Amendments to the TSX Rules
Following the decision of the Ontario Securities Commission (the "OSC") regarding the proposed merger transaction between HudBay Minerals Inc. ("HudBay") and Lundin Mining Corporation ("Lundin"), on September 25, 2009 the Toronto Stock Exchange (the "TSX") adopted amendments proposed April 3, 2009. The amendments will require listed issuers to obtain securityholder approval where they propose to issue securities in connection with an acquisition where the securities to be issued exceed 25% of the listed issuer's outstanding securities. This amendment will result in the deletion of subsection 611(d) of the TSX Company Manual (the "TSX rules"), removing the securityholder approval exemption for a listed issuer acquiring a public company.
The new rule will be effective on November 24, 2009 but will not apply to transactions of which the TSX has been notified before that date, whether or not conditional approval has already been granted.
The new TSX rule will likely affect public company M&A transactions in Canada by increasing the risk and costs of completing such transactions. It is worth noting that most major stock exchanges require securityholder approval in dilutive transactions, including the acquisition of a public company.
Background Surrounding the Amendments
On April 28, 2009, the OSC released its reasons for judgment regarding HudBay, with its initial order on the matter issued on January 23, 2009. Contrary to the prior finding of the TSX, the OSC order required approval by HudBay shareholders as a condition for the merger transaction between the two companies to proceed. A minority HudBay shareholder initially brought the application to the OSC to set aside the TSX ruling that approved the transaction without HudBay shareholder approval, and the delay in the release of detailed reasons by three months was likely due to the expedient nature in which the OSC thought it necessary to address the plight of concerned HudBay shareholders.
The proposed transaction involved the two public companies entering into an arrangement whereby HudBay agreed to acquire all of the outstanding shares of Lundin in exchange for shares of HudBay – which would have diluted existing HudBay shareholder holdings by more than 100%. The transaction was structured as a court-approved plan of arrangement under the Canada Business Corporations Act that required the approval of Lundin shareholders (which was obtained on January 26, 2009), while HudBay's special committee of independent directors determined that HudBay shareholder approval was not necessary.
The TSX rules typically require approval of the shareholders of the acquiring company in an acquisition transaction where the number of securities issued or issuable in payment of the purchase price exceeds 25% of the issued and outstanding securities of the listed issuer (the listed issuer in this case being HudBay). However, the TSX rules include an exemption from this requirement where the company that the listed issuer is acquiring is a reporting issuer having 50 or more beneficial securityholders, and such exemption was applicable to the HudBay/Lundin transaction.
The TSX will also generally require shareholder approval of a transaction where, in its opinion, the transaction (i) materially affects control of the listed issuer, or (ii) provides consideration to insiders in aggregate of 10% or greater of the market capitalization of the listed issuer and has not been negotiated at arm's length. The TSX rules define "materially affect control" as the ability of any listed issuer's shareholder(s) to influence the outcome of a vote of shareholders. Where a transaction results in one shareholder holding 20% or more of the voting shares of a listed issuer, there is a presumption that the transaction materially affects control. Short of this 20% level, the TSX has no bright-line test for determining whether control is materially affected and, in the case of the HudBay/Lundin transaction, no single shareholder would have owned more than 8.2% of the resulting issuer pursuant to the proposed transaction.
Despite the above-noted exemption, the TSX is cloaked with discretion to impose conditions on a transaction involving the issuance of shares, having regard to the effect that the transaction may have on the "quality of the marketplace."
OSC Decision and Reasons
In setting aside the TSX decision to not require shareholder approval for the proposed transaction, the OSC ultimately ruled that, despite the available rules that allow for the transaction to proceed without shareholder approval, the transaction would have a significant and adverse affect on the "quality of the marketplace" if HudBay shareholder approval was not required. In reviewing the minutes of the TSX decision-making process regarding the transaction, the OSC noted that the TSX did not undertake an assessment of the impact the transaction would have on the "quality of the marketplace" following the specific factors enumerated in the TSX rules.
In coming to its finding, the OSC concluded that the transaction as proposed exhibited an extreme level of dilution of shares held by HudBay shareholders pre-transaction, and that this would fundamentally affect the economic interests of shareholders, and their voting, distribution and residual rights. The OSC classified the two companies as equals and questioned the decision of HudBay's board to approve the transaction without shareholder approval. The OSC explained that fair treatment of shareholders is a key factor in considering the quality and integrity of capital markets, and if the transaction were to proceed as proposed, the result would be "manifestly unfair" to the HudBay shareholders. The OSC views the quality of the marketplace as a "…broad concept of market quality and integrity" and that "…assessing the impact of a proposed transaction requires a careful consideration of all the relevant facts and circumstances and a balancing of all the relevant considerations that bear on that assessment."
The OSC commented that the factors contained in the TSX rules that pertain to assessment of quality of the marketplace are not exhaustive, but act as a guide. As such, the OSC suggested that an examination of a proposed transaction should "…consider the circumstances under which the transaction is negotiated, the process by which it was negotiated and its impact on shareholders." Further, the discretion available to the TSX in considering such a transaction "…should be assessed based on both the magnitude of the individual factors that could affect the quality of the marketplace and the aggregate impact of all the relevant factors." The OSC stated that "…where a transaction will clearly have a transformational effect on an issuer and its business, that effect is a relevant consideration in assessing… whether shareholder approval of a transaction should be required."
Behaviour of the Parties
The OSC did not specifically address the allegations of the HudBay minority shareholder regarding defective or inappropriate behaviour on the part of HudBay's board or special committee and its effect in determining the overall effect of the transaction on the quality of the marketplace, but it did note its concern for some of the matters raised. The OSC's reasons contain reference to the necessity of the TSX having considered and assessed possible questionable behaviour by a board or special committee in the course of an assessment of a transaction, including, among other things, the issuer's governance and disclosure practices, unduly accelerated corporate governance procedures, issues surrounding involvement of insiders, the effect of the transaction on control of the issuer and the existence of competing bids (or lack thereof). While the OSC agreed with the TSX that such issues cannot generally be expected to be addressed or resolved in applying the TSX rules, it is not to say that in other cases "…such matters may not be highly relevant facts that should be addressed if they are raised with the TSX and appear to be real concerns."
In addition, the OSC commented on the appropriateness of financial advice given to the special committee in the form of a fairness opinion that was to be issued by the advisor pursuant to a success fee payable upon consummation of the HudBay/Lundin transaction. In this regard the OSC added that "[s]uch fees create a financial incentive for an advisor to facilitate the successful completion of a transaction when the principal focus should be on the financial evaluation of the transaction from the perspective of the shareholders." In its view, the OSC expressed concern that a fairness opinion prepared by a financial adviser who is being paid a signing fee or a success fee does not assist a special committee of independent directors in demonstrating the due care the directors have taken in complying with their fiduciary duties in approving a transaction. The takeaway message from the OSC in this regard is that, for a fairness opinion to assist boards and committees in discharging their duties, the fairness opinion must come from a disinterested financial advisor.