With a deadlocked board of directors, talk of a "public flogging" and a court reluctant to intervene, the case of Goldstein v McGrath is a colourful example of a requisitioned public company shareholders' meeting, with the twist that the requisitioning shareholders were represented by or aligned with three of the company's six directors.
The decision provides three reminders for boards, shareholders and their advisers:
- The right of shareholders to requisition a meeting can be a powerful tool, especially in the context of junior public companies.
- Courts are generally reluctant to exercise their authority to call shareholders' meetings.
- The court will need strong evidence that an incumbent chair may engage in impropriety before appointing an independent chair for a shareholders' meeting.
The six directors of Photon Control Inc, a Toronto Stock Exchange Venture Exchange-listed technology company, were deadlocked on a number of matters.(1) A group of shareholders, representing more than 5% of Photon's shares (referred to herein as the 'requisitionists'), exercised their right to requisition (ie, demand) a shareholders' meeting under the British Columbia Business Corporations Act.(2) Two of the requisitionists were members of Photon's board of directors and were allied with a third director. The purposes of the meeting were to:
- remove the other three directors (referred to herein as the 'incumbents'), including Photon's chief executive officer (CEO);
- fix the number of directors at five; and
- elect two new directors.
Under the British Columbia Business Corporations Act, requisitioning shareholders can call a shareholders' meeting if the company's board of directors does not do so within 21 days of receiving a valid requisition.
As a result of the deadlock on its board, Photon's directors did not call a shareholders' meeting in response to the requisition.
The incumbents – anticipating a proxy fight for which they would require advice – made payments from corporate funds to retain lawyers who would advise them on discharging their duties to Photon. They also retained a proxy solicitation firm. Five days later, the requisitionists applied to the court for, among other things, an order that those funds be repaid to Photon on the basis that the payments had not been approved by the board. The funds were duly repaid within days of the application.
The incumbents then asked the court to order a shareholders' meeting under Section 186 of the British Columbia Business Corporations Act. They also requested the appointment of an independent chair for the meeting.
Since both sides had requested a shareholders' meeting, the question arises of why the dispute? The answer is money. The incumbents argued that corporate funds should be used to pay the reasonable expenses of both sides in preparing proxy materials and soliciting proxies from shareholders, to a maximum of C$500,000 each.(3) The requisitionists were of the view that no corporate funds should be advanced for these purposes before the meeting.
These positions reflect both the financial resources of the two sides and the relative confidence that each had in its ability to win a proxy fight. In the absence of a court order that corporate funds be used to pay both sides' expenses, the party that lost the vote at the meeting would be faced with paying its own expenses, while the successful group would be entitled to have its reasonable expenses reimbursed.
The requisitionists, which included two significant shareholders with the apparent ability to finance a proxy fight, held a stronger position on both counts.
Ordering a meeting
Under Section 186(2) of the British Columbia Business Corporations Act, the court may order a shareholders' meeting and give directions as to how such a meeting should be called, held and conducted:
- if it is impracticable for the company to call or conduct a shareholders' meeting in the manner required under the act or the company's constating documents;
- if the company fails to hold a shareholders' meeting in accordance with the act, the applicable regulations or the company's constating documents; or
- for any other reason that the court considers appropriate.
At the conclusion of the hearing, the court declined to intervene, finding that the incumbents were attempting to circumvent the requisitionists' exercise of a clear statutory right. Citing two Ontario decisions,(4) it ruled that the courts should intervene to order shareholders' meetings only in exceptional circumstances.
The court went on to hold that, even if it were to order a shareholders' meeting, each side would be responsible for its own costs. Citing cases from Quebec(5) and British Columbia,(6) it held that when a board of directors is evenly split, each side stands on the same footing as individual shareholders who must fund their own proxy solicitations.
Ordering an independent chair
Photon's constating documents included a common provision that the chair of the board is entitled to chair all shareholders' meetings. The incumbents argued that the past conduct of the chair (a requisitionist) had led to a reasonable apprehension of bias. Such conduct included the chair allegedly telling one of the incumbents that the requisitionists would destroy his reputation, discredit him, give him a (presumably figurative) "public flogging" and force his departure from Photon.
However, the court held that an apprehension of bias is not enough to merit a court-ordered independent chair. Citing a Supreme Court of Canada decision,(7) it held that in order to mandate the appointment of an independent chair, it required evidence of the potential for impropriety by the chair at the meeting. The court went on to find that personal attacks and "occasional intemperance" are insufficient. As there was no other evidence of potential impropriety, it declined to grant the requested order.
The court's decision effectively obviated the requirement for the requisitioned meeting. Shortly after the decision, the incumbents resigned from Photon's board. Two new directors were appointed by the requisitionists to fill the vacant board seats, one of whom was also appointed CEO. The company then called an annual general meeting and all of the requisitionists' nominees were elected.
Board strategy and power of requisition right
Requisitioned shareholders' meetings are often called to replace some or all of a company's directors. If the requisition is valid, it will usually be in the interests of the incumbent board to call the meeting in accordance with the requisition provisions of applicable corporate legislation, rather than allow for the requisitioning shareholders to do so. By calling the meeting, the board retains control of:
- the meeting;
- the company's solicitation of proxies; and
- the contents of the management proxy circular.
In this case, the board was unable to agree on the proper course for calling and holding a meeting. The incumbents made a reasonable choice in applying for a court-ordered meeting in which both sides' expenses would be reimbursed by the company. Another option may have been to ask the court to order the company to prepare a neutral information circular and a universal proxy.
In another British Columbia decision, Xemplar Energy Corp (Committee of Board of Directors) v Tam,(8) the backdrop also included a requisitioned meeting and a split board. However, in Xemplar the board had called a meeting on receipt of the requisition. On application by a special board committee that had been tasked with calling and holding the meeting, the court made an order under Section 186 of the British Columbia Business Corporations Act as to the conduct of the meeting, including the date on which it would be held and the membership of the special committee. The Xemplar case was not cited in the court's decision in the Photon case.
The Photon decision highlights the potency of the requisition right, particularly for junior public companies. On receipt of a requisition, directors have a maximum of 21 days to:
- assess its validity;
- obtain and consider legal advice;
- potentially negotiate with the requisitionists; and
- call a shareholders' meeting, which requires the preparation and mailing of an information circular.
If the directors fail to call the meeting within 21 days, they risk ceding control of the meeting procedure and materials to the requisitionists, and that their expenses will not be paid from company funds. In many cases, particularly among small-cap companies, it is not difficult for activists or dissidents to organise support from holders of 5% of the shares.
In context of shareholder activism
The Photon decision is an example of the trend towards a larger role for shareholders in setting the corporate agenda of public companies in Canada. The Ontario appellate court decision in Koh v Ellipsiz Communications Ltd is a second example of a shareholders' meeting that was successfully requisitioned despite resistance from the company's directors. A third example is the advent of proxy access bylaw proposals, which allow shareholders to include director nominees in a company's circular and form of proxy.(9)
Given this trend, as well as changes to the takeover bid rules made in 2016, shareholders' meetings appear to be assuming a more significant role in contests for control of public companies in Canada.
For further information on this topic please contact Gary Sollis or Daniel McElroy at Dentons Canada LLP by telephone (+1 604 687 4460) or email ([email protected] or [email protected]). The Dentons Canada LLP website can be accessed at www.dentons.com.
(1) First, they disagreed over the appointment of Photon's CEO. Part of the background relates to the termination of the former CEO (who concurrently resigned as a director), the resignation of the former chair at the request of Photon and the resulting vacancies on the board. These changes related to an unauthorised transfer of C$4.5 million to a company in which the former chairman "had an interest". This dispute, which is referenced in the pleadings, was settled subsequent to the date of the court's decision, as noted in Photon's public disclosure.
(2) The right of shareholders holding at least 5% of a company's shares to requisition a meeting is common to most business corporation statutes, with some technical variations among them.
(3) The court's reasoning indicated that the incumbents had estimated each party's expenses to be C$1.3 million and had not acknowledged the C$500,000 cap on the amount to be reimbursed. This appears to be a factual error in the decision, but it seems unlikely to have had a significant impact on the outcome.
(4) Airline Industry Revitalization Co v Air Canada (1999 CanLII 15075 (ON SC)) and Russian Orthodox Church Outside of Russia Inc v Protection of the Holy Virgin Russian Orthodox Church (Outside of Russia) in Ottawa, Inc, (2002 CanLII 3570 (ON CA), (2002) OJ 4698).
(5) Re Canadian Javelin Ltd (1976 CanLII 1249 (QC CS)).
(6) Pala Investments Holdings Ltd v Bristow (2009 BCSC 680 (CanLII)).
(7) Blair v Consolidated Enfield Corp (1995 CanLII 76 (SCC), (1995) 4 SCR).
(9) Proxy access proposals were put forward at recent meetings of the Toronto-Dominion Bank and the Royal Bank of Canada. The former proposal was approved, while the latter proposal was not. The voting results of the respective meetings are available here and here (item 10 in each case).
Ray Power, summer student, assisted in the preparation of this update.