Class Action Decision Considers Secondary Market Misrepresentation Actions

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On July 25, 2013, Justice Belobaba of the Ontario Superior Court of Justice released his decision (2013 ONSC 4083) certifying a proposed class action brought by the Ironworkers Ontario Pension Fund against Manulife Financial Corp. and two of its former executives, Dominic D’Alessandro (CEO) and Peter Rubenovitch (CFO). Belobaba J. also granted the plaintiffs leave to commence an action for secondary market misrepresentation under s. 138 of the Ontario Securities Act, R.S.O. 1990, c. S.5 (the “Act”).

Background

In early 2004, Manulife added a number of new guaranteed investment products (the “Guaranteed Products”) to its array of segregated funds. Unlike most of its older products, Manulife decided that the Guaranteed Products would not be hedged or reinsured – any risk of equity market fluctuations would be borne entirely by Manulife. The Guaranteed Products were very successful, growing Manulife’s business from approximately $71 billion in early 2004 to approximately $165 billion by the end of 2008. However, almost all (if not completely all) of that business was unhedged and uninsured. When the global financial crisis hit in the fall of 2008 and the Canadian and American equity markets fell by more than 35%, Manulife was badly overexposed.

On February 12, 2009, Manulife released its 2008 annual financial statements which disclosed that corporate profits had fallen by almost $3.8 billion from the previous year ($2 billion of which was attributable to the Guaranteed Products line) and EPS had dropped from $2.78 to $0.32. The statements also noted that Manulife had increased its reserves from $576 million at year-end 2007 to $5.783 billion because of its unhedged exposure to the equity markets. Investors reacted immediately: Manulife’s share price dropped 6% on the date it released its financial statements, fell a further 37% over the following ten days and, by the end of Manulife’s Q1 2009, was trading at $8.92, a 77% decline from its $38.28 trading price six months earlier.

The plaintiffs commenced a proposed class action in July 2009 based on claims of negligence, negligent misrepresentation, unjust enrichment and the secondary market liability provision of the Act. The plaintiffs alleged that while Manulife was entitled to make a business decision not to hedge or reinsure its equity market risk, it had a legal obligation to fully and fairly disclose to investors its decision to abandon such techniques and the resulting risks. The plaintiffs further alleged, among other things, that Manulife consistently misrepresented in its core disclosure documents that it had in place “effective, rigorous, disciplined and prudent” risk management systems, policies and practices.

Discussion

In certifying the action as a class proceeding and granting leave to pursue a s. 138 claim, Belobaba J. focused on two aspects integral to asserting the statutory cause of action: the test for leave to pursue such a proceeding, and the requirement under the Class Proceedings Act, S.O. 1992, c. 6, that the pleadings disclose a cause of action.

Leave Test under Section 138.8(1) of the Act

Belobaba J. discussed at some length the uncertainties surrounding the second branch of the leave test set out at s. 138.8(1) of the Act: that is, that there is a reasonable possibility that the action will be resolved at trial in favour of the plaintiff [1]. In Ontario, class action judges have consistently treated the “reasonable possibility” threshold as a relatively low standard, holding that the plaintiff must simply show, based on a reasoned consideration of the evidence, that there is something more than a de minimis possibility of success at trial. On the other hand, courts in British Columbia have viewed the test as a higher standard which is intended to do more than screen out clearly frivolous, scandalous or vexatious actions.

Belobaba J. pointed out that while his opinion was more consistent with the latter interpretation, the debate may have been decided in favour of the more lenient interpretation by the Supreme Court of Canada’s recent decision in R. v. Imperial Tobacco Canada, 2011 SCC 42. In that decision, the Supreme Court held that under the strike-pleadings rule – which allows a claim to be struck if it is plain and obvious, assuming the facts as pleaded to be true, that the pleading discloses no reasonable cause of action – one must only show a “reasonable prospect of success”, which amounts to the same thing as a “reasonable possibility of success” and may effectively render the test under s. 138.8 of the Act a de minimis threshold (as articulated by the Ontario courts). In any event, Belobaba J. held that he would have come to the same conclusion in favour of the plaintiffs under either interpretation of the test.

Certification under Class Proceedings Act

In certifying the action as a class proceeding, Belobaba J. addressed Manulife’s argument that the pleadings did not disclose a cause of action claim in respect of the s. 138 claim because the action was not commenced within three years of the alleged misrepresentations (as required by s. 138.14 of the Act and the Ontario Court of Appeal’s decision in Sharma v. Timminco Ltd., 2012 ONCA 107).

While Timminco is currently under review by a five-member panel of the Court of Appeal, Belobaba J. agreed with Manulife that he is bound by the current state of the law. However, he also agreed with the plaintiffs’ position that Timminco did not deal directly with the court’s jurisdiction to grant leave nunc pro tunc, and that case law subsequent to Timminco has held that the limitation period in s. 138 of the Act is subject to the special circumstances doctrine (which provides a limited jurisdiction to make orders nunc pro tunc that have the effect of reviving a statute-barred cause of action [2]). On this basis, Belobaba J. concluded that he could not say that it is plain and obvious that the limitation period defence applies and the statutory claim is certain to fail.

Conclusion

Justice Belobaba’s decision, while uncontroversial in its application of current legal principles, stands as an interesting commentary on future potential developments regarding the threshold to be applied in the test for leave under s. 138 of the Act. Indeed, in light of Imperial Tobacco, it may be inevitable that a lower standard emerges which, in Belobaba J.’s words, renders the test for leave “nothing more than a speed bump”. It remains to be seen in future case law whether his premonition proves true.

[1] Belobaba J. held that the first branch – that the action is being brought in good faith – was easily satisfied based on the plaintiffs’ argument and content of their expert reports.

[2] See, e.g., Millwright Regional Council of Ontario Pension Trust Fund v. Celestica Inc., 2012 ONSC 6083 at para. 85.