Shareholder Activism In Canada: The Legal Framework

1. Overview

Shareholder activism is firmly entrenched in the Canadian corporate landscape, and Canada has proven fertile ground for dissidents. This guide provides a concise but comprehensive overview of key tactics and related legal issues fundamental to shareholder activism in Canada.

We begin by reviewing four critical issues applicable to activist stake-building and shareholder engagement. We next consider the offensive tactics available to an activist under Canadian law. We then consider potential target defensive strategies and other responses to a dissident campaign. This is followed by a review of how an activist may counter such target defensive tactics. We conclude with various additional legal issues for both targets and activists to consider.

2. Stake-Building and Shareholder Engagement

Any shareholder considering commencing an activist campaign or engaging with an activist or potential activist should carefully navigate relevant securities law and corporate law regarding (1) stake-building and public disclosure, (2) acting jointly or in concert, (3) insider trading and tipping, and (4) the solicitation of proxies. Conversely, public issuers the subject of an activist campaign or potential activist campaign will want to closely monitor for, and capitalize on, any breach of these laws.

• Stake-Building and Public Disclosure: An essential consideration throughout a dissident campaign is early warning reporting requirements under securities law. Activists can acquire up to a 9.9% shareholding without being required to make any public disclosure. Once a 10% stake is accumulated, however, a press release must be immediately issued and an "early warning report" must be filed within 2 business days. The shareholdings of persons acting "jointly or in concert" will be aggregated for the purpose of this 10% threshold. The mere formation of a group (e.g. an activist and its "joint actors") holding 10% or more will not trigger early warning reporting requirements (unless one of the group members is already an early warning filer and the formation of the group is a change in material fact in a previously filed report). However, absent an exemption, the subsequent acquisition of a single share by any group member will trigger reporting requirements. Among other things, early warning reports require the activist to disclose its identity, ownership position and investment intent. The early warning regime is not intended to capture proxy holders given that the shareholder retains control over how the shares are voted.
• Ongoing Reporting: Upon attaining a 10% shareholding, an activist assumes ongoing reporting obligations. These include disclosure of (1) each time the activist acquires or disposes 2% or more of the subject securities, (2) if the activist falls below the 10% threshold, and/or (3) a material change in information within a previously filed report.
• Eligible Institutional Investors: Shareholders qualifying as "eligible institutional investors", which includes eligible pension funds, hedge funds and financial institutions, are able to use the Alternative Monthly Reporting System (AMRS). Regarding stake-building in the activist context, the AMRS requires disclosure (1) within 10 days of the end of the month in which the 10% threshold is crossed, (2) whenever, after the 10% threshold is crossed, ownership increases or decreases 2.5% or more relative to the previous report, (3) when ownership decreases below 10%, and (4) upon a change in a material fact within prior disclosure.
• Derivatives: At present, swaps generally do not count toward determining whether the 10% (early warning reporting) or 20% (takeover bid) thresholds have been reached. However, they may count where the activist has either a legal right to control or direct the voting of swap shares or a contractual right to influence voting decisions regarding swap shares. Moreover, regulators have held inadequate disclosure of swap holdings – such as in the context of a takeover bid – as a failure to comply with securities laws and even "abusive". Once the 10% threshold is crossed such that early warning reporting is required, such disclosure must include details of equity derivatives in the issuer held by the shareholder.
• Acting Jointly or in Concert
  • If an activist has an agreement, commitment or understanding with one or more other persons and intends to exercise voting rights in concert with such other persons, they are presumed to be "joint actors". If the agreement, commitment or understanding is with respect to the acquisition of shares of the target company, they are deemed to be "joint actors". Importantly, the shareholdings of "joint actors" are aggregated for purposes of the 10% early warning reporting threshold and 20% takeover bid threshold.
  • It has been held that acting jointly or in concert is a "relatively high" bar and requires balancing the benefit of disclosing shareholder blocks against the benefit of allowing the "free flow of information" among public company shareholders. It has also been held that becoming "joint actors" generally requires "actively working together to achieve a joint specific purpose," and not "simply being aligned in interest." In one case a court held that two funds and three individuals were "joint actors" in a dissident campaign based on evidence that included (1) a conference call involving a proxy advisory firm, (2) the discussion of confidential governance committee proceedings, (3) their collaboration on a draft dissident proxy circular, and (4) their joint preparation of a formal voting support agreement. A company alleging certain of its shareholders are "joint actors" bears the burden of proving this on the balance of probabilities. This can include circumstantial evidence, but this will be balanced "against the reasonableness of other explanations that might explain the same circumstance."
• Insider Trading and Tipping:
  • Insider Trading: Trading with knowledge of material non-public information (MNPI) is prohibited. This includes MNPI that an activist learns in private discussions with a target. However, the fact an activist is considering campaigning to replace target directors generally does not, in and of itself, prohibit the activist from acquiring target shares
  • Tipping: A person in a "special relationship" with a public issuer is prohibited from "tipping" or informing another person of MNPI, other than "in the necessary course of business". Securities law classifies those persons in a "special relationship" with a public issuer broadly, and this includes shareholders owning 10% of the voting rights attaching to the issuer's shares. Activists with access to MNPI therefore face an increased risk of violating, or being alleged to have violated, insider trading and tipping laws, and so should proceed with caution. The "in the necessary course of business" exception to the prohibition against tipping was recently addressed by a securities tribunal for the first time, although not in the activist context. The tribunal provided four main guideposts, being (1) the standard is objective, (2) the exception should be interpreted narrowly, (3) the "necessary" course of business does not mean the "ordinary" course of business, and (4) the tipper bears the burden of proving the exception has been met. The tribunal also underscored the significance of the process whereby the availability of the exception is considered around the time the MNPI is disclosed.
• " What Qualifies as a "Solicitation" of Proxies?:
  • Subject to the "private solicitation" and "public broadcast" exemptions discussed below, Canadian corporate and securities laws prohibit activists and issuers from soliciting proxies unless they have sent a proxy circular to each shareholder whose proxy is being solicited. "Solicitation" is broadly defined to include "a request to execute or not execute a form of proxy" and a "communication to a shareholder under circumstances that are reasonably calculated to result in the procurement, withholding or revocation of a proxy."
  • Courts have held that the nature, context and purpose of the communication is key. In one case, even though the activist's letter to shareholders expressly stated it was not requesting proxies at that time, the letter was held to be a solicitation for also including a request not to execute the form of proxy circulated by the target. In another case, a shareholder post on a public forum was held to be a solicitation for urging shareholders to vote "withhold" or "against" the target's slate of directors. The courts have also indicated that two or more communications (e.g., press releases) considered together can amount to a solicitation. Defensive communications by a target in response to an activist campaign and before the issuance of the company's proxy circular will generally be viewed in that context and thus afford the target some latitude to defend directors and explain the company's position.

3. Offensive Tactics Available to Activists

Often characterized as "activist friendly", Canadian law affords several avenues by which a dissident may pursue effecting change at a public company.

• Shareholder Proposals: Canadian corporate law accommodates "activism-lite" via a shareholder proposal. Specifically, a dissident owning as little as a 1% shareholding is entitled to have included in a target's proxy circular a paragraph of not more than 500 words advocating its cause. However, where the proposal relates to the election of one or more directors, a minimum 5% shareholding is needed. In either case, the minimum shareholding must have been held for at least six months prior to the proposal's submission. The inclusion of an activist's proposal in the target's proxy circular does not relieve the activist of the obligation to mail its own circular if it seeks to solicit proxies. A court has ruled against an attempt by one shareholder to use a shareholder proposal to remove a director at an upcoming shareholder meeting already requisitioned by another shareholder, holding that a separate requisition was required.
• "Vote No" Campaigns: "Vote No" campaigns are generally both easier and less costly to wage than proxy contests, and this holds true in Canada. Per the majority voting rules under the CBCA, shareholders can vote "for" or "against" a nominee director in an uncontested election, and each nominee must receive a majority of "for" votes to be elected. Similar rules also apply to all TSX-listed issuers, who must have a majority voting policy. "Vote No" campaigns do not require a proxy circular and can rely on the private solicitation and public broadcast exemptions (discussed below). Nor do they require an alternative nominee or slate. They can thus be a cost-effective means of targeting a specific director or board committee. "Vote No" campaigns can also serve as a valuable fallback strategy, e.g., where the activist has missed a nomination window under the target's advance notice bylaws (discussed below). In a recent example, a TSXV-listed issuer with a majority voting policy substantially similar to that required by the TSX rules found itself in a situation where each of its directors was concurrently required to tender their resignation after none of the directors received a majority vote at the issuer's AGM and following an activist campaign. This led to the immediate appointment of a new, independent director to recommend next steps, which eventually included a reformed board that included a director closely affiliated with the activist.
• Meeting Requisition: Upon accumulating a 5% shareholding an activist is entitled to requisition a shareholder meeting. The mere existence of this right is a significant source of leverage, including because Canadian corporate law prevents public issuers from instituting "staggered" boards whereby only a subset of directors are up for election at a shareholder meeting. A requisitioned meeting will therefore make the entire board vulnerable to replacement. The TSX rules also inhibit "staggered" boards by requiring that shareholders are entitled to vote on the election of the entire board at each AGM. Procedurally, the requisition notice must give sufficient information regarding the proposed business to be discussed. Furthermore, given target-friendly caselaw, the exercise of this right necessitates careful planning and compliance with technical requirements. For example, while statute may not expressly require that a shareholder requisitioning a meeting for the removal of directors necessarily include its proposed nominees, it has been held that, in the context of a proxy contest, reasonable detail regarding the business to be conducted at the meeting would include the names and qualifications of the proposed nominees. A practical consequence is that an activist should recruit its board nominees sufficiently in advance of requisitioning a shareholder meeting.
• Private Solicitation: In most jurisdictions, exemptions permit activists to solicit proxies from up to 15 shareholders without mailing a dissident proxy circular. This allows for a degree of stealth, including as small numbers of institutional investors often holds large blocks of shares in Canadian public issuers. That said, as discussed above, complex laws regarding "joint actors", "insider trading" and "tipping" – to which institutional investors are typically highly sensitive – must be carefully navigated. Private solicitation can be used alone or in conjunction with the "public broadcast" exemption (discussed below). It has been held that an activist conducting a private solicitation could use the management form of proxy and the discretionary authority granted thereunder to appoint himself as proxy holder and then elect a new board from the floor of the company's AGM.
• Public Broadcast: Another alternative to mailing a dissident proxy circular is proceeding by public broadcast, which can be by press release, advertisement or other notice generally available to the public. This allows the activist to avoid the time and costs associated with a circular (although certain information required in a circular must still be filed as part of the broadcast). This also provides an activist the opportunity for a loud opening salvo, including control over the initial proxy contest narrative. A public broadcast can also be followed by a dissident proxy circular to reinforce and continue the narrative and strategy set by the public broadcast. However, an activist should be mindful that using the public broadcast exemption does not thereafter give it the right to engage in private meetings with shareholders beyond the private solicitation exemption (discussed above).
• Dissident Proxy Circular: Should an activist wish to move beyond private solicitation and/ or a public broadcast, the mailing of a dissident proxy circular is facilitated by each shareholder being entitled to a list of each other registered shareholder. Such a request will, however, alert the target to the activist if this has not already occurred. Often, but not always, an activist will wait to mail its circular until after the target's circular to take issue with or criticize aspects thereof. In some cases, activists have prepared "pre-emptive" dissident circulars that are provided to shareholders prior to the record date to facilitate meetings beyond what would be allowed under the private solicitation exemption.
• Proxy Advisor Support: Proxy advisory firms can have crucial influence over shareholder voting, as institutional investors often follow their recommendations and retail shareholders may be influenced as well. Winning proxy advisor support is a significant advantage for any activist and can be achieved by presenting a compelling case for change and, where necessary, effectively communicating a well-reasoned and persuasive business plan to them.
• White Papers: Many activists find benefit in producing a "white paper" prior to launching their campaign. These are based on publicly available information on the target that is required to be disclosed under applicable securities laws. White papers often present a "case for change" in support of the activist's agenda and can be key in winning support from other shareholders and/ or proxy advisory firms. They can also be of great value in private discussions with management (and not only should a proxy battle eventuate).

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