In recent years, Canadian market participants have watched with interest as developments changed the American securities litigation landscape. The US Supreme Court’s decision in Morrison limited the reach of US securities class actions. The fallout from Justice Rakoff’s rejection of the SEC’s settlement with Citigroup (which rejection was subsequently overturned) may have chilled the SEC’s appetite for settling matters without admissions – right at a time when the Ontario Securities Commission had endorsed its own no-contest settlement regime.
A recent development is generating controversy: in May 2014, the Delaware Supreme Court held that fee shifting provisions in a corporation’s bylaws may be valid and enforceable under Delaware law. These bylaws essentially require shareholders who commence unsuccessful litigation against the corporation to pay the corporation’s legal costs.
In a recent New York Times article, Gretchen Morgenson expressed concern about the potential “chilling effect” of fee shifting rules in corporate bylaws. Ms. Morgenson concludes:
Shareholders are already at a severe disadvantage when trying to hold corporate executives and directors accountable. Limiting their options even further is a giant step in the wrong direction.
From our perspective as Canadian lawyers, it is hard to understand the concern.
Cost shifting is a staple of the legal system in Britain (as Ms. Morgenson notes) and in most areas of Canada, including Ontario. It plays an important role in deterring unmeritorious litigation – particularly in shareholder litigation.
When Ontario implemented a statutory right of action for misrepresentations affecting the price of securities trading on the secondary market, the Legislature included a specific provision to ensure that the regular “loser pays” costs rules would apply in securities class actions. This was based on the recommendations of a variety of parties, including the Canadian Securities Administrators – an organization whose mission includes investor protection. (It is notable, however, that the consultation draft of the Provincial Capital Markets Act, which was recently published for comment by the Governments of Canada, Ontario, British Columbia, Saskatchewan and New Brunswick, does not contain a provision explicitly preserving the regular loser-pays costs rules in class actions under the similar right of action proposed in that draft legislation.)
Shareholders who would otherwise be deterred from suing an issuer have a variety of options, including seeking an indemnity for costs from class counsel or by way of a third party funding agreement. In Ontario, the Class Proceedings Fund can also indemnify plaintiffs for adverse cost awards in certain proceedings that fall within its mandate and are accepted for funding.
Loser-pays cost rules can provide the court with an important tool to strike a fair balance between access to justice for class action plaintiffs and some degree of protection for businesses and other market participants, including long-term investors, against frivolous and potentially deviating litigation.