Reminder That Statements Made to Private Placement Investors Need Not be in Writing to Be Actionable Under Securities Laws
The McKenzies were spouses and shareholders of Infuse Capital Corporation. Deborah McKenzie was also the sole director of Infuse, while Christopher McKenzie did not appear to hold a director or officer role with Infuse. Infuse was in the business of lending money to real estate projects and taking mortgages against the properties as security. The business was funded primarily through the sale of syndicated mortgage products, debentures and investments in mortgage investment corporations. Infuse's fundraising in respect of the syndicated mortgage products and mortgage investment corporation investments was conducted under exemptions from the prospectus and registration requirements of Alberta securities laws. Infuse also raised approximately $2 million from the sale of debentures to 17 investors without registration or a receipted prospectus. Use of proceeds representations were made to some debenture investors. Investors were told their funds would be used for, among other needs, operations, administrative expenses, working capital, and investing in the properties. These investors were not told that their funds might be used (and were in fact used) to pay interest owing to the syndicated mortgage investors when the underlying mortgages were not paid or not paid on time. It appears that both McKenzie’s made statements to investors regarding the use of proceeds and that the statements were not necessarily in “offering memoranda” produced by Infuse – the decision does not refer to any offering memorandum nor is there any discussion of the civil liability provisions of Alberta securities laws for offering memorandum misrepresentations.
The Omission from the Use of Proceeds was a Breach of Securities Laws. This omission was a breach of section 92(4.1), which states that “no person or company shall make a statement that the person or company knows or reasonably ought to know (a) in any material respect and at the time and in the light of the circumstances in which it is made, (i) is misleading or untrue, or (ii) does not state a fact that is required to be stated or that is necessary to make the statement not misleading, and (b) would reasonably be expected to have a significant effect on the market price or value of a security, a derivative or an underlying interest of a derivative.” The ASC found that the omission was material as had the actual use of proceeds been disclosed, that information would reasonably have been expected to significantly affect the market price or value of the Infuse debentures. This particular omission from the description of the use of proceeds may have been more material than, for instance, an omission regarding a purchase of a property or equipment, given the fact that mortgage performance was not sufficient to sustain payments on other securities or that it gave rise to the suggestion of a ponzi scheme with respect to using new investors to pay prior investors. Given the other declared breaches of securities laws by Infuse, the focus on this omission is telling. Issuers would be wise to keep in mind both the possibility that the use of proceeds could be more material in some circumstances to investors and that if an issuer makes any statements about use of proceeds, it should be certain that all potential uses are being disclosed.
Persons Other Than the Issuer and its Officers, Directors and Agents Face Liability. Section 92(4.1) does not require that the statements be in writing, nor do the statements need to come from the issuer or an employee or agent of the issuer. Although the statements could properly be called statements of Infuse, the ASC focussed on the individuals who actually uttered the use of proceeds representations, assuming that each of the McKenzies made these statements, rather than Infuse as the seller of the debentures and which was acting through employees and agents in the course of their duties. Making misrepresentations that induce investors to part with their money is serious misconduct that securities legislation addressed and in the case of section 92(4.1), is not concerned with whether the person making the statement is the issuer or an officer or director or agent.
Public Interest Order Made in Respect of Misleading Statement; No Sanctions for Other Breaches. Such misconduct is not only a breach of specific provision of securities legislation, but is also conduct against the public interest. While the decision noted that the sales of the debentures were in breach of the prospectus and registration requirements of securities laws, public interest sanctions were only stated to have been imposed in respect of the misleading use of proceeds statements. As noted, the ASC may have felt that the omission of the fact that the proceeds might be used to fund payments to other investors had a whiff of ponzi scheme about it that could have materially affected investor’s decisions to invest. The focus on the misleading statements and section 92(4.1) also provides a means for ASC to make an order against a shareholder of the issuer, Christopher McKenzie, who they clearly felt was as culpable in conduct as Deborah McKenzie as a director of Infuse and from whom the capital markets should be protected and whose conduct should be held up as conduct others should not emulate. Each of the McKenzie’s were ordered to pay an administrative penalty of $60,000 and to resign as director or officer of any issuer and to not act as a director or officer of any issuer for 4 years.