In Badesha v Cronos Group, Justice Morgan denied the plaintiff's motions for leave to proceed with statutory misrepresentation claims under Part XXIII.1 of the Ontario Securities Act ("OSA") and for certification pursuant to the Class Proceedings Act, 1992. The case raises interesting questions about how a plaintiff ought to plead a securities misrepresentation claim, and prosecute a motion for leave, and also speaks to how corporate defendants ought to treat a proposed representative plaintiff in the context of such a motion.
This was a restatement case relating to certain financial transactions undertaken by Cronos, a cannabis company, resulting in improperly recognized revenues in its first, second, and third quarters of 2019. The company later admitted in restated financial statements and MD&As1 that, in connection with the revenue recognition issues, there were material weaknesses in its internal controls over financial reporting, which it had previously disclosed were functioning. The plaintiff brought suit.
On a leave motion such as this one, the court must assess whether the action has been brought in good faith, and whether there is a reasonable possibility that the plaintiff will succeed at trial. If the plaintiff is successful in meeting these requirements, he may proceed with the statutory cause of action, and the court turns to its certification analysis.
While the good faith aspect is rarely controversial, here, the defendants "embarked on a rather aggressive challenge.criticizing much about [the plaintiff] as not being up to the task." Among other things, counsel aggressively cross-examined the plaintiff "on areas that were obviously privileged," took issue with minutiae including the spelling of the plaintiff's name on the front of the pleading and criticized the plaintiff's litigation plan as deficient. All of this was rightly described by the court as a "nonsensical" approach that did not even have "a chance" of "grazing [the plaintiff's] integrity and good faith."
One takeaway, however-particularly in the context of a consumer protection themed retail investor action-is that the good faith requirement is a basic one. Plaintiffs in cases like these rely on their counsel to navigate the complex web of corporate law, securities regulation, and accounting standards. They do not draft legal documents, nor do they set litigation tactics. The good faith test is meant to ascertain whether the plaintiff has a genuine intention to prosecute a meritorious claim, and that he has not brought suit for collateral purposes. As the court said here, that is the "sum total" of the requirement.
However, the motion turned in the Defendants' favour on the second prong of the leave test: whether the plaintiff has a reasonable possibility of success at trial. In order to establish a reasonable possibility of success, a plaintiff must establish that the alleged misrepresentations are material. Because the OSA definition of a "misrepresentation" contains within it the requirement of materiality, any alleged misrepresentation must be a material one if it is to ground liability under s. 138.3(1).
Under the OSA, a "material fact" is one that would reasonably be expected to have a significant effect on the market price or value of the security in question. Materiality can be assessed in different ways, one of which is to assess the market impact of a public correction. If the impact is significant and attributable to the alleged misrepresentation, then that misrepresentation was likely material. On this metric, the evidence before the court indicated a lack of materiality. Of the five dates the plaintiff's expert said were public corrections, three showed no statistically relevant movement in share price, one showed a dip attributable to unrelated news, and the last took place on a volatile day with the share price declining and then recovering. Finally, all of the alleged corrective disclosures occurred during a period of unusual market-wide volatility as news came to the market regarding the seriousness of the COVID-19 pandemic. All of this led the court to view the market as not being concerned about the misrepresentations complained of by the plaintiff.
The court also observed that the accounting matters restated by Cronos were "relatively obscure", with "market analysts generally perceiving them as insignificant in both the long and short term." While it is not clear that the court relied on analysts' statements in coming to its ultimate conclusion on the motion, the author notes that so doing would violate evidentiary rules against hearsay. These analysts did not testify as to their belief and were not cross-examined.
In any event, in reviewing the plaintiff's claim, Justice Morgan noted there were over 570 individual alleged misrepresentations alleged in Cronos' core documents, each of which was reiterated, augmented, or supplemented in statements and certifications by the individual defendants, such that altogether, there were "allegations of just under 8,000 misrepresentations covered by the plaintiff's pleading." Although the OSA allows misrepresentations to be grouped together, the plaintiff's pleading sought a declaration that these multiple misrepresentations be treated as separate and distinct, and actionable on their own.
But why did the plaintiff plead his case in such a fashion? In formulating Part XXIII.1 of the OSA, our legislators put a cap on damages available to plaintiffs under s. 138.7-a defendant-friendly enactment intended to balance the scales of justice in light of a claimant's deemed reliance on public disclosure under the statute. In theory at least, there are creative ways around this damages cap, but Cronos demonstrates this is much harder to achieve in practice without an overwhelming volume of expert evidence. On cross-examination, the plaintiff's expert conceded that he did not conduct an analysis of the materiality of the individual alleged misrepresentations. Rather, he conducted a "collective or global assessment" that was the opposite of the plaintiff's pleaded case. According to Justice Morgan, this was a "fatal flaw."
Furthermore, the restatement itself was not viewed by the court as sufficient evidence of materiality on its own. In the circumstances, there was an absence of market impact, and Justice Morgan wrote that "what evidence that does exist is weak and tends to confuse market-wide movements in share prices." Leave was denied.
Turning next to certification, Justice Morgan considered the plaintiff's common law claims in negligent misrepresentation and for oppression pursuant to Ontario's Business Corporations Act. These claims were quickly dismissed on the basis that the plaintiff failed to plead adequate and particularized material facts to ground his claim.
In essence, the court found that the misrepresentation claim against Cronos, whether framed in statutory or common law terms, was devoid of particulars when it came to which of the many alleged misrepresentation caused the plaintiff's loss. The court further observed that eleven individual defendants had been sued, without particularized allegations, holding that:
it is elementary that, except in cases of physical property damage, persons holding corporate office are not liable for a tort committed by the corporation absent it being "shown that their actions are themselves tortious or exhibit a separate identity or interest from that of the company so as to make the act or conduct complained of their own
In the author's view, this analysis arguably gets it wrong because it is well established that signing a certification is an independent tortious act regardless of whether it was a step performed for a corporate purpose.
With respect to the oppression claims pleaded against the individual defendants, the court reviewed the legal test which requires that the oppressive conduct be properly attributable to the director, and that the imposition of personal liability be "appropriate in the circumstances." Here too, Justice Morgan held there was no such content to the pleading and thus that these claims were no more viable than the statutory claims.
We will be keeping our eyes on the docket to see if this decision is appealed.
1 Management discussion and analysis (MD&A) is a section within a company's annual report or quarterly filing where executives analyze the company's performance.
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