The British Columbia Securities Commission and the Ontario Securities Commission (the “Commissions”) have released their reasons for their July 25, 2016 joint order permitting Dolly Varden Silver Corp. (“Dolly Varden”) to effect a private placement in the face of a takeover bid by Hecla Mining Co. (“Hecla”). The private placement, which was significantly dilutive, effectively thwarted Hecla’s bid, which was the first hostile bid made under Canada’s newly overhauled takeover bid regime. The joint order provided the Commissions an opportunity to offer guidance on their approach to defensive tactics in this new regime.
While the reasons for the decision – and the result of the decision itself – are informative for bidders and issuers, the specific facts of this case ultimately did not engage the difficult balancing that, in the Commissions’ view, is demanded by private placements with a defensive element. While the regulators have made it clear that they retain the authority to cease trade private placements that frustrate takeover bids in a way that engages National Policy 62-202 – Defensive Tactics (“NP 62-202”), or to apply other remedies, this decision does not establish a bright line test for how that balance should be assessed to determine whether the engagement of NP 62-202 will outweigh the legitimate purposes of a bona fide financing.
Defensive tactics in the new takeover bid regime
The overhaul of Canada’s takeover bid regime on May 9, 2016 injected some uncertainty into the arsenal of defensive tactics available to public companies. For the past 30 years, the primary defensive tactic available to target boards has been the shareholder rights plan (more commonly known as a “poison pill”). Under the newly revised takeover bid rules, all non-exempt takeover bids are subject to, among other things:
- a minimum bid period of 105 days (unless reduced by the target board to at least 35 days); and
- a minimum tender condition of at least 50% of the shares subject to the bid (excluding shares held by the bidder).
In other words, hostile bids must remain open for at least 105 days, and at least half of the outstanding shares of the relevant class must be tendered. These amendments have effectively rendered tactical poison pills obsolete in most cases.
In NP 62-202, which has not been affected by the overhaul to the takeover bid regime, the regulators advised that they “are prepared to examine target company tactics in specific cases to determine whether they are abusive of shareholder rights,” and will intervene where defensive tactics “are likely to deny or limit severely the ability of shareholders to respond to a take-over bid.” A long line of cases developed as bidders, hindered by poison pills, turned to the regulators, which often granted relief when the pill had, in the regulators’ view, served its purpose. In a regime where a board cannot “just say no” and there comes a time “when the pill must go,” there will be little tolerance for a rights plan that remains in place at the target after 105 days.
The obsolescence of poison pills as defensive tactics has renewed focus on dilutive private placements.
The purposes and effects of private placements
Unlike a poison pill, which can have a clear and targeted purpose, a private placement is a multi-faceted strategy. Its purposes can be varied, and those purposes can often be shown to be legitimate and bona fide, even where the result is on its face contrary to NP 62-202. In the words of the BCSC in Re: Red Eagle,1 a decision from late 2015 (prior to the takeover regime amendments), a private placement in the face of a takeover bid “scrambles together” legal and regulatory regimes, including securities laws relating to improper defensive tactics, corporate laws relating to the target board’s decision to issue shares and regulatory matters relating to stock exchange approval.
In Red Eagle, the BCSC stressed that its authority to cease trade a private placement should be used conservatively, and only where there “is clear abuse of the target shareholders and/or the capital markets.” A standard of “abusiveness” is considered very high, and is not met by mere unfairness. The BCSC allowed the private placement in Red Eagle on that basis, though that case turned on specific facts as well, in that the bid in question was not in fact frustrated by the private placement.
The Dolly Varden decision cites the BCSC’s decision in Red Eagle with approval, effectively importing the standard of “abusiveness” into the new takeover bid landscape. However, the Commissions also devoted several paragraphs of analysis to (i) the framework of a test to determine whether a private placement is a defensive tactic that can be interfered with by a securities regulator and (ii) affirming their obligation in applying this test to considering the target board’s business judgment.2
The applicable test
The Commissions set out a two-part test for determining whether a private placement is an improper defensive tactic. First, if the impact of a private placement on an existing bid environment is material, then a target board will have the onus of showing that it was not used as a defensive tactic. In making this initial determination, the Commissions will consider all relevant factors, including whether:
- the target has a serious and immediate need for the financing;
- there is evidence of a bona fide, non-defensive, business strategy adopted by the target; and
- the private placement has been planned or modified in response to, or in anticipation of, a takeover bid.
If the private placement “is or may be” a defensive tactic due to multiple purposes or insufficient evidence as to its purpose, then NP 62-202 is engaged and the regulator will need to balance the principles of NP 62-202 against the target board’s business judgment to determine whether the private placement is abusive. In making this second determination, the Commissions will consider all relevant factors, including those set out above and:
- whether the private placement would otherwise benefit shareholders (for example, would it allow the target to continue its operations through the term of the bid, or the board to engage in an auction process without unduly impairing the bid);
- the extent to which the private placement alters the pre-existing bid dynamics (for example, does it deprive shareholders of the ability to tender to the bid);
- the relationship between the investors in the private placement and the target (for example, are they related parties, or is there other evidence that some or all of them will act in such a way as to enable the target's board to "just say no" to the bid or a competing bid);
- any information available that indicates the views of the target’s shareholders with respect to the take-over bid and/or the private placement; and
- whether the target's board appropriately considered the interplay between the private placement and the bid, including the effect of the resulting dilution on the bid and the need for financing.
The Commissions found that in this case the private placement did not cross the first hurdle of the two-part test, citing “extensive evidence supporting a non-defensive purpose.” Specifically, and among other things, the evidence showed not only a serious and immediate need for the financing, but that Hecla made its bid after plans for the private placement were in motion. As a result, an analysis of the target board’s judgment, a balancing of that judgment against NP 62-202 in this context, and a consideration as to whether that balance tipped toward abusiveness did not need to be conducted.
Why does this decision matter?
The decision to permit Dolly Varden’s private placement has been effectively confined to its facts. The next private placement case to come before a Canadian regulator – particularly one in which the private placement is planned in response to a bid – will be assessed on its facts as well, and the intricate balance between corporate purposes and effects on the capital markets that may engage NP 62-202 and relevant securities laws will be weighed anew on the specific evidence. Just as an application to the securities regulators to cease trade a poison pill became a routine step in a bidder’s strategy to acquire a public company under the old takeover regime, an application to cease trade a private placement will be likely in each similar case under the new regime, perhaps combined with an application for a less blunt remedial instrument, such as relief from the requirement to include the privately placed shares for the purposes of the minimum tender condition, or concurrent applications in other venues.
The Commissions acknowledged in their reasons that given the “varied circumstances and options available for presenting and addressing the issue,” they are not the only available forum, nor necessarily the most appropriate. In particular, “corporate law has its own remedies, available through the courts” for a board’s failure to discharge corporate statutory duties or oppression, and “contract law may also afford remedies in particular cases as between corporations and their shareholders.” In short, “it is not the role of securities regulators to offer redress or duplicate remedies available elsewhere.”
Nonetheless, with the Commissions clearly affirming their view that the corporate law obligations of target boards will be examined in any similar application and balanced against the principles of NP 62-202, reporting issuers should be aware that their actions and discussions relating to the need for potential financings prior to a bid could become relevant in a NP 62-202 analysis by the regulators later. Bidders, on the other hand, should be vigilant for last-minute financing decisions and move with alacrity to notify the relevant authorities, and seek any remedies that may be available, including from securities regulators, stock exchanges and the courts.
Please contact any member of our Corporate Finance + Securities group if you wish to discuss this decision, defensive tactics or any other aspect of public M&A in Canada.
1 2015 BCSECCOM 401 (“Red Eagle”).
2 At para. 88 of the Dolly Varden reasons, the Commissions tied their consideration of a board’s corporate duties to public confidence in the capital markets, stating: “Public confidence in the capital markets requires us to consider the responsibilities of boards of directors in implementing corporate actions, including the duties owed by directors to the corporation, the standard of care imposed on directors, and the deference afforded to the business judgment of properly informed directors following appropriate governance processes. We must consider these corporate law principles when our discretion is sought to be invoked to prevent shareholder abuse of the kind that NP 62-202 is intended to address.”