There continue to be ongoing debates in the Canadian capital markets about the range of defensive tactics available to the boards of target companies that are faced with a hostile take-over bid. There are often difficult judgment calls that have to be made when the fiduciary duties of directors potentially come into conflict with the business realities and choices facing a target company subject to a take-over bid. The Canadian Securities Administrators (CSA) has recently seemed reluctant to wade back into this debate, as the CSA did not address the topic of defensive tactics in the latest round of amendments to the Canadian take-over bid regime proposed earlier this year, discussed in our May 2015 bulletin.
The recent decision of the British Columbia Securities Commission (BCSC) in Re Red Eagle Mining Corporation, however, sheds new light on the thinking of Canadian securities regulators regarding certain defensive tactics and in particular “friendly” private placements made in the context of a hostile take-over battle.
Private placement financings like this may be done by a target company as a way of increasing the share position of a friendly “white knight” bidder. This can make it easier for the white knight’s competing offer to prevail, and conversely more difficult for the hostile bidder.
Background to the Red Eagle case
On June 16, 2015, Red Eagle Mining Corporation made a hostile take-over bid for CB Gold Inc. In response, on July 23, 2015, CB Gold and Batero Gold Corp. entered into a support agreement in which Batero agreed to make a take-over bid for CB Gold. In addition, and in connection with its bid, Batero agreed to make a $575,000 private placement into CB Gold. The TSX Venture Exchange conditionally approved the private placement, and the placement closed on July 24, the day after the effective date of the support agreement.
Red Eagle applied to the BCSC to have CB Gold’s shareholder rights plan cease traded and the private placement overturned, the latter on the basis that the private placement was an inappropriate defensive tactic that violated securities laws and was also contrary to the public interest. The BCSC rejected Red Eagle’s application to overturn the private placement (although it did cease trade CB Gold’s rights plan). The BCSC found that it was not clear that CB Gold, which needed the private placement for legitimate financing purposes (and which had asked Red Eagle to provide a financing in earlier discussions about a possible friendly transaction between the companies), conducted the private placement as a defensive tactic. Nor did the BCSC find that the private placement had any effect of limiting CB Gold shareholders from tendering to the Red Eagle offer, and that as a general rule a private placement in the context of a take-over bid should only be blocked by securities regulators “where there is clear abuse of the target shareholders and/or the capital markets.”
Significance of the BCSC’s decision
It is clear from the BCSC’s reasons for decision that Canadian securities regulators are, as a general rule, not very comfortable intervening in a matter like this. It is especially noteworthy that BCSC staff, who were party to the proceedings, essentially took a position friendly to the target company, submitting that the BCSC should exercise its public interest jurisdiction to interfere with a private placement in the context of a take-over bid “only where there is compelling evidence that a failure to intervene would be abusive of shareholders in particular and the capital markets in general.” Staff even went so far as to argue that the BCSC lacked the statutory authority to order the boards of Batero and CB Gold to unwind the private placement, and furthermore submitted that a court was the more appropriate forum to seek a remedy that might involve unwinding a private placement and/or cancelling shares.
It’s also reasonable to conclude from this decision, and certain decisions which have preceded it, that it will always be a challenge trying to get a private placement overturned in a context such as this. Indeed, the BCSC noted that a variety of factors often “scramble” together to make such an application challenging, including:
- the purpose of the financing;
- tension between the role of corporate law, including directors’ duties (most notably the “business judgment rule” governing directors’ duties, which tends to afford considerable deference to business decisions made by directors) and securities regulators’ views on defensive tactics;
- the fact that Canadian stock exchanges are the initial regulators who are required to review and approve or reject private placements by listed companies (including considering whether the private placement is purely a defensive tactic), and the related issue of securities commission review of stock exchange decisions; and
- the remedies available to a securities commission (as opposed to a court) with respect to a completed private placement (especially the matter of unwinding the transaction).
The BCSC’s decision in the context of the junior mining market
It is also important to consider the junior mining market context in which this matter played out, and in particular, the current depressed environment for junior mining equity financings. In such circumstances, disallowing or unwinding a private placement could effectively be sentencing a junior mining company to death. It is surely difficult for a securities commission to second-guess the business judgment of a board of directors in such a context.
Moreover, even in a relatively healthy financing market, junior mining companies typically have no material revenues or cash flows. So at certain points in their business cycle (for example, once the funds from their most recent annual exploration programs have been spent), they are in serious need of cash from an equity financing (which has historically been their sole significant source of financing). In that context, a take-over bid or other acquisition for a junior mining company is usually a pure single property play, and the point of a related private placement is often to simply tide the target company over by providing crucial funds to cover administrative expenses until the acquisition is completed, so that the target company no longer has to worry about raising money simply to survive. Usually the junior miner is being taken over by an acquiror with much stronger finances.
Therefore, it could be argued that a better test case regarding the legality of a defensive private placement might arise in a situation where the target company is cash-rich, generates revenue and is profitable (so where it’s likely not a junior miner). In such a case, the “necessity argument” presumably falls away, and the “why are you doing this financing” question might make the target company a bit more uncomfortable and make it more difficult for the target company to distinguish any business objectives for the financing from its use primarily as a defensive tactic.