised as necessary to describe he actual compensation arrangements.]
10. The following persons shall be appointed members of the Special Committee:
11. The Chair of the Special Committee shall be [name of Chair].
12. The Special Committee and the officers and directors of the Company be, and they hereby are, authorized, empowered, and directed to take any and all actions that may be necessary or appropriate in order to carry out the purposes and intent of the foregoing resolutions.
APPENDIX C — COMPENSATION SURVEY RESULTS
Gathering public information regarding committee fees is difficult due to, among other things, the fact that the subject company is often taken private prior to the time that a management information circular is required for the company's next annual meeting (when such fees would have to be disclosed). Based on an informal, "unscientific" survey of available public disclosure in management information circulars and similar public filings made by over fifty Canadian reporting companies from January 2005 to June 2007, it is evident that compensation practices are quite varied. Set out below are some general conclusions drawn from the informal survey.
- Approximately 30% of the committees sampled received compensation on the basis of a fixed fee alone. In these cases, it appears that no fee was payable for attendance at meetings.
- Approximately 40% of the committees sampled received compensation on the basis of a fixed fee, together with a fee for attendance at meetings.
- Just over 20% of the committees sampled received compensation on the basis of a fixed fee for a specified period (often monthly though in some cases quarterly and in one case weekly and in another case daily). In just under half of these cases, an additional fee was paid for attendance at meetings.
- In the case of very few of the committees surveyed, the committee members were paid only a meeting fee.
- In one example, the committee members were paid in shares
of the company.
- In only very few cases did the survey reveal that the committee members were reimbursed for expenses, either in whole or in part, although one would anticipate that the regular board policy with respect to expense reimbursement for board meetings would apply to special committee meetings.
Please click on 'Previous Page' link at the end of this article to read Part One.
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.
