Takeover Bids (TOB) serve an important role in the promotion of strong corporate governance – termed the market for ‘corporate control’, bids, and the threat of bids. TOBs serve an important disciplinary function on management and help eliminate agency costs inherent in the corporate model. While the issue of greater societal value of TOBs may be questioned, corporate governance experts view TOBs as a primary source of discipline of inefficient managers and the risk of such takeovers provides the necessary pressure to reduce agency costs inherent in the corporate law model. There is also the possibility for greater economic good from the combination of two complementary businesses. This may include economies of scale, reduction of management headcount or more efficient resource allocation. Finally, TOBs provide an ‘exit opportunity,’ especially for thinly-traded securities (where even the announcement of a bid improves liquidity).
The empirical evidence suggests that the current TOB regime may favour the target shareholders over the bidder (if one defines favour that the economic benefits accrue primarily to the target shareholders). This depends on various factors, including the demonstrated value in a control position and the regulatory and legal regime that favours the interests of the target shareholders, leading to auctions which increase value. While on its face, this transfer of value appears to be recognition of the value of the control premium, is there more to consider? Is the creation of circumstances that so boldly favour auctions actually decreasing the vitality of the market for corporate control (as TOBs become pricey), thereby losing the benefits of TOBs?
Furthermore, TOBs are expensive propositions for both the bidder and the target board. TOBs include onerous transaction costs, including legal fees for investment bankers, preparation and filing costs and the delivery of mandatory information circulars required by both the bidder and the target. When TOBs are contested, the costs escalate dramatically, driven by multiple factors, including lack of certainty of result, and the possibility of regulatory proceedings before two key decision makers—provincial securities regulators and the courts.
Do concerns over TOB regulation suggest improvements are needed?
In terms of Canadian securities regulators, Canadian Jorex was the first decision in which a commission considered the now classic Canadian takeover defence, a SRP. The Commission found that it is time to terminate a SRP after considering whether the rights plan had served its purpose by facilitating an auction for the target. In Canadian Jorex, the Commission found the continued existence of the SRP would not result in anyone else joining the auction nor would it result in any enhancement of existing bids and it was therefore cease traded.
This conclusion was based on the Commission’s stated view of the public interest in contested takeover bids:
For us, the public interest lies in allowing shareholders of a target company to exercise one of the fundamental rights of share ownership—the ability to dispose of shares as one wishes—without undue hindrance from, among other things, defensive tactics that may have been adopted by the target board with the best of intentions, but that are either misguided from the outset or, as here, have outlived their usefulness.
The decision in Canadian Jorex was the building block that would set the tone from 1991-2007 in determining how the OSC would interpret TOB regulation in contested transactions. The theory was that at some point, the pill would expire—there was always a time when the “pill had to go”. The issue was when it would go, not if. This provided some certainty of process. In the result, since Canadian Jorex, Canada has been much more ‘bidder’ friendly than the US, especially concerning defensive tactics.
In recent years, however, there have been a variety of decisions across the country suggesting that boards may, in fact, be entitled to play a more expansive role in defending against a takeover bid. For example, in Ontario in Neo Materials and in Alberta in Pulse Data, each suggest that there may be increasing deference paid to efforts to ‘just say no’, even in circumstances where there is no alternative transaction available.
There is no uniformity of analysis nor result by the provincial commissions. In Lions Gate, the BCSC decision demonstrated that shareholder approval is a relevant but not a determinative factor in deciding whether a SRP should remain in place. It also showed that in B.C. it really is when, and not if, a SRP will be cease traded. The BCSC Commissioners noted that they believed that Neo Materials and Pulse Data were distinguishable. They also stated that those cases would seem to depart from the Canadian securities regulators’ view of the public interest. Finally, the recent Quebec decision in Fibrek, where the Bureau took a different view of appropriate tactics than staff of the AMF, further highlights the uncertainty that exists in Canada concerning how a deal must/can be responded to by a board, which in turn drives uncertainty by bidders, leading to higher sunk costs and a depressed bid market. Hence, the need to reform the TOB regime.
Proposals that could be implemented which would balance the rights of the target and the bidder, and which may both foster the TOB market, while reducing transaction costs include the following:
- SRP’s and other defensive tactics should require shareholder approval. This includes any prospects for the removal of opportunistic or purely defensive SRPs. This principle promotes shareholder democracy and certainty. This is consistent with the spirit and intent of 62-202;
- Shorten bid timelines. A change in the legislation reducing the bid timelines from 35 days to 21 days and permitting pre-approved SRPs for only 21 days post bid-expiry, for a total of 42 days. This would improve certainty and reduce litigation costs;
- Accelerate the auction process. Maintaining the possibility of a SRP for which has secured advanced shareholder approval would encourage the possibility of an auction. At the same time, however, it would also encourage auctions to proceed expeditiously while balancing the reality that the first bidder may be the ‘best’ (successful) bidder or generate the most superior bid;
- Codify information leakage controls. Institute mandatory rules that would impose information leakage controls on all service providers to halt pre-bid price run ups that are likely to make TOBs more expensive, thereby discouraging hostile bidders. This also encourages the payment and valuation of true control premiums;
- Consistency among provincial regulators. Regulators should examine 62-202 to determine if further policy guidance is required and ensure, at the CSA level, a consistent policy to generate greater certainty. The re-examination of 62-202 would include an analysis of reconciling the decisions of both Neo Materials and Pulse Data with Lions Gate. Finally, the length of time for the SRP to expire is not clear under 62-202. Where there is no legislative change, a policy suggestion would be of assistance;
- Remain within the purview of securities law statutes. Regulators should restrict their action to consideration of matters authorized by the OSA and not purely governance issues. The decisions in Magna, HudBay, Neo Materials, Pala Investments, and Sears show that the OSC is increasingly providing commentary in corporate governance. These decisions also show that the OSC is considering issues which remain outside the jurisdiction of the OSA. Where such issues are considered, it adds to the uncertainty surrounding the TOB regimes at the Commission. This increases costs and reduces the likelihood of such bids being launched.
- The OSC tribunal should confine adjudication to its statutory jurisdiction. The OSC should not cross the lexicon of corporate law statutes. The decisions in Magna, HudBay, Neo, Pala, and Sears show that the OSC is increasingly providing commentary in corporate governance. At the same time, however, these decisions also show that the OSC may be crossing the lexicon of corporate law statutes which lie outside its statutory authority. This is problematic as there is a continual tension between the intersection of securities law and corporate law statutes, a tension which is known to securities regulators across Canada.
In deciding on contested transactions, 62-202 requires the OSC to satisfy its policy objective of shareholder primacy. At the same time, however, courts have vigorously protected the business judgment rule in deciding on corporate governance cases. Corporate governance cases do not have a clear connection to securities legislation. Where a securities regulator rules on a corporate governance matter that offends the business judgment rule, this brings into question the merits of whether a securities regulator has a right to err on a principle for which the courts have closely protected. In such cases, courts should not provide deference to OSC tribunal decisions. There is increasing interplay between securities law and corporate law statutes combined with the concurrent jurisdiction in contested takeovers. This has and will continue to pose a future challenge for the OSC tribunal.
- The OSC tribunal should provide shareholders with enhanced disclosures. The Magna decision demonstrated the perils of failing to provide sufficient disclosures to investors when a takeover bid is in play and contested. The ordering of the OSC of Magna to provide enhanced disclosures for investors to make reasoned and informed decisions is consistent with the policy basis of 62-202 and 62-104. During takeover bids, Special Committees have a fiduciary duty and owe a duty of care to investors to ensure information transparency is provided while the board considers other competing alternatives. Securities regulators should ensure that shareholders are provided with enhanced disclosures to make informed decisions.
- Shareholder democracy should not trump director primacy. Under the rubric of 62-202, shareholder democracy is a pervasive theme throughout by allowing shareholders to have the final say on takeover bids. There is a strong myopia in 62-202 in favour of a bias towards supporting shareholder interests at the expense of serving the long-term interests of the corporation. Corporate law statutes such as the OBCA or CBCA emphasize the role of the board in acting as stewards of the corporation to satisfy the long-term best interests of the corporation. This does not necessarily coincide with the long-term interests of shareholders, which are one set of stakeholder interests. In Air Products & Chemicals v. Airgas (“Airgas”), the Delaware court held that boards should be able to “just say no” to hostile takeover bids. In the Airgas decision, Chancellor William B. Chandler III wrote the following:
I conclude that, as Delaware law currently stands, the answer must be that the power to defeat an inadequate hostile tender offer ultimately lies with the board of directors. (Emphasis added)
The decision in Airgas provides some guidance as to how boards should respond to hostile takeover bids. The Delaware court recognized the potential conflict between boards and shareholders and has provisionally resolved it in favour of boards. The Airgas decision should prompt the OSC tribunal to reconsider its adjudicative approach towards defensive tactics in takeover bids by respecting the statutory obligations of boards under corporate law statutes.
- Public policy interests should balance the interests of shareholders and issuers. Recent securities commission decisions in Neo, HudBay, Pala Investments, and Magna highlight the dominance of shareholder democracy over the interests of issuers under board primacy. The sweeping public interest powers of the OSC under s. 127 of the Act was intended to promote capital market integrity, efficiency, and investor protection. In reconciling such objectives, the OSC has failed to provide a semblance of procedural fairness and balance in ruling on contested M&A transactions. The OSC’s public interest powers have been criticised for being overly expansive at the expense of considering non-shareholder interests.
- Critics contend that takeovers expose employees to risks that were not negotiated and may result in the ‘hollowing out’ of Canada. This stems from the relative ease with which bids succeed in Canada – see Edward Waitzer, “Time to Re-think Poison Pills”, Financial Post, September, 2011.
- Bebchuk et al “What Matters in Corporate Governance” 22 Review of Financial Studies 783 (2009).
- See generally Dyck and Zingales, “Control Premiums and the Effectiveness of Corporate Governance Systems”, Journal of Applied Corporate Finance, 2004 Vol 16.
- The creation of an auction being the stated purpose of 62-202.
- Re Canadian Jorex, (1992), 15 O.S.C.B. 257 [Canadian Jorex].
- Ibid, at 5.
- Opportunistic SRPs are instituted by boards in the face of a bid, and generally have not secured shareholder approval.
- There have been competing studies on this point – in particular, the conflicting findings by the BMO study cited on August 22, 2012 by Michael Amm, Partner, Torys LLP, and the Blakes’ study cited on August 15, 2012. In the study by Blake’s – the initial bidder gains control in the majority of cases. The evidence supporting the likelihood of initial bidders gaining control is mixed.
- Civil Action No. 5249-CC (Del. Ch. 2011) (QL)
- Airgas, supra note 2, at 5.