Copyright 2009, Blake, Cassels & Graydon LLP
Originally published in Blakes Bulletin on Litigation/Securities Regulation, November 2009
Recently, there has been a spate of letters forwarded to corporations, by plaintiffs' counsel, impugning the stock option practices of various corporations. As described below, the settlement involving Savanna Energy Services Corp. (Savanna) relating to such allegations has resulted in what was described by plaintiffs' counsel as the first such application to be brought in Alberta, and only the second in Canada (following the Research In Motion settlement in Ontario). Based upon the settlements involving both of those corporations, and the sizable monetary reward potential accruing to plaintiffs' counsel, it can be expected that those settlements are a harbinger of things to come.
Typically, plaintiffs' counsel undertakes a review of publicly available information to investigate stock options granted by the corporation. That investigation is often followed by a demand letter wherein it is alleged that, based upon the examination of that information, it appears that the dates upon which the corporation granted stock options to its directors and officers have been manipulated. The most common allegation is that stock options that were reported to have been granted at-the-money were, in fact, implicitly granted in-the-money. It is also often alleged that the corporation granted stock options to insiders which were manipulated in some other manner, whether through backdating, spring-loading or otherwise. The demand letter then requests that the company undertake an independent investigation of the corporation's stock option practices. To the extent the corporation refuses to undertake such an independent investigation, that has resulted in a representative shareholder seeking, by Originating Notice, an order that the court grant leave to the shareholder to bring a derivative action in the name of the corporation. In addition, the Originating Notices reviewed have requested that the court grant various orders prohibiting the corporation from granting further options and to prohibit directors or officers from exercising outstanding options. In addition, the plaintiff may seek an order requiring the corporation to produce all relevant documents and records and authorizing the applicant to retain legal and accounting assistance and other related relief.
Such relief was sought in March 2009 against Savanna and certain of its officers and directors. The Originating Notice of the applicant was supported by the affidavit of a university professor, which contained an analysis and an opinion regarding stock price data and other public information filed by Savanna including its Annual Information Forms, Proxy Circulars, SEDAR Reports and other public information. The upshot of that evidence was that there was an alleged high statistical probability of Savanna breaching applicable TSX regulations.
Subsequent to the filing of the Originating Notice, Savanna and the individual respondents agreed to undertake an independent investigation which ultimately resulted in a settlement which included payment of counsel fees of 2.5 times the fees actually incurred (to reflect the contingency agreement which amounted to approximately C$600,000) plus disbursements and GST, payment by two officers of the investigation costs (which also totalled approximately C$600,000), the adoption by Savanna of a series of corporate governance enhancements and the re-pricing of a number of stock options alleged by the plaintiff to have resulted in reversing about C$2- million in previously exercised options.
It has been reported that plaintiffs' counsel employ researchers and experts who are dedicated to undertaking a review of publicly available information on similar matters. Such investigations and the sending of similar demand letters can provide a "free option" to plaintiffs because the corporation may undertake an investigation which could potentially result in some type of settlement being reached.
If a company receives such a demand letter, it should obviously retain legal counsel to provide advice and guidance which would typically include formulating a protocol which, among other things, protects privilege in connection with any investigation, and preserves evidence to assist in defending such allegations.
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.
