Andrew MacDougall, Raphaël Amram
Shareholders of Canadian companies have historically been relatively well mannered and polite - “typically Canadian,” one might say. While taking steps such as forming the Canadian Coalition for Good Governance, (one, if not the only national institutional investor shareholder lobby groups in the world), and traditionally being active in making their views known - in the push for direct engagement with boards of directors, Canadian shareholders now seem to be increasingly prepared to flex their muscles. This past year has seen an increased amount of shareholder activism in Canada on a range of fronts, and this activism could well continue in 2011 if shareholders continue to have concerns over the underlying causes of muted corporate performance and look for potential solutions to unlock or create value.
An increasing number of U.S.-based private-equity funds that have traditionally been very active and vigorous in trying to influence the governance and stewardship of corporations are starting to recognize Canada’s potentially more friendly regime for activist shareholders (including higher thresholds for mandatory reporting of share ownership and broad shareholder meeting and proposal powers under corporate law described below) and have started to take an increased interest in companies north of the border. In addition, although Canadian fund managers have historically been more than comfortable making their views known to corporate boards and the public, including by way of the publication of proxy guidelines and speaking with the press, they have recently demonstrated an increased appetite for taking on corporate activity which they don’t view as acceptable through accessing the legal process to emphasize their views. A recent example is evidenced by the position taken by the Ontario Teachers’ Pension Plan and the Canadian Pension Plan Investment Board in the recent highly publicized battle over Magna International Inc.’s elimination of its dual class share structure. This trend has brought a new dimension to the corporate relationship, and a potentially more confrontational one, with directors having the delicate task of considering ways to tackle this phenomenon, while ensuring they comply with their fiduciary obligations to act in the best interests of the corporation.
In pursuing their objectives, shareholders have available to them a range of tools in Canada to exert pressure on companies that they feel are underperforming, all of which are ultimately capable of forcing a reluctant management or board to engage in a dialogue. These include the power to convene shareholder meetings, to put forward shareholder proposals, or ultimately to engage in full out proxy battles for board control. Given the level of sophistication displayed by activist shareholders in recent years and the impact their actions have had on their relationship with boards, understanding the legal mechanics and concerns surrounding some of these tools has become increasingly important.
Convening a shareholder’s meeting
Canadian corporate statutes allow shareholders holding at least 5% of the issued shares of a corporation to require directors to convene a shareholder meeting for a broad range of purposes relating to the business of the corporation so long as they respect certain prescribed criteria. After receiving a requisition from a shareholder or a group of shareholders, the directors of a company have 21 days to call the meeting. If the directors fail to do so within the 21 days, any shareholder who signed the requisition may call the meeting on its own. In practice, if the resolutions they put forward are passed, the corporate statutes entitle the shareholders to reimbursement from the corporation for all expenses incurred in relation with the meeting. While the appetite for using this mechanism is increasing, it does involve additional costs and disruptions for the company, and absent a pressing need, may risk being perceived negatively by other shareholders and constituents. Shareholders should also be aware that although they have the power to initiate this process, it is the company itself that will have the opportunity to control the notice of meeting and proxy circular, including the manner by which the matters at issue are disclosed to shareholders, and the reasons that directors are recommending against the matters raised. Shareholders will therefore need to anticipate the potential need to take more extensive steps to succeed, including engaging in active proxy solicitation.
Submitting a shareholder proposal
Another device available to shareholders under Canadian corporate law that has seldom been used outside of the bank context is the “shareholder proposal” concept described in the Canada Business Corporations Act (the CBCA),s. 137. This allows a shareholder to circulate a proposal to shareholders with a supporting paragraph containing not more than 500 words relating to the topic the shareholder wishes to raise at an upcoming shareholder meeting, including presenting proposed director nominees. If the proposal meets certain criteria, it must be included in the management information circular sent to shareholders of the company. Most notable among these criteria, the proposal cannot be directed at enforcing a personal claim or grievance; must relate to the business or affairs of the corporation; cannot be abused to secure publicity; and must meet prescribed time parameters.
This is a particularly interesting aspect of the CBCA in light of the significant debate that has taken place in the United States in 2010 surrounding increased “proxy access” and the introduction of proposed Exchange Act Rule 14a-11. If adopted, the Rule will require companies to include on their proxy cards, at their own expense, director nominees selected by shareholders who have held at least 3% of the total voting power of a company’s securities for at least three continuous years. The amount of opposition to this proposed rule has in fact postponed its implementation, and yet in Canada the ability of shareholders to submit a shareholder proposal including director nominees has been a longstanding provision of Canadian corporate law.
Shareholder proposals cover matters over which shareholders have direct control. This mechanism allows a shareholder to, among other things, submit a proposal to (i) amend or repeal a by-law, (ii) amend the articles, and (iii) nominate directors. It is worth noting that while directors are not compelled to include the proposal in the management information circular, they must notify the shareholder submitting the proposal in writing of their intention to refuse the inclusion and the reasons behind it within21 days of their decision. Depending on the popularity of the proposal, the directors’ refusal to include it in the circular may be interpreted negatively by the shareholders of the corporation and may trigger the use of more aggressive tactics by disgruntled shareholders. If directors refuse to include the shareholder’s proposal, the shareholder may apply to court to seek to force the corporation to include it.
Once a meeting has been called, any shareholder can solicit proxies either for or against any matter properly before the meeting. However, the proxy solicitation rules are highly technical and complex, and various elements must be taken into account by shareholders in the way they conduct any opposition to corporate matters so as not to fall offside the rules.
In particular, shareholders generally will want to be wary of meetings and communications held between themselves so as to make sure these do not constitute a “solicitation” for the purposes of Canadian securities laws. Another issue of concern for shareholders in deciding whether to proceed with the proxy solicitation process is the disclosure obligations that may be triggered by the application of the “joint actor” concept. If, for example, shareholders seeking to exert influence over the operations of a corporation were to enter into voting agreements with other shareholders governing the manner in which their voting rights are to be exercised these shareholders will be considered to be acting “jointly or in concert” and disclosure obligations may be triggered. Should shareholders, acting jointly or in concert, hold or have the power to exercise control over voting equity securities of any class of securities of a reporting issuer that, when added together would constitute 10% or more of the outstanding securities of that class, they will be required to issue a press release and file an “early warning report” disclosing their ownership of securities and their intentions. Other conduct may be considered to be acting “jointly or in concert” and should be properly monitored accordingly.
If the proxy solicitation process is triggered, there are a number of rules to follow, the main one being that proxy solicitation must be done “publicly” (i.e. via a dissident proxy circular). However, recent developments under Canadian securities laws have made it a bit easier to navigate around this requirement. Section 9.2 of National Instrument 51-102 Continuous Disclosure Obligations now allows a shareholder to solicit proxies by way of public broadcast or speech, or by way of publication, without having to incur the costs associated with preparing and mailing a dissident proxy circular to shareholders, provided that certain conditions are met. Also, a shareholder is exempt from having to mail a dissident proxy circular if, in the case of a solicitation other than on behalf of management of a corporation, the total number of shareholders whose proxies are solicited is 15 or less.
Dealing with activist shareholder activity
The recent increase in activist shareholder activity in Canada is shifting the shareholder/company relationship. Shareholders appear to be increasingly willing to take advantage of legal mechanisms to force boards and management to respond. In addition, a growing number of players are accumulating positions in specific companies for the purpose of taking proactive measures to enhance corporate performance. Shareholders are the owners of the company and it goes without saying that the board must listen to the company’s owners. With the increased amount of shareholder activity, it is important for boards to monitor the share ownership of their company and to develop and implement a proactive and healthy dialogue with the corporation’s shareholders. This should allow them to be in a better position to understand the shareholders’ primary concerns and expectations while also giving them the benefit of being better prepared in the event some of the mechanisms discussed above are used. A proactive approach on the company’s part, revolving around good corporate governance and effective communication, may reduce the likelihood of time-consuming, expensive and highly publicized disputes. At the same time, the interests and motivations of particular shareholders vary. An important challenge for boards is to balance listening to the company’s shareholders and being sensitive to their views, but at the same time being alert to their underlying motivations and having the fortitude to comply with their fiduciary duty to act in the best interest of the corporation and not of any particular stakeholder group or subset. Courts in Canada have recently been providing very strong support for directors’ to exercise their business judgment in responding to shareholder overtures. A well advised board continues to have an array of tools at its disposal to respond to activist shareholder activity.
Part of the Corporate Review - December 2010