Canada: The Supreme Court Of Canada Rules On The Personal Liability Of Directors In The Context Of The Oppression Remedy.

Summary

The Supreme Court of Canada rendered a decision in Wilson v. Alharayeri, in which it discusses situations that could lead to the personal liability of a corporate director in the context of an action for corporate oppression under section 241 of the Canada Business Corporations Act (''CBCA'').

The Court stated that there is no doubt that a director can be held personally liable under this provision, as it confers broad powers to the courts and provides an impressive number of remedies in favour of the complainant. The Court added, however, that section 241 does not identify the situations in which an order for compensation may properly lie against the corporate directors personally, as opposed to the corporation itself. This question was the focus of the Supreme Court's decision.

In line with the decisions rendered by the Superior Court and the Quebec Court of Appeal, the Supreme Court held that the two directors were personally liable considering that (i) the oppressive conduct was properly attributable to them because of their personal involvement in the oppressive conduct and (ii) this personal liability was relevant in light of the circumstances. In doing so, the Supreme Court refused to depart from the lessons learned from the Ontario Court of Appeal's decision in Budd v. Gentra Inc1 (hereafter ''Budd'').

In reaching this conclusion, the Supreme Court of Canada reiterates that the remedial purpose of the oppression remedy is one of commercial fairness. As such, the slavish respect of rigid criteria is to be avoided in favor of an analysis of the circumstances of each particular case. Having said this, the good or bad faith of the director and whether or not he obtained personal gain are factors to consider.

Facts

The Respondent, A, was the President, the Chief Executive Officer, a significant minority shareholder and a director of Wi2Wi Corporation (hereafter the ''Corporation'') from 2005 to 2007. A held common shares and Class A and B preferred shares in the Corporation. The Class A and Class B shares were convertible into common shares if the Corporation met certain financial targets2. The Appellant, W, held Class C shares, granted to persons responsible for the financing of the Corporation and also convertible into common shares if the Corporation met certain financial targets.

In 2007, the Corporation negotiated a merger with another business named Mitec Telecom Inc. (hereafter ''Mitec''). While negotiating the merger, and without notifying the Corporation's Board of Directors, A was also negotiating the sale of his own shares in the Corporation with Mitec. The Company's Board discovered A's personal share purchase agreement and this triggered A's resignation as President, CEO and director of the company on June 1, 20073.

Three months later, in September 2007, the Corporation's Board of Directors decided to proceed with a Private Placement by offering secured notes convertible into common shares to shareholders already holding Common Shares (hereafter the ''Private Placement''). The more common shares that a shareholder held, the more convertible secured notes he could obtain. The effect of the Private Placement was to ''substantially dilute the proportion of common shares held by any shareholder who did not participate in it"4.

Prior to the Private Placement, the Board of Directors chose to accelerate the process of converting C shares into common shares for W. This conversion process went ahead despite doubts expressed by the Corporation's auditors as to whether the test for the conversion had been met5.

On the other hand, the Board of Directors never approved the conversion of A's Class A and B Shares into common shares, although the Company's audited financial statements demonstrated that, on the basis of the financial test laid out, such a conversion could occur at the option of the holder. W and another director, Dr. Black, who were the two members of the audit committee, opposed the conversion on the basis of A's past conduct6.

The Board of Directors never sent A a formal notice of his crystallized conversion rights. A was therefore unable to convert his preferred shares into common shares. As a result, A's proportion of common shares and the value thereof were significantly reduced. This prompted A to file for the oppression remedy against four of the Corporation's directors7.

Superior Court Judgement8 and Court of Appeal Judgement 9

The Honorable Justice Stephen Hamilton held that A had a reasonable expectation that his Class A and B shares would be converted if they met the applicable financial tests associated with the conversion. This reasonable expectation was breached. The Superior Court applied the principles of the Ontario Court of Appeal decision in Budd to hold two directors, W and Dr. Black, personally liable. Applying Budd, the Superior Court held that it was ''fit'' to hold the directors personally liable because 1) they personally benefited from the dilution of A's shares and 2) W further benefited from the conversion of his Class C shares into common shares10.

The Court of Appeal upheld the Superior Court's judgment. The Court of Appeal attached great importance to the fact that W and Dr. Black were the only members of the Board's audit committee and thus they had a significant influence on the Board of Directors' decision to oppose the conversion of A's shares11.

The appeal to the Supreme Court of Canada did not dispute the existence of oppressive conduct, it focussed solely on the personal liability of the directors.

Supreme Court of Canada Ruling

The Supreme Court of Canada recalls and confirms many principles referenced in the BCE12 case, a landmark decision with regards to the circumstances necessary to bring forward an oppression remedy application. First and foremost, however, the Court analyzes the possibility for a plaintiff to obtain redress against the directors of a corporation in the context of such an application.

Section 241(3) of the CBCA gives the court broad discretion to issue orders it deems necessary, whether it be an interim or final order. The Supreme Court of Canada notes that most of the remedial powers provided in section 241(3) of the CBCA deal with the potential liability of people other than the Corporation13. The issue was to determine when it is appropriate to hold the directors personally liable, in particular when the remedy is of a pecuniary nature.

With regards to this question, the Supreme Court of Canada sees no reason to question the principles established in Budd concerning the personal liability of the directors in matters of oppressive conduct. Budd establishes that personal liability can be established when (i) the director is directly involved in the oppressive conduct and the oppressive conduct is attributable to the director and (ii) the order is appropriate considering all of the circumstances14.

In addition to these two requirements, in Budd, the Court conducted a survey of the case law illustrating when personal orders against directors may be appropriate. The Supreme Court cited author Markus Koehnen, who notes five situations in which personal orders against directors might be appropriate:

  1. Where directors obtain a personal benefit [...] from their conduct;
  2. Where directors have increased their control of the corporation by the oppressive conduct;
  3. Where directors have breached a personal duty they have as directors;
  4. Where directors have misused a corporate power;
  5. Where a remedy against the corporation would prejudice other security holders.

[33] According to Koehnen, Budd may have also referred to a sixth category of cases: those "involving closely held corporations where a director or officer has virtually total control over the corporation" (p. 202; and Budd, at para 44)"15.

However, the Court notes that courts have applied Budd in many different ways and that the appellant "urges the Court to adopt necessary criteria governing the imposition of personal liability in every case"16. The Appellant's proposal was rejected by the Court.

i) Bad Faith and Personal Benefit

Firstly, the appellant, W, argued that personal liability orders should be appropriate only if the director "pulls the strings" of the Corporation as if it was his alter ego and acts in bad faith in this context. W contended that he was just one director among many others. The Court rejects this argument because it considers that the appellant is trying to replace the analysis of the oppression remedy by a strict common law analysis. The Court reiterates that under section 241 of the CBCA, it must apply "general standards of commercial fairness" which common law has failed to promote. According to the Court, a director who involves himself in oppressive conduct, notably for personal gain, must be held responsible even if he does not control the Corporation17. Adopting the appellant's proposed control criterion would automatically preclude the directors of public corporations from being held responsible18.

With regards to the bad faith of the directors, the Court views it as an important factor but not as a condition sine qua non. The Court accepts that directors can be held personally liable for oppressive conduct even in the absence of bad faith. That being said, "A director who acts out of malice or with an eye to personal benefit is more likely to attract personal liability than one who acts in good faith"19. Also, personal benefit should not be treated as a necessary condition for personal liability but is still a relevant factor; the presence or absence of this condition should be examined by the courts20.

Broadly speaking, the Court concludes that the five situations identified by Markus Koehnen, and arising from Budd, must be seen as indicators, not "a closed list of factors or a set of criteria to be slavishly applied"21. This analysis is similar to the one the Supreme Court of Canada had conducted in BCE, when referring to indicators with regards to the existence of reasonable expectations, it noted that it is impossible to establish an exhaustive list of such indicators22.

ii) Fitness of the Remedy

The Court subsequently analyses the notion of "fitness", describing it as a necessarily amorphous concept. This notion is crucial considering that even if the conduct is attributable to the director, the remedy opposed to the director must nevertheless be considered "fit". On this issue, the Court states four general principles that should guide courts in determining a fit order. We believe these principles are not only applicable to the issue of director liability but also to all questions relating to the appropriateness of orders in cases of oppression remedies. (i) First, fairness, qualified as "unamenable to formulaic exposition" must be assessed, (ii) the order must not go further than necessary to rectify the oppression, (iii) the order must only serve to vindicate the reasonable expectations of the complainant, and (iv) the order must take into account the "general corporate law context" and the analysis must be broader than the specific liability of directors under the oppression remedy23. These principles simply constitute guidelines as the fashioning of a fit remedy is a fact-dependant exercise24.

The Court enumerates four potential scenarios arising out of a director's conduct:

  1. The director acted in bad faith and obtained a personal benefit;
  2. The director acted in bad faith but did not obtain a personal benefit;
  3. The director acted in good faith and obtained a personal benefit;
  4. The director acted in good faith and did not obtain a personal benefit25.

In the first scenario, it is likely "fit" to hold the director personally liable for the oppression, whereas the opposite is true in the fourth scenario. The Court notes that the "less obvious cases will tend to lie in the middle"26.

iii) Application of the principles in this case

Applying these principles to the case at hand, the Court adopts a deferral stance in reviewing the trial court's findings. The trial judge held that W and Dr. Black had played lead roles in the Board's decision and that such a decision had granted a personal advantage to W, particularly in the context of the conversion of his class C Shares. The remedy went no further than necessary to rectify the respondent's loss. Indeed, the trial judge calculated A's loss resulting from the inability to convert his class A and B Shares and to take part in the Placement. This reflects A's reasonable expectations27.

iv) Arguments regarding the Pleadings

Finally, W submitted that the pleadings were inadequate to ground the imposition of personal liability and did not give him the chance to defend himself. The Court of Appeal and the Supreme Court of Canada rejected this plea28.

Conclusion

There are several important lessons to take away from this decision. We will focus on three.

First, the situations in which a director can be held personally responsible under the oppression remedy are broad and fact-specific. Such situations are not limited to strict concepts such as the existence of total control of the corporation by the director. W and Dr. Black did not have this control.

Secondly, the existence of bad faith on the director's part and the personal gain he receives are both important indicators that the Court cannot ignore. As such, it is up to the Court to detect whether these indications are present.

Most importantly, analysis should never be done through fixed tests or strict criteria. As is often the case with the oppression remedy, everything is a question of facts and circumstances and the Court holds wide discretion.

Footnotes

1 Budd v Gentra Inc (1998), 43 BLR (2d) 27 (ON CA), 1998 CanLII 5811 (ON CA); Wilson, ibid at para 2.

2 Wilson, ibid at para 4.

3 Ibid at para 6.

4 Ibid at para 9.

5 Ibid at para 10.

6 Ibid at para 11.

7 Ibid at paras 11 to 13.

8 2014 CanLII 180 (QC SC).

9 2015 CanLII 1350 (QC CA).

10 Wilson, supra note 1 at paras 14 to 16.

11 Ibid at paras 17 to 20.

12 BCE Inc v 1976 Debentureholders, 2008 SCC 69 (hereafter ''BCE''). Wilson, ibid at paras 22 to 24.

13 Wilson, ibid at paras 25 to 29.

14 Ibid at para 31.

15 Ibid at paras 32 to 33.

16 Ibid at paras 35 to 36.

17 Ibid at paras 37 to 39.

18 Ibid at para 40.

19 Ibid at paras 41 to 43.

20 Ibid at paras 44 to 46.

21 Ibid at para 50.

22 BCE, supra note 13 at para 71.

23 Ibid at paras 52 to 56.

24 Ibid at para 57.

25 Ibid at para 50.

26 Ibid at para 51.

27 Ibid at paras 58 to 67.

28 Ibid at paras 68 to 73.

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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