Recent decisions of the Ontario Securities Commission and the British Columbia Securities Commission have led to some debate about the ability of a target board of directors to effectively use a shareholder rights plan to fend off a bidder in a hostile takeover bid.

The OSC appeared to open the door to a "just say no" defence in its decision in late 2009 in Neo Material Technologies by allowing a shareholder rights plan to stop a hostile partial bid indefinitely. In its decision, the OSC referenced the Supreme Court of Canada’s decision in BCE and stated that rights plans "… may be adopted for the broader purpose of protecting the long-term interests of the shareholders, where, in the directors’ reasonable business judgment, the implementation of a rights plan would be in the best interests of the corporation."

However, a majority panel of the BCSC slammed the door shut on a "just say no" defence in its mid-2010 decision in Lions Gate. That decision expresses the view that the only reason a Canadian securities regulator will tolerate a rights plan is to give the target’s board of directors time to discharge its fiduciary duty and that the focus of that duty is to improve the existing bid or to seek out alternative transactions. The OSC took the opportunity to respond to Lions Gate and clarify its decision in Neo in the recently released reasons for its decision in the Baffinland case.

Baffinland Iron Mines Corporation is a publicly-traded junior mining company engaged in the exploration of one mineral property located on Baffin Island in the Nunavut Territory. Nunavut Iron Ore Acquisition Inc., a subsidiary of a U.S.-based private equity group, commenced an unsolicited takeover bid to acquire all of the outstanding common shares of Baffinland for $0.80 in cash per share on September 22, 2010. Following a series of extensions, Nunavut’s offer was scheduled to expire on November 22, 2010.

On November 8, 2010, Baffinland announced that it had entered into a support agreement with ArcelorMittal S.A., one of the world’s leading steel companies, pursuant to which Arcelor had agreed to make an offer to acquire all of the outstanding common shares of Baffinland for $1.10 in cash per share and certain outstanding common share purchase warrants for $0.10 in cash per warrant. Arcelor commenced its friendly takeover bid on November 12, 2010. The earliest date that Arcelor could take up and pay for deposited Baffinland common shares was the December 20, 2010 expiry of its offer (nearly one month after the scheduled expiry of Nunavut’s offer). Holders of approximately 26 per cent of the outstanding Baffinland common shares entered into lock-up agreements with Arcelor.

Baffinland had adopted an amended and restated shareholder rights plan agreement on January 27, 2009 which was approved by Baffinland shareholders on March 24, 2009 (approximately 18 months prior to the commencement of Nunavut’s offer). The support agreement with Arcelor prohibited Baffinland from waiving the rights plan until immediately prior to the expiry of the Arcelor offer (which would prevent Nunavut from taking up shares under its offer until then).

Nunavut applied to the OSC for an order cease trading the shareholder rights plan. The OSC granted the order and cease traded the Baffinland rights plan. Consistent with the principles outlined in National Policy 62-202 and those enunciated by the British Columbia Securities Commission in Lions Gate, the OSC concluded that the Baffinland shareholders should determine the outcome of the two competing bids.

The OSC devoted a significant portion of its decision in Baffinland to an elaboration of its Neo decision. The OSC stated that its decision to cease trade the shareholder rights plan in the Neo case was based on the fact that shareholders had overwhelmingly approved the rights plan in the face of a specific bid that had been put to shareholders at the time of the vote. The OSC concluded that it should defer to the wishes of shareholders as expressed by that vote. The OSC then goes on to explain why it examined the board’s fiduciary duties in the Neo case:

Having concluded that it should [defer to the wishes of the Neo shareholders and not cease trade the shareholder rights plan], the Commission then asked whether there were any circumstances that would lead it to a different conclusion. One such consideration was whether or not the board of directors of Neo was acting in accordance with its fiduciary duties in having decided not to solicit competing bids. If the board was not complying with its fiduciary duties that might have led the Commission to cease trade the Neo rights plan regardless of the shareholder vote (although whether the Commission would have done so is an open question).

The OSC stated that Neo does not stand for the proposition that the OSC will defer to the business judgment of a board of directors in considering whether to cease trade a shareholder rights plan, or that a board in the exercise of its fiduciary duties may "just say no" to a takeover bid. The OSC goes on to state:

Neo suggests only that whether or not the board of directors of a target issuer is acting in the best interests of that issuer and its shareholders, and is complying with its fiduciary duties, is a relevant, although secondary, consideration for the Commission in deciding whether to cease trade a rights plan. Whether a board of directors is complying with its fiduciary duties does not determine the outcome of a poison pill hearing.

Other facts and circumstances that the OSC considered in deciding that granting the cease trade order was in the public interest included that (i) the rights plan had accomplished the objective of stimulating an auction (i.e., there were two competing offers on the table), (ii) the rights plan should not be permitted to be used for the purpose only of eliminating a timing advantage available to Nunavut as the first bidder, (iii) immediately cease trading the rights plan could potentially result in a higher offer from Nunavut, (iv) the Nunavut offer was not inherently coercive as a result of a minimum tender condition, (v) it was unlikely that Nunavut could acquire sufficient common shares to frustrate the auction and (vi) the terms of the support agreement cannot restrict the OSC’s ability to act in the public interest.

Although the OSC has now somewhat clarified the relevance of compliance by a target board with its fiduciary duties in the determination of whether to cease trade a shareholder rights plan, it remains difficult to fully reconcile the views of the OSC with those of the majority panel of the BCSC in Lions Gate. The OSC decision in Neo provides that the securities commissions should defer to the will of the shareholders where the shareholders have overwhelmingly supported the adoption of a rights plan in the face of a takeover bid. However, the decision of the majority panel of the BCSC in Lions Gate states that shareholder approval is not relevant where a target board is not actively seeking alternatives to the bid. What is not clear then is whether the securities commissions will defer to the wishes of shareholders who have fully supported the adoption of a rights plan in the face of a hostile bid and allow the rights plan to remain in place to enable the target board to pursue its existing business plan and not put the company into play.

It would be very interesting to see if a Canadian court would step into the fray and how it would reconcile the conflicting views of the securities commissions and the corporate law duties of directors in rendering a decision in these circumstances.

We note that the Delaware Court of Chancery held in its February 15, 2010 Airgas decision that a board of directors of a Delaware corporation is entitled to use a right plan to "just say no" to a hostile takeover bid where the board has acted in good faith and in accordance with its fiduciary duties.