On August 30, 2010, the Ontario Divisional Court upheld a lower court ruling approving a plan of arrangement involving Magna International Inc. and its shareholders. The decision provides useful guidance as to the legal principles applicable when seeking court approval of a plan of arrangement used to collapse a dual-class share structure, and, in particular, the significance that the courts will be prepared to accord to the outcome of a shareholder vote in appropriate circumstances.
In May 2010, Magna announced a plan to collapse its existing dual-class share structure into a single class structure by way of a court-approved plan of arrangement. At that time, Magna’s share capital consisted of Class B multiple voting shares and Class A subordinate voting shares. All of the Class B shares and some Class A shares were ultimately controlled by the Stronach Trust, of which Magna Chairman, Frank Stronach and his family members were trustees. Under the plan of arrangement, which was completed on August 31, 2010, the Class B shares were exchanged for a combination of cash and Class A shares that resulted in dilution to the Class A shareholders of approximately 11 percent. In addition, existing consulting arrangements between Magna and Mr. Stronach were amended, resulting in estimated fees of $120 million being payable to Mr. Stronach over a four year period. Finally, Magna and the Stronach Trust entered into an electric car joint venture controlled by the Stronach Trust.
A special committee of Magna’s board of directors was formed to examine management’s proposal to reorganize the capital structure of Magna. The independent financial advisor engaged by the special committee did not provide a fairness opinion, adequacy opinion or formal valuation. The special committee made no recommendation on how shareholders should vote.
Subsequent to Magna mailing its proxy circular for the special shareholders’ meeting to approve the arrangement, the Ontario Securities Commission found the proxy circular disclosure to be insufficient and ordered Magna to supplement the disclosure with all material information that was before the special committee. The Ontario Securities Commission also considered the lack of a fairness opinion and expressed the view that a fairness opinion was not required.
In addition to the customary corporate law approval, Magna stipulated that the arrangement be approved by a simple majority of the Class A shareholders, other than the Stronach Trust and related parties, voting at the special meeting to consider the arrangement. At that meeting, 75.28 percent of the votes cast by minority Class A shareholders were voted in favour of the arrangement. At the court hearing to approve the plan of arrangement, certain minority shareholders of Magna opposed approval of the arrangement. The court nevertheless approved the plan.
The opposing shareholders relied on the Supreme Court of Canada’s decision in BCE Inc. v. 1076 Debentureholders  3 S.C.R. 560, 2008 S.C.C. 69 to argue that the arrangement itself must be suitable for court approval on a substantive and objective basis. This, the shareholders argued, required Magna to demonstrate that benefits to Class A shareholders would outweigh the costs of the arrangement. The opposing shareholders argued that the benefits to the Class B shareholders were fixed, quantifiable and immediate, while the primary benefit to the Class A shareholders (i.e., the potential for a sustained higher trading price for the Magna shares) was uncertain, unquantifiable and unable to be assured. The opposing shareholders also pointed to the lack of a recommendation from the special committee and the Magna board of directors, and the lack of a fairness opinion. Relying upon a report of Morgan Stanley Canada Limited to the effect that the price to be paid for the Class B shares was much higher than that paid in other transactions involving the collapse of dual-class structures, the opposing shareholders maintained that the court should, on that basis alone, conclude that the arrangement was not fair or reasonable.
The Appeal Decision
In rejecting the arguments of the opposing shareholders and upholding the lower court ruling, the Divisional Court applied the legal principles governing consideration of a plan of arrangement established in BCE Inc. and earlier judicial decisions, on the following basis:
- In seeking court approval of a plan of arrangement, an applicant corporation must establish that: statutory procedures have been met; the application has been put forward in good faith; and the arrangement is fair and reasonable.
- In determining whether a plan of arrangement is fair and reasonable, the court will apply the following two-prong test: does the arrangement have a valid business purpose; and are the objections of those securityholders whose legal rights are affected through the arrangement being resolved in a fair and reasonable way. Citing BCE Inc., the Divisional Court noted that, when applying this test, the court must delve beyond whether a reasonable business person would approve of the arrangement and consider a variety of factors, none of which is conclusive and the relevance of which will vary from case to case based on the facts of the case. The Divisional Court then examined each element of this test in further detail:
- Valid Business Purpose Test. The valid business purpose test requires the court to "be satisfied that the burden imposed by the arrangement on securityholders is justified by the interests of the corporation". The Divisional Court agreed with the conclusion of the lower court that the valid business purpose inquiry requires only the demonstration of the prospect of clearly identified benefits to the corporation that have a reasonable prospect of being realized if the arrangement is implemented. In the case of Magna, the lower court judge found that the elimination of the dual-class structure would arguably improve corporate governance and the financial well-being of Magna as Magna’s board of directors would be elected by all shareholders without the influence of a control block and the prospect of higher trading multiples associated with a single class of shares should reduce Magna’s cost of capital. The Divisional Court also agreed with the lower court’s finding that the primary cost of the arrangement fell on the Class A shareholders and not on Magna.
- Fair and Balanced Test. The Divisional Court indicated that, in Magna’s case, the issue in the fair and balanced test was whether the costs and benefits of the arrangement to the Class A shareholders were fairly balanced in the circumstances. In concluding that Magna had satisfied this test, the Divisional Court noted that:
- A court may conclude that a plan of arrangement is fair and reasonable based upon the court’s determination of the "relative probable substantive costs and benefits" of the arrangement together with a favourable vote by informed shareholders. It is not necessary for the court to make an exact determination of the relative financial costs and benefits of the arrangement so long as "there is credible evidence that shareholders could reasonably conclude that the perceived benefits equal or outweigh the costs of the arrangement". In Magna’s case, the Divisional Court found that the principal means of balancing the costs and benefits to the Class A shareholders was the potential increase in the trading price of the Class A Shares as a consequence of the arrangement. In this regard, the Divisional Court found that the respective reports of the financial advisors to Magna and the opposing shareholders, as well as other analyst reports, were consistent with the view that there could be an increase in trading multiples that would "at least offset the cost of the transaction to Class A shareholders" and that reaction to the arrangement prior to its completion indicated that market participants believed there was a reasonable possibility of achieving the potential benefits of the arrangement. On that basis, the Divisional Court rejected the argument that the arrangement was inherently unfair.
- The favourable vote of the affected shareholders on a proposed plan of arrangement is "important evidence" in favour of concluding that the arrangement is fair and reasonable, assuming that the information provided by the corporation to shareholders is sufficient to enable them to make an informed decision as to the costs and benefits of the arrangement and is not misleading and that the voting process is otherwise procedurally fair and reasonable. The Divisional Court emphasized the fact that, in Magna’s case, the minority Class A shareholders were entitled to vote separately on the arrangement on a disinterested basis, thereby offering them an effective veto.
- Fairness opinions and valuations are useful references but cannot provide any guarantee of future market prices. In the end, shareholders must make their own judgment as to the future market value of their shares after the implementation of an arrangement.
- The inquiry by the court in a case of this kind is fact-specific and there were a number of facts that made this case unique, including the nature of the bargain being offered to the Class A shareholders (i.e. the opportunity to acquire control of Magna); the effective veto on the transaction being afforded to the minority Class A shareholders; the fact that the value of the bargain and its underlying rationale will fall to be determined in the future by market forces; the extensive level of disclosure made to the shareholders; and the sophistication of the majority of the Class A shareholders, some 80 percent of which were institutional investors.