The securities litigation bar has been waiting anxiously for the first indication from the courts on the interpretation and application of Ontario’s "Bill 198" statutory liability for misrepresentations in the secondary market. That indication came in Justice van Rensburg’s recent and epic decisions in Silver v. Imax.
The Bill 198 amendments to Ontario’s Securities Act came into force in December 2005. They established a statutory civil liability regime for misrepresentation and omission in a public company’s continuous disclosure. Three key elements are: (i) a remedy for shareholders without requiring individual reliance; (ii) availability of "diligence" defences for reasonable investigation or reliance on experts; and (iii) a preliminary merits test in a motion for leave before a claim can be commenced.
Silver v. Imax Corp., [2009] O.J. No. 5573 and [2009] O.J. No. 5585, impose more onerous hurdles on defendants in actions for secondary market misrepresentation than on shareholders who bring such claims, and may make Ontario a new haven for secondary market class actions.
The allegations
The plaintiffs allege, among other things, that Imax misstated its financial results by recognizing revenue in 2005 for theatre systems that were not fully installed until 2006. The plaintiffs allege that the misrepresentations were contained in two 2006 press releases and Imax’s Form 10-K filed with the U.S. Securities and Exchange Commission (SEC). The day after a subsequent press release in which Imax stated that it was responding to an informal inquiry from the SEC regarding its revenue recognition practices, the market price of Imax shares fell 40 per cent.
The decision granting leave
Justice van Rensburg granted the plaintiffs leave to commence their claim, finding that they had met the statutory threshold to establish that they are bringing the action in good faith and that there is a "reasonable possibility of success at trial."
Justice van Rensburg held that the good faith branch of the test requires plaintiffs to "establish that they are bringing their action in the honest belief that they have an arguable claim." In setting out a test that only a rare plaintiff will fail, she rejected the more robust good faith requirement that applies to derivative actions.
She also interpreted the "reasonable possibility of success" branch of the test as a relatively low threshold, holding that a reasonable possibility is more than a "mere" or de minimis possibility, and the conclusion that a reasonable possibility exists must be based on a reasoned consideration of the evidence, bearing in mind the limitations of motion procedure.
Higher burden on defendants
While it is not surprising that the burden of disproving the reasonable possibility of something is higher than that for proving it, the way that difference is expressed is crucial. Justice van Rensburg held that to defeat a motion for leave, a defendant must satisfy the court that the evidence will "preclude the possibility of success at trial." Only two of the defendants—both external directors—met this test. The judge also outlined certain limits on the available statutory defences.
Justice van Rensburg found that the defendants could not rely on the business judgment rule as part of their reasonable investigation defence, because the business judgment rule has been held not to apply to disclosure obligations under securities laws.
She further concluded that reliance on experts cannot be used as a defence where the misrepresentation does not originate with the expert or where the expert’s opinion is based on misleading information that has been provided to it by the corporation. Consequently, she held that the defendants could not rely on the audit opinion of Imax’s auditors.
Class certification
Justice van Rensburg certified the plaintiffs’ statutory and common law claims for negligent and fraudulent misrepresentation. In a move that may be seen as inconsistent with the Ontario courts’ previous rejection of the "fraud on the market" theory, she essentially accepted the efficient market argument, to the effect that reliance could be established by the act of purchasing the corporation’s securities.
Although only approximately 10 to 15 per cent of the proposed class members are Canadian residents, Justice van Rensburg certified a global class, finding that there was a real and substantial connection to Ontario in light of the fact that Imax is an Ontario corporation that trades on the TSX.
By setting a low threshold for leave to commence the statutory claim and demonstrating a willingness to certify a global class, Imax signals to shareholders who think they are aggrieved by secondary market misrepresentation (or, more accurately, the worldwide plaintiffs’ class action bar) that Ontario’s courts are "open for business."
Imax is seeking leave to appeal to the Ontario Divisional Court from the granting of the plaintiffs’ certification motion and has commenced an appeal to the Court of Appeal for Ontario from the order granting leave to the plaintiffs to commence the action. The outcome of those appellate proceedings will provide important direction to the burgeoning field of "Bill 198" litigation for years to come.
Mark Gelowitz is a partner in the Litigation Department of Osler, Hoskin & Harcourt LLP in Toronto and chair of the firm’s National Corporate Governance and Securities Litigation Group. He is co-author of Sopinka & Gelowitz, The Conduct of an Appeal, Second Edition (Butterworths 2000).
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