In its recent decision in Re Donald, the Ontario Securities Commission found that a person who traded securities of a reporting issuer while he knew about a potential acquisition of that company did not violate insider trading rules but did act contrary to the public interest. The decision highlights the risks associated with trading in securities of a potential takeover bid target while an acquisition is being considered.

The Donald Decision

The respondent in Donald was an officer of Research in Motion (RIM). The OSC found that in August 2008, Donald learned three facts about RIM’s consideration of an acquisition of Certicom: (i) RIM had been but was no longer engaged in confidential discussions with Certicom about an acquisition; (ii) RIM had an ongoing interest in acquiring Certicom; and (iii) Certicom’s share price was undervalued. The day after he learned these facts, Donald acquired Certicom shares. In December 2008, RIM began a hostile takeover bid for Certicom, and in March 2009 it completed a friendly acquisition by way of a statutory plan of arrangement. Donald almost doubled his investment when his Certicom shares were acquired as part of the arrangement.

OSC staff’s principal allegation was that Donald engaged in insider trading. Under the Securities Act (Ontario), insider trading can occur when a person who has undisclosed material facts about a reporting issuer trades in securities, and when that person is an insider or officer of a company proposing to make a takeover bid. The OSC concluded that the three facts that Donald learned in August 2008 were material undisclosed facts about Certicom. However, the OSC was unable to conclude that, at the time Donald acquired Certicom shares, RIM was proposing to make a takeover bid for Certicom – RIM’s consideration of an acquisition had not developed to that level. Consequently, Donald did not engage in illegal insider trading. However, the OSC did conclude that it was contrary to the public interest for Donald to have acquired shares of Certicom while he knew the undisclosed material facts regarding RIM’s interest in an acquisition of Certicom, finding that such trading "was abusive of capital markets and to confidence in the capital markets."

Implications for Takeover Bids

A bidder is caught by insider trading rules when it has received from the target undisclosed material information, for example through negotiations or an auction process. In those circumstances, the bidder cannot acquire shares of the target, including a toehold, so long as the material information remains undisclosed. Unless a bidder has undisclosed material information, the insider trading rules under the Securities Act do not apply to companies or individuals proposing to make a takeover bid, although they do apply to insiders and officers of a company proposing to make a bid. This distinction permits a bidder to acquire a toehold before starting a bid without violating the insider trading rules under the Securities Act.

In its decision in Donald, the OSC extended the prohibition on trading in a target’s securities by using its public interest jurisdiction where the insider trading rules under the Securities Act did not apply. The decision highlights that when a bidder’s officers and insiders are aware of a potential acquisition, they must be very careful about their own trading in the target’s securities.

The Donald decision does not address the application of the OSC’s public interest jurisdiction to trading by a prospective bidder or, more specifically, to the acquisition of a toehold by a prospective bidder before the start of a bid when the bidder does not otherwise have any material undisclosed information regarding the target. Given the clear distinction in the insider trading rules in the Securities Act between the treatment of bidders and the treatment of their officers and insiders in those circumstances, it would be inappropriate, in our view, to use the public interest jurisdiction to restrict the ability of bidders to acquire toeholds solely on the basis of the bidder’s knowledge of its own intention to make a takeover bid.