Recent Secondary Market Securities Class Action Decision Demonstrates that the Leave Requirement May Have Teeth After All

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In an action alleging secondary market misrepresentations brought under Part XXIII.1 of Ontario’s Securities Act, defendants may be reluctant to file extensive evidence in opposition to the leave motion. This reluctance appears to be justified given early leave decisions such as Silver v. IMAX,1 which suggest that there is little or nothing to be gained by doing so. Defendants may view the chance of defeating leave as low in light of the minimal threshold that plaintiffs have to meet. Further, a defendant’s obligation to produce documents and other information on the cross-examination on any affidavits filed may be so extensive as to effectively amount to early discovery - a daunting prospect.

However, the recent decision of Strathy J. in Gould v. Western Coal Corporation 2 may give defendants new hope that the leave requirement can fulfill its initial promise of screening clearly unmeritorious claims.

In Western Coal, the plaintiff alleged that the defendants (which included the issuer Western Coal, its major shareholder, one of its lenders, and a number of its officers and directors) had “fabricated” a financial crisis in the company. It was alleged that the defendants conspired in an effort to depress the company’s stock price, thereby allowing certain of the defendants to increase their shareholdings at a fraction of the shares’ actual value, diluting the interests of other investors. This allegation was based in large part on a note in the company’s financial statements disclosing that there was “substantial doubt” as to the company’s ability to meet its obligations as they came due, and the fact that the company was able to arrange financing shortly after the financial statements were released. The plaintiff alleged that the note was a misrepresentation, and that the company had deliberately delayed obtaining the financing until after its statements were released so that certain of the defendants could benefit from the resulting decrease in share value.

In responding to the plaintiff’s leave motion, the defendants filed affidavits from fact and expert witnesses in support of their position that the note was not a misrepresentation, and that the allegation that they had delayed obtaining financing was baseless. The evidence included expert evidence as to why the company was required to include the note in the financial statements, and fact evidence relating to discussions and recommendations of the company’s auditors. Based on the strength of the defendants’ evidence, and his complete rejection of the expert evidence filed on behalf of the plaintiff, Strathy J. held that leave should not be granted under Part XXIII.1, as the plaintiff’s claim had “no reasonable possibility of success at trial”.

Notably, although Strathy J. endorsed the leave decision of van Rensburg J. in Silver v. IMAX (which held that the leave test imposes a low evidentiary burden on plaintiffs), Strathy J.’s reasoning demonstrates that there is still considerable scope for a motions judge to weigh evidence and make findings of credibility at the leave stage. Strathy J. found that there was conflicting expert accounting evidence, but that there was “no reasonable possibility that a trial judge would accept [the plaintiff’s expert] evidence in preference to that of the defendants’ expert evidence”. In reaching that conclusion, Strathy J. was highly critical of the plaintiff’s expert. Strathy J. held that doubts about the expert’s independence, his willingness to engage in “blatant advocacy” and the fact that he gave opinion evidence in areas in which he had no expertise left him with “no confidence that [the expert’s] evidence can be relied upon.”

In light of his finding that there was no misrepresentation, it was unnecessary for Strathy J. to consider the “reasonable investigation” defence available to the defendants under section 138.4(6) of the Securities Act. However, Strathy J. concluded that even if there had been a misrepresentation, the evidence established that the defendants had conducted a reasonable investigation, and had no reasonable grounds to believe the financial statements contained a misrepresentation. Strathy J. also refused to certify a proposed class action for conspiracy that was largely based on the same unfounded misrepresentation, and held that an Ontario court did not have jurisdiction over the plaintiff’s claim for oppression under British Columbia’s Business Corporations Act.

Although heavily dependent on its own facts, Western Coal is a helpful example of the type of case in which opposing leave with a substantial evidentiary record may pay off for defendants. It is heartening for defendants and their counsel to see that the leave requirement in Part XXIII.1 may have “teeth” after all.


1 2009 CanLII 72342.

2 2012 ONSC 5184.

 

Published In: Business Organization Updates, Business Torts Updates, Civil Procedure Updates, Securities Updates

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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