The hostile bid for Fibrek Inc. (Fibrek) by Resolute Forest Products Inc. (formerly AbitibiBowater Inc.) (Resolute) which unfolded over the course of November, 2011 to May, 2012 and the decision of the Quebec Bureau de Decision et Revision (the Bureau) in relation to a subsequent white knight bid by Mercer International Inc. (Mercer) puts target company boards on alert about circumstances in which steps taken by them in the face of unsolicited take-over bids may be overturned by a securities tribunal exercising its public interest jurisdiction. In this case, the Bureau concluded that, in the absence of a real need of financing, it was improper for the board to issue convertible securities which would dilute significant locked-up shareholders even if doing so resulted in a higher offer for all shareholders. The decision also provides support for the utility by bidders of hard lock-ups and highlights the potential value to a target company of having in place a shareholder rights plan that would prevent the granting of hard lockups.
Additionally, the decision highlights the potentially different outcomes in contested transactions, depending upon whether one is before a securities tribunal or a court of law. Canadian courts have shown great deference to directors’ decision-making on the basis of the business judgement rule, as evidenced by, for example, the British Columbia Supreme Court decision in Icahn Partners LP v. Lions Gate Entertainment Corp. 2010 BCSC 1547, where a dilutive transaction in favour of an insider in response to a hostile bidder was found not to be oppressive. However, securities tribunals have in certain circumstances, including this one, been prepared to invoke their public interest jurisdiction to over-ride directors’ decisions, suggesting that the chances of successfully challenging a board’s decision may be higher before the securities tribunals than the courts. In addition, consistent with what we have observed in decisions relating to shareholder rights plans, the Bureau’s decision in this case highlights a continuing feature of the Canadian landscape, where the presence of multiple provincial securities regulators leaves it open for each securities tribunal to determine how readily to exercise its public interest jurisdiction, yielding potentially different results from one province to another. Finally, the Quebec Court of Appeal’s decision reversing the lower court in this matter also reinforces the deference Canadian courts continue to show to decisions of securities regulatory tribunals in light of their specialized expertise.
On December 15, 2011, Resolute launched an unsolicited take-over bid to purchase all of the issued and outstanding common shares of Fibrek at a price of $1.00 per share, comprised of $0.55 in cash and 0.0284 of a Resolute common share. In connection with this offer, Fairfax Financial Holdings Ltd. (Fairfax), Oakmont Capital Inc. (Oakmont) and Dala Street LLC (Pabrai), who collectively owned 45.74% of the shares of Fibrek, entered into hard lock-up agreements with Resolute to deposit their shares to the bid. Steelhead Partners, LLC (Steelhead), a holder of 5% of the Fibrek shares, later publicly declared its support for the Resolute offer as well, bringing the total support for the Resolute offer to approximately 50.7% (i.e., legal control), and due to the “hard” lock-up agreements, effectively precluding any competing offer from succeeding, absent the issuance of additional shares by Fibrek. Importantly, each of Fairfax and Steelhead owned shares of Resolute, with Fairfax being Resolute’s largest shareholder. This presumably accounts in part for their willingness to enter into hard lock-ups which, although not unknown, are relatively rare. Notably, Fibrek did not at that time have in place any shareholder rights plan which would have prevented the hard lock-ups from being entered into.
On December 18, 2011, Fibrek’s board of directors created an independent committee for the purpose of retaining a financial valuator to prepare a valuation of the Fibrek shares and on December 25, 2011, Fibrek’s board of directors recommended a rejection of the Resolute offer and also approved a shareholders’ rights plan.
On February 9, 2012, the Bureau issued a cease trade order with respect to the rights plan, concluding that Fibrek had had sufficient time to study and develop alternatives in response to the offer (February 9th was 73 days after the announcement of the bid and 56 days after its official launch) and that it was therefore time for the rights plan to go.
On February 10, 2012, Fibrek announced that (i) it had entered into a support agreement with Mercer pursuant to which Mercer agreed to make a substantially higher offer than Resolute to purchase all of the issued and outstanding Fibrek common shares by way of take-over bid, at a price of $1.30 per share payable in cash (subsequently increased to $1.40 per share), Mercer common stock or a combination of cash and Mercer common stock (subject to proration), and (ii) that Mercer agreed to subscribe for 32,320,000 warrants of Fibrek (the Warrants) as part of a private placement, at a price of $1.00 per warrant, for an aggregate subscription price of $32,320,000 (the Private Placement), representing a post-exercise interest of 19.9% in the capital of Fibrek. In the support agreement, Fibrek also agreed to pay a break fee to Mercer for a minimum amount of $8,500,000 (approximately 5% of the Fibrek equity value). Without the Private Placement and the resulting potential dilution to existing Fibrek shareholders, the Mercer offer would have had no prospect of succeeding, given that 50.7% of the Fibrek shareholders were already committed to the Resolute offer, either through hard lock-ups or Steelhead`s statement that it intended to tender to the Resolute offer.
On February 13, 2012, Resolute responded to the announced Mercer white knight offer by applying to the Bureau seeking an order to cease trade the Mercer offer and the Private Placement of Warrants to Mercer and on February 23, 2012, the expiry date of the Resolute offer, the Bureau issued an order cease trading the Private Placement, but allowing the Mercer offer to proceed. In the Bureau’s view, the cease trade of the Private Placement was justified on the following principal grounds: (i) the Warrants and the break fee constituted defensive measures; (ii) the issuance of rights to subscribe for shares having a dilutive effect in the context of a take-over bid should only be permitted if the target company has a “real and immediate need” of capital, which was determined not to be the case for Fibrek; (iii) lock-up agreements are mechanisms generally used by offerors prior to take-over bids and generally facilitate the launch of an initial offer; (iv) the main purpose of the issuance of the Warrants was not to respond to a need for immediate funding, but rather to deprive Resolute of its right to benefit from validly negotiated agreements by diluting the shareholders of Fibrek (and in particular Fairfax, Oakmont, Pabrai and Steelhead, whose aggregate holdings would have dropped to 40.6% if the warrants were issued to Mercer and converted into Fibrek shares); and (v) the break fee payable to Mercer was not in the range of break fees usually granted in contested transactions of this kind where there had not been a full market canvass.
Decisions of the Bureau and the Courts
The Bureau concluded that the Warrants and the break fee were intended to interfere with validly negotiated lock-up agreements and were abusive of shareholders and financial markets and, accordingly, the Bureau chose to intervene on the grounds of public interest. The Bureau did not consider or comment on whether the board of directors had complied with its fiduciary duties under corporate law, but rather assessed the matters before it under what it considered to be relevant securities law considerations.
It is worth noting that the Bureau came to its conclusion notwithstanding the submission of staff of the Autorité des marchés financiers to the Bureau that because, in staff’s view, the Private Placement was of a hybrid nature (serving as a potential defensive tactic, but also conferring a financial benefit to Fibrek), it therefore did not constitute an abusive defensive tactic. The Bureau also distinguished the case before it from the decision of the Alberta Securities Commission (the ASC) in ARC Equity Management (Fund 4) Ltd, Re, 2009 ABASC 390, in which the ASC declined to exercise its public interest jurisdiction to interfere with the private placement of shares of Profound Energy Inc. (Profound) to Paramount Energy Trust (Paramount) and others in connection with Paramount’s acquisition of Profound. While the facts are not the same in the two cases, the Fibrek decision does suggest a greater willingness on the part of the Bureau to find abuse and to intervene than the ASC showed in the ARC decision.
Fibrek and Mercer appealed, and the Quebec Civil Court reversed the Bureau’s decision, holding that the Bureau erred in invalidating the Private Placement, which the Court considered to be a “real financing”. The Court did not consider the Private Placement as a barrier to other bids, but held that it in fact allowed all shareholders of Fibrek, including its major shareholders, to obtain a better offer and potentially other superior subsequent offers. While the Bureau determined that the Warrants provided an improper dilution of shares which would undermine the effectiveness of the lock-up agreements, the Court disagreed that the significant shareholders should be able to effectively assert a right of non-dilution. While the Bureau concluded that the Fibrek board had improperly exercised broad discretion to interrupt the auction process by unduly favouring the Mercer bid, the Court concluded that the Bureau’s decision was in direct opposition to the objectives of National Policy 62-202 – Take-Over Bids – Defensive Tactics, since the Bureau’s decision “managed to limit or even completely terminate the auction process and penalize shareholders”. In the Court’s view, the Bureau erred by focussing only on Fibrek’s major shareholders (those who had signed lock-ups) and not all of its shareholders. In this regard, the Bureau and the Court took very different approaches to this case. The Bureau was principally concerned with the use of a defensive tactic that it determined was intended not to further valid financing needs, but to interfere with a bid that was launched with contractual and preclusive support of just less than the majority of the shareholders. In contrast, the Court was opposed to interfering with an informed decision of a board of directors which produced a substantially higher offer for all shareholders and potentially enhanced the auction process.
The lower court’s decision was in turn appealed by Resolute to the Quebec Court of Appeal and on March 27, 2012 the Court of Appeal reversed the lower court, reinstating the Bureau’s original decision. In general terms, the Court of Appeal held that courts must give the highest deference to the decision of an independent and specialized tribunal such as the Bureau, and that the Court could only properly substitute its view if the Bureau’s decision was not clear or intelligible or could not be justified in light of the facts or the law. More specifically, the Court of Appeal held that there was no doubt that the Bureau’s decision was intelligible, clear and sufficiently founded in law, and that it was not unreasonable for the Bureau to have concluded that the issuance of the Warrants was an improper defensive tactic intended to dilute those shareholders who supported the Resolute bid and to favour the Mercer bid, as well as an unacceptable interference with legally negotiated lock-up agreements.
The Court of Appeal went on to state that “[o]ne can be in disagreement with the approach chosen by a specialized decision-maker, but one can’t say in this case that its decision is not within acceptable possible results justified by the facts and the law”. The Court of Appeal explicitly deferred to the Bureau’s discretion to give preference to the integrity of the lock-up agreements and the expressed preference of a majority of the Fibrek shareholders over allowing the Fibrek board to take measures to enable the higher Mercer bid. It concluded that it was valid for the Bureau to be concerned that in the face of the Private Placement the Resolute bid would not succeed, not because of a more attractive offer and an auction, but rather due to a dilutive transaction undertaken where, in the Bureau’s view on the facts, Fibrek had no real financing need. Accordingly, it was not unreasonable for the Bureau to have concluded that the Private Placement should be invalidated.
On April 30th, following the Supreme Court of Canada’s refusal to grant leave to appeal the Quebec Court of Appeal decision, and in light of Resolute’s ability to acquire shares under its lock-ups with Fairfax and other Fibrek shareholders , Mercer withdrew its offer. Resolute has since taken up the Fibrek shares deposited under its offer, enabling it to acquire majority control of Fibrek, and has stated that it intends to carry out a second step transaction to acquire the remaining Fibrek shares.
In this interesting and contested transaction - notable for the multiple decision reversals on appeal - Resolute was ultimately allowed to complete its unsolicited bid for Fibrek as a result of the Bureau’s decision to invalidate defensive tactics that it concluded interfered with contractual arrangements Resolute had put in place at the outset of its bid, even if these tactics did facilitate a higher bid.