On July 17, 2013, the Quebec Court of Appeal rendered its first decision on the statutory secondary market liability regime adopted in 2007 pursuant to a reform of the Quebec Securities Act (QSA).1Although the QSA regime facilitates a plaintiff’s burden, it also imposes an authorization process under which a claimant must establish that its action is brought in good faith and has a reasonable possibility of success. In Theratechnologies inc. v. 121851 Canada inc., 2013 QCCA 1256, the Court of Appeal upheld the Superior Court’s decision to authorize a claim pursuant to s. 225.4 QSA in the context of a class action instituted by the shareholders of Theratechnologies Canada Inc. (Thera), a public company listed on the Toronto Stock Exchange.
The decision is significant in two respects.
First, it held that a judgment authorizing an action under s. 225.4 QSA can be appealed with leave of the Court of Appeal. The court declined to apply article 1010 of the Quebec Code of Civil Procedure (CCP), which states that a judgment authorizing a class action cannot be appealed.
Second, the Court of Appeal attempted to clarify the test applicable to authorization of a claim under the QSA. In doing so, it contrasted the criteria for QSA authorization with the less stringent test applicable to authorization of a class action.2
Thera develops and markets therapeutic products. Under the QSA, Thera is a reporting issuer which must comply with continuous disclosure obligations. As such, in the event of any non-public material change that would reasonably be expected to have a significant effect on the market price or value of its securities, Thera is obliged to issue a news release disclosing the nature and the substance of this change.
In 2009, Thera filed an application with the U.S. Food and Drug Administration (FDA) for approval of a major drug called Tesamoreline. The ensuing approval process took place in 2009 and 2010 and involved the FDA questioning Thera on the product, including asking about the risks of side effects of the drug. Thera did not disclose to the public the specific questions posed by the FDA, which included queries about the risks of diabetes and cardiovascular diseases. Nor did Thera respond directly to the FDA questions.
The ultimate step of the FDA approval process is a public hearing where all interested parties can be heard. May 27, 2010 was selected by the FDA as the date for the hearing. In accordance with FDA practice, on May 25, 2010, i.e. two days prior to the hearing, the FDA published information compiled at that time in the approval process, including its questions related to the possible side effects of Tesamoreline.
Although Thera did not react to the publication, the information released by the FDA caught the attention of financial analytics companies Bloomberg, Dow Jones, Thomson, and Reuters, which issued news releases about potential risks based on their reading of the questions posed by the FDA. The market reacted intensely to the news releases by the financial analytics companies; Thera’s stock was heavily traded that day and lost 58% of its value. Thera’s stock was the object of a cease trading order on May 27. When trading resumed on May 28, and after Thera confirmed that the FDA had approved Tesamoreline as a new drug, the stock regained its value.
The claimant, 121851 Canada Inc. (121Can), sold its stock at a loss on May 25. In a motion for authorization to pursue a secondary market liability claim under s. 225.4 QSA and to institute a class action filed a few months later, 121 Can alleged a failure on the part of Thera to disclose on a timely basis a material change, i.e. the questions raised by the FDA during the drug approval process.
Decision Below (Blanchard J.)
On February 24, 2012, the Superior Court authorized 121Can’s secondary market liability claim under the QSA, as well as the class action.
The Superior Court compared the test to be satisfied by proposed plaintiffs under the QSA to the one applied in class action proceedings, and ruled that the use of the words "reasonable possibility of success" in the QSA, as well as the legislator’s intent, justified a more stringent test than the CCP. As a result, the Court decided that a more conclusive demonstration was required to authorize an action under the QSA.
The Court of Appeal’s Decision (Rochon, Bouchard and Gascon, JJ.A.)
The Court had to decide (a) whether an appeal lies from a judgment granting leave to institute a secondary market liability claim pursuant to s. 225.4 QSA3 and (b) whether the Court below (i) applied the appropriate test to the authorization of the secondary market claim and (ii) erred in authorizing the claim against Thera.
- Appeal from the Authorization Judgment
The Court of Appeal held that the authorization process for a claim under the QSA is distinct from that applicable to class actions under the CCP. In the absence of specific provisions in the QSA governing appeals, the Court applied arts. 29 and 511 CCP, the general rules for the appeal of interlocutory judgments. 121Can was not successful in its argument that an appeal under the QSA should be governed by article 1010 CCP, which states that a judgment authorizing a class action is not subject to appeal. Accordingly, an appeal lies from a judgment authorizing a secondary market claim under the QSAwith leave of the Court of Appeal even if the claim arises in the context of a proposed class action.
In the present case, the Court of Appeal granted leave to appeal applying two criteria.
First, it held that the judgment authorizing a secondary market claim under the QSA could not be remedied by the final judgment (see art. 29(2) CCP). Interestingly, the Court of Appeal based its analysis in this regard on the rationale specified in the Quebec and other provincial legislative debates for requiring authorization to pursue a QSA claim, i.e. to shield defendants from the costs and other negative economic effects of unmeritorious and opportunistic litigation, and from the pressure to settle even unmeritorious claims. The Court expressly distinguished these objectives from those underlying the class actions authorization process, which the Court described as intended to verify the quality of the legal syllogism of the claim in the context of a burden of "demonstration" rather than proof (see para. 69).
The second criterion was that the pursuit of justice required that leave to appeal be granted. In the present case, the Court concluded that the novelty of the questions at issue fulfilled the second criterion.
Merits of the Appeal
- Applicable Test for Authorization
Although mostly in agreement with the Court below, the Court of Appeal found it necessary to "attenuate" some of the statements made by the Superior Court. In particular, it was of the opinion that the authorization process under the QSA imposes a burden of proof, rather than a mere burden of "demonstration" as suggested by the Superior Court (see paras. 131-132). As a result, the Court of Appeal specified that a claimant under the QSA must present sufficient evidence to establish a reasonable possibility of success, despite the fact that such evidence may vary according to the circumstances.
The Court acknowledged that the "reasonable possibility" that a secondary market liability claim will be resolved in favour of the plaintiff under the QSA is more stringent than the class action "colour of right" filtration mechanism of art. 1003 CCP ("the facts alleged seemed to justify the conclusions sought"). However, the Court insisted that a possibility of success is not tantamount to a probability or preponderance of proof. The burden is therefore situated between the simple burden of proving "colour of right" and the more onerous balance of probabilities.
The Court described the criterion of a reasonable possibility of success as being more than just an obstacle to frivolous and meritless actions. The QSA filtration mechanism involves a summary appreciation of the alleged right of action to avoid claims with no reasonable chance of success without transforming it into a trial on the merits. The Court cautioned against conceiving the QSA authorization process as a "mini-trial" prior to the institution of the action.
Because Ontario and British Columbia have enacted provisions similar to s. 225.4 QSA, the Court of Appeal relied on cases from those jurisdictions in order to determine the applicable test for authorization. However, the Court mentioned that restraint must be applied when considering the "particularly thorough analyses" conducted in some of the Ontario decisions prior to deciding on authorization (see paras. 125-126). The Court stressed that unlike the QSA and CCP, the Ontario Securities Act and class action certification process contemplate the filing of detailed affidavits and the examination of affiants.
Nevertheless, the Court stated that the authorization judge must ensure that a secondary market liability claim is "supported by real and tangible evidence", which can take the form of sworn statements, examinations and properly filed exhibits (see paras. 129-31).
- Claim Filed Against Thera
Although 121Can had chosen not to file any sworn statements, the Court of Appeal mentioned that the authorization hearing proceeded on the basis that the exhibits relied upon on both sides (almost 40) were admitted and appropriately filed. The Court also stressed that Thera had filed two sworn statements and the examination before plea of 121Can’s representative.
The Court of Appeal confirmed that the "good faith" requirement of s. 225. 1 QSA was not seriously disputed in this case. Good faith is presumed (see. art. 2805 Civil Code of Quebec) and the evidence filed into the court record was consistent with 121Can’s sincere belief of wrongdoing by Thera.
The Court agreed with the Superior Court that 121Can had demonstrated a reasonable possibility of success for its claim through a well-developed theory of the case (which should be analyzed at the authorization stage). 121Can’s theory was supported by numerous exhibits and by the explanations provided by the representative of 121Can during its examination by Thera. The Court stressed that 121Can’s claim identified a precise event that it alleged should have been disclosed, i.e. the questions raised by the FDA concerning the possible side effects of Tesamoreline. The Court of Appeal confirmed that the lower court was correct in not determining at this stage whether the queries from the FDA could amount to a material change. According to the Court, such a determination must be reserved for the merits.
Conclusion and Comments
Public issuers and class action defence lawyers will probably receive the Court of Appeal’s decision with mixed feelings.
The Court’s conclusion that an appeal may be sought from judgments authorizing secondary market liability claims is most welcome in a jurisdiction where the rules generally favour class action plaintiffs at the authorization stage. For example, in Quebec there is no explicit requirement that a class proceeding be the preferable procedure. Further, the defendants can contest authorization only orally and have no right of appeal from an order granting authorization, while the plaintiffs do have a right to appeal an order denying it. One would hope that the Quebec Court of Appeal will seriously exercise its gatekeeping role for secondary market liability claims.
The criteria for obtaining leave to appeal authorization under the QSA are not clearly stated, however. On the one hand, the Court of Appeal indicates that any such authorization judgment could not be remedied by the final judgment. Nonetheless, it insists that leave can only be granted if, in addition, it is required in the interest of justice. The latter criterion was fulfilled by the novelty of the case. It is not clear how this will apply to future applications for leave to appeal.
The Court’s rationale for concluding that an appeal lies from authorization judgments under the QSA and its insistence on the settlement pressures felt by public issuers is also welcome. However, the Court’s reasoning, which largely consists of contrasting the objectives pursued by the QSA authorization process and the class action authorization process, leaves the practitioner perplexed. The enormous pressure to settle even unmeritorious claims because of the expense of litigation and because of the magnified and potentially ruinous hazards of an adverse outcome, to which the Court of Appeal refers in the context of aQSA claim, are equally applicable to class action defendants.
Moreover, although comparisons between the filtration mechanisms of s. 225.4 QSA and art. 1003 CCP may be unavoidable, the Court’s multiple statements about the easy burden to be satisfied by class action plaintiffs appear unnecessary (and will undoubtedly be used by plaintiffs’ counsel at the class action authorization stage).
Despite a lengthy discussion of the burden imposed on a claimant under the QSA, the test for authorization is not clear. The standard of demonstrating a possibility of success based on real evidence resides somewhere between the burden of "demonstration" of a colour of right applicable to class action authorization and the balance of probabilities normally applicable to the merits. The Court of Appeal characterized the claimant’s burden as establishing a reasonable possibility of success while in the same judgment describing the policy behind authorization under the QSA as avoiding abusive "strike suits" that are futile and destined to failure. It ultimately applied the latter standard in authorizing the QSA claim and in doing so seems to impose a burden on defendants.
Finally, some clarification may be needed as to the role of evidence where the authorization process under the QSA coincides with that applicable to class actions. Evidence is required under the former regime, while severely restricted under the latter. Given overlapping substantive issues in both authorization processes, Quebec courts may have to establish guidelines as to how evidence is submitted and considered in this new context.