On June 3, 2019 the Ontario Court of Appeal released its decision in Hung et al, v. Ontario (Securities Commission), upholding the ruling of the Ontario Securities Commission that certain executives of Sino-Forest Corporation (the “Executives”) breached various sections of the Ontario Securities Act in furtherance of one of “the largest corporate frauds in Canadian History”.
As noted in our earlier commentary on the underlying OSC decision on the merits, the OSC Panel found that the Executives orchestrated an elaborate, premeditated, and coordinated fraud to overstate the assets and revenue of Sino-Forest Corporation, with a total of $6 billion in market capitalization, making it one of the largest corporate frauds in Canadian history. It was also found that the Executives specifically misled the OSC. As a result, as summarized in our prior commentary on the OSC sanctions decision, the Executives received what amounted to some of the most severe penalties ever ordered by the Commission, including administrative penalties, the disgorgement of profits and lifetime bans.
The Executives appealed the Panel’s decisions on both the merits and the corresponding sanctions to the Ontario Court of Appeal. With respect to the former, the Executives appealed on the following grounds: 1) the reasonableness of the finding that the Executives intended to deceive and defraud investors; and 2) whether there was a reasonable apprehension of bias on the part of the Panel chair.
With respect to the first ground of appeal, the Executives contended that they did not have the requisite mens rea (intent to deceive). More specifically, the Executives claimed that the underlying evidence specifically refuted the allegation that they “knew their actions could deprive others”. In this regard, the Executives challenged the Panel’s consideration of the expert testimony regarding the Chinese custom of “guanxi” (which the Panel described as “the concept of drawing on connections in order to secure favours and reciprocal obligations … based on intricate and pervasive relational networks”), arguing that the prevalence of guanxi in China – which the Executives claimed to be commonplace and necessary in the Chinese commercial environment – justified the various instances of close cooperation between Sino-Forest and its suppliers and customers.
On appeal, the Court of Appeal upheld the OSC Panel’s findings that the evidence demonstrated something more than a difference in cultural practices, as well as the Panel’s conclusions regarding the paramountcy of Ontario securities law in such contexts:
“The Panel is cognizant of cultural differences that companies encounter globally; however, Sino-Forest was listed on the TSX, was an Ontario reporting issuer, raised US $3 billion of capital from Investors, and was required to issue financial statements prepared in accordance with Canadian generally accepted accounting principles. For the purposes of our analysis, Ontario securities law is paramount and overrides any explanations for illegal conduct being excusable in the name of guanxi, however it is defined.”
With respect to the second ground of appeal, premised on an asserted reasonable apprehension of bias, the Executives pointed to discrete comments made by the Chair of the Panel. In dismissing this ground of appeal, the Court of Appeal noted that the high threshold for a finding of reasonable apprehension of bias had not been met. More specifically, the Court concluded that the comments made would not lead a reasonable person to conclude that the Chair was biased. Moreover, the Court noted that there were no objections raised at the time that the two discrete comments were made, nor were there any contemporaneous requests for recusal.
The Executives’ appeal in respect of the OSC sanctions order was grounded in three primary arguments:
a. The Panel ordered disgorgement without there being any causal link between the amounts to be disgorged and the Appellants’ non-compliance;
b. The Panel ordered that the Appellants disgorge all of their remuneration without addressing the specific findings against each Appellant, their respective roles, terms of engagement with Sino-Forest and duties; and
c. The Commission improperly based its decision to award administrative penalties on the fact that the Appellants resided outside of North America.
In dismissing the appeal, the Court of Appeal concluded that the sanctions were reasonable, noting that the Panel had wide discretion to impose sanctions in accordance with the purposes of the Act. In particular, the Panel was held to have correctly considered relevant and appropriate factors in making the unprecedented sanctions ruling, including: (i) the protection of investors from unfair, improper, or fraudulent practices, (ii) the fostering fair and efficient capital markets and confidence in those markets, (iii) the seriousness of the conduct, (iv) the level of the Executives’ activity in the market place, and (v) whether the sanctions imposed will deter others from engaging in similar abuses of the capital market.
The Court of Appeal ruling emphasizes the deference that will be paid by courts to the OSC, as a specialized administrative body, with respect to matters that fall squarely within its mandate to protect the capital markets. More generally, the proceedings emphasize the primacy of Canadian securities laws in the context of reporting issuers operating in foreign jurisdictions.