Corporate Governance, in Silicon Valley and Beyond

The best practices and processes through which companies manage their corporate affairs have long been analyzed and discussed under the “corporate governance” umbrella.  Corporate governance practices and trends among large public companies are often presented as a benchmark for all companies.  Less often discussed are the industry-specific practices tailored by companies to fit their businesses.

One Silicon Valley law firm, Fenwick & West LLP (Fenwick), has taken a closer look at these differences.  Fenwick collects and compares data on the corporate governance practices of large publicly traded companies and technology and life science companies via an annual survey.  In an article entitled Corporate Governance: A Comparison of Large Public Companies and Silicon Valley Companies[1], Fenwick compares the governance practices of companies included in the Standard & Poor’s 100 Index (S&P 100) against those of the technology and life sciences companies included in the Silicon Valley 150 Index (SV 150).

Fenwick identifies a number of significant findings, summarized as follows:

  • Dual-Class Voting Stock Structure: While dual-class voting stock structure has historically been more prevalent among S&P 100 companies, it has been gaining popularity among SV 150 companies in recent years and is now practiced by 11.3% of SV 150 companies, compared to 9.0% of S&P 100 companies.
  • Classified Boards: Classified boards (where the term length of each director is dependent upon his or her classification) are significantly more common among SV 150 companies, accounting for about half of all companies. In contrast, the use of classified boards among S&P 100 companies is on a steady decline, accounting for only 4% of companies in 2016.
  • Majority Voting: The implementation of some form of majority voting has been consistently increasing among companies in both cohorts, now accounting for 95% of S&P 100 companies and 55% of SV 150 companies. The increase is especially dramatic among S&P 100 companies: rates rose in those companies from just 10% in the 2004 proxy season to 95% in 2016.
  • Stock Ownership Guidelines: The prevalence of stock ownership guidelines is increasing among both cohorts, with the SV 150 recently surpassing the S&P 100 in terms of frequency.
  • Stockholder Proposals: Stockholder activism is significantly lower among SV 150 companies, although a downward trend has been observed among both grounds.  2016 saw no contested director elections among either group.
  • Executive Officers: While the number of executive officers is trending downward among both groups, the number is significantly lower among SV 150 companies.
  • Leadership: Combined Chair/CEO positions continue to be significantly more common among S&P 100 companies at a rate of 69%, compared to approximately one third for SV 150 companies.
  • Board Meeting Frequency: Companies in the SV 150 tend to hold more board meetings than their S&P 100 counterparts, despite an overall downward trend among both groups.
  • Board Size and Composition: The overall number of directors is substantially lower among SV 150 companies and while the prevalence of insider directors is decreasing among both groups, the role continues to be more common among SV 150 companies.
  • Board Diversity: The presence of female directors continues to increase. The rate of increase is higher among SV 150 companies. Of note, SV 150 companies report increasing numbers of female directors and declining numbers of boards without female members.  Among the SV 150, 74% of companies now have at least one female director.

A full copy of Fenwick’s 2016 report can be obtained here.

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The author would like to thank Erika Anschuetz, articling student, for her assistance in preparing this legal update.

[1] David A. Bell, Fenwick & West LLP, “Corporate Governance: A Comparison of Large Public Companies and Silicon Valley Companies” (2016) Harvard Law School Forum on Corporate Governance and Financial Regulation.

Universal proxies: SEC proposal moving forward

In a move that may encourage shareholder activism and increase the potential for proxy contests, the Securities and Exchange Commission (SEC) has voted to propose amendments to the U.S. federal proxy rules (the Proposed Rules). As discussed in a previous post, the Proposed Rules will require parties in all “non-exempt” solicitations in a contested director election to use universal proxy cards that include the name of all board of director nominees (i.e., both dissident and management nominees). As such, shareholders voting by proxy would be able to vote for a combination of management and dissident candidates.  Currently, only those shareholders voting in person have the ability to do so.

In addition to prescribing content and deadlines for filing proxy statements and universal proxy cards for both management and dissidents, the Proposed Rules also include the following proposed amendments:

  • Notice to management: dissidents would be required to provide management with notice of its intent to solicit as well as the names of its nominees by a specified date. Shortly after, management would then be required to provide the dissident with its list of nominees;
  • Reference to both proxy statements: in each of their respective proxy materials, each party would be required to refer shareholders to the other party’s proxy statement for information about that party’s nominees and explain how to access it; and
  • Solicitation: dissidents would be required to solicit shareholders representing at least a majority of the shares entitled to vote on the election of directors.

Overall, these amendments will reduce the barriers dissidents face when engaging in a proxy contest and may increase their likelihood of achieving representation on a board of directors.

Currently, shareholders voting by proxy are required to choose from either management’s nominees or the dissident’s nominees by submitting either party’s respective proxy card, each listing that respective parties’ nominees only.  Using the proposed universal proxy card, shareholders voting by proxy will see all nominees on one card (i.e., the board and dissident’s nominees) and will have the ability to select a combination of directors to elect. This change may increase the dissident’s nominees’ exposure to all shareholders, eliminate management nominees’ ability to “hide in the collective” and may, upon an initial glance, imply that management may be supportive of the dissident’s nominees.

The SEC is now seeking public comment on the Proposed Rules for 60 days following which they will vote on it a second time.  For a summary of the Commission’s reasons for and against the Proposed Rules, see Commissioner Michael S. Piwowar (against), Commissioner Kara M. Stein (for) and Chair Mary Jo White’s (for) published statements.  For a summary of all amendments as well as the full text and commentary, refer to the SEC’s press release and the proposal, respectively.

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Tactical defenses by targets: OSC and BCSC defer to target board decision to implement private placement in face of hostile bid

Further to our post on the Dolly Varden Silver Corp. (Dolly Varden) and Hecla Mining Co. (Hecla) decision, the Ontario and British Columbia Securities Commissions (the Commissions) recently released their reasons for their decision in July, 2016 (the Reasons) allowing Dolly Varden to proceed with a proposed private placement announced shortly after Hecla launched a hostile bid for Dolly Varden.  Following the decision, Hecla promptly withdrew its bid.

The Dolly Varden bid has been closely watched because it is the first decision to consider the use of a private placement by a target since the introduction of Canada’s new take-over bid regime in May, 2016

National Policy 62-202 –Take-over Bids – Defensive Tactics (NP 62-202) states that a securities issuance, i.e. a private placement, could, in certain circumstances constitute a defensive tactic attracting regulatory scrutiny on the basis that it may frustrate the ability of shareholders to respond to a bid or a competing bid. The Reasons note that prior to the introduction of the new bid regime, regulatory scrutiny in the context of defensive tactics was focused on shareholder rights plans. The new focus on private placements is a more difficult balance to strike, as unlike shareholder rights plans whose purpose is to thwart an unwanted bid, private placements may serve a variety of corporate objectives, not related to the bid. The Reasons provide that when considering whether a private placement is purely a defensive tactic, the extent to which the private placement serves a bona fide corporate objective must be balanced against the takeover bid principle of ensuring shareholder choice to tender to a bid and promoting a transparent and even-handed bid process.

The Reasons emphasize that regulators must consider the responsibilities of boards of directors in implementing corporate actions, including considering the directors’ standard of care and the business judgment of boards. The Commissions cited with approval the British Columbia Securities’ Commission’s decision in Re Red Eagle, 2015 BCSECCOM 401, that “securities regulators should tread warily in this area and that a private placement should only be blocked by securities regulators where there is a clear abuse of the target shareholders and/or the capital markets”.

Considering the business judgment rule, the Reasons layout the test to determine whether a private placement is a defensive tactic. First, if the evidence clearly establishes that the private placement is not in fact a defensive tactic designed, in whole or in part, to alter the dynamics of the bid process. In considering this, the Commissions set forth the following non-exhaustive list of considerations: (a) whether the target has a serious and immediate need for financing; (b) whether there is evidence of a bona fide, non-defensive, business strategy adopted by the target; and (c) whether the private placement has been planned or modified in response to, or in anticipation of, a bid.

If, after this analysis, it cannot be clearly established that the private placement is not a defensive tactic, then the principles set out in NP 62-202 are engaged. In addition to the foregoing list of considerations, the regulators will also consider the following additional non-exhaustive questions: (a) would the private placement otherwise be to the benefit of shareholders by, for example, allowing the target to continue its operations through the term of the bid or in allowing the board to engage in an auction process without unduly impairing the bid?; (b) to what extent does the private placement alter the pre-existing bid dynamics, for example by depriving shareholders of the ability to tender to the bid?; (c) are the investors in the private placement related parties to the target or is there other evidence that some or all of them will act in such a way as to enable the target’s board to “just say no” to the bid or a competing bid?; (d) is there any information available that indicates the views of the target shareholders with respect to the takeover bid and/or the private placement?; and (e) where a bid is underway as the private placement is being implemented, did the target’s board appropriately consider the interplay between the private placement and the bid, including the effect of the resulting dilution on the bid and the need for financing? Regulators will also need to consider whether there are any public interest considerations that are relevant to the case.

The Commissions, in applying the first portion of the test, found that the Dolly Varden private placement was instituted for non-defensive purposes. Dolly Varden successfully established that: (a) they were contemplating an equity financing prior to the announcement of the Hecla bid; (b) the size of the private placement was not inappropriate in light of their liabilities and what would be required to carry out their exploration work at their silver property; and (c) they considered a larger financing and decided not to pursue that opportunity. Ultimately, the Commissions found that Dolly Varden was pursuing a bona fide corporate objective of seeking capital to repay indebtedness and to pursue its exploration program. Therefore, they did not need to go to the second step of the analysis.

The Reasons reinforce the deference to the business judgment of the target board. Where there is evidence of bona fide corporate reasons for a private placement, regulators will be hesitant to interfere.  It also appears that the timing of the board’s consideration of the private placement was a significant factor in the Reasons. Issuers should note that where evidence cannot be shown that the target board was considering a financing opportunity prior to an announcement of bid, or where there is evidence of mixed motivations, the target may have a tougher time establishing the requisite bona fide corporate objectives.

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Placeholder board nominees: A new tactic in the activist tool-kit?

In response to the threat of a shareholder ambush of director nominations at a shareholder meeting, many Canadian companies have adopted advance notice provisions (ANPs). ANPs require that shareholders inform a company by a certain deadline if they wish to nominate directors to the board. For annual shareholder meetings, this deadline is typically no less than 30 days in advance of the meeting. For special meetings, it is typically no less than 15 days after the announcement of the meeting. Norton Rose Fulbright’s Special Situations team has been at the forefront of this development, having been involved in many of the leading cases in Canada with respect to ANPs.[1]

Nonetheless, the recent US campaign involving hedge fund Corvex Management LP (Corvex) and The Williams Companies, Inc. (Williams), where Corvex attempted to elect “placeholder” nominees to circumvent an advance notice deadline, shows that activists may seek ways around ANPs, and that issuers must remain vigilant.

Corvex’s attempt to use placeholder nominees comes in the context of Corvex’s long involvement as an investor in Williams, with Corvex first announcing a position in late 2013. As the deadline for the Williams advance notice by-law approached for the 2016 annual general meeting, Corvex announced by way of press release that it would be nominating a slate of ten directors, including the managing partner of the firm, to replace the entire board. In the run-up to the annual meeting, it would then identify new, independent directors whom it would envision as serving as long-term directors of Corvex, and provide full information on those nominees and their qualifications in Corvex’s proxy statement. All of the placeholder directors were to be employees of Corvex. If elected, the placeholder directors would immediately appoint the directors Corvex had identified and resign. Notably, its press release stated that Corvex sought to allow shareholders to choose directors without the “constraint of a board-imposed nomination window,” essentially admitting that Corvex sought to circumvent the advance notice by-law.

Williams subsequently announced plans to overhaul its board. As a result, Corvex’s tactics remain untested.

It remains to be seen if such a tactic could be effective in Canada, given the nature of the ANP, which is to provide issuers and shareholders sufficient time and information to make an informed choice about which directors to elect. In any case, as Wall Street Journal online commentary suggests, this tactic may have limited applicability, in part because activists typically seek to replace a minority of the board with carefully chosen nominees.

Regardless of any ultimate success of this tactic, companies should maintain close contact with their shareholder base and review their defensive policies carefully.

[1] In Orange Capital, LLC v. Partners Real Estate Investment Trust, 2014 ONSC 3793, our Special Situations team successfully represented Orange Capital in the litigation. This case clarified the criteria courts will apply in interpreting advance notice by-laws. In Northern Minerals Investment Corp. v. Mundoro Capital Inc., 2012 BCSC 1090, our Special Situations team was counsel to the company in the proxy battle that established the advance notice policy in Canada.

The author would like to thank Joe Bricker, articling student, for his assistance in preparing this legal update.

Trends and predictions in Canadian proxy contests

Kingsdale Shareholder Services (Kingsdale) recently released its annual Proxy Season Review. As in previous years, the report discusses trends observed in 2016 and offers predictions of what we might see looking forward. The report also outlines strategic recommendations for Canadian companies.

Trends from 2016

Contested Activity “Back to Earth”: After a record setting year in 2015, Kingsdale reports that activist activity has returned to its pre-2015 levels, which had been fairly consistent for about five years. Kingsdale attributes this reduction to strong share performance, increased adoption of defence tactics by vulnerable companies, and political and economic uncertainty, which led to “market prudence and skepticism.” Where activist situations did occur, 2016 was once again a strong year for management. In the bigger picture, this is the third consecutive year that activist success has trended downward, which may signal that companies are becoming better prepared for activist activity.

Rise of Minority Slates: Where board seats are sought, an increasing number of activists are focusing on minority slates (or “short slates”), seeking representation as opposed to control. Interestingly, the use of minority slates has become increasingly correlated to activist wins: in 2016, activists using minority slates won an impressive 80% of battles where board seats were sought, compared to a mere 11% for activists using a majority slate. The continued trend toward minority slates may be attributable to a few factors, including the increased likelihood of an activist victory. When activists seek a small representation on the Board rather than a full takeover, management may be willing to either expand the board or identify a few expendable “sacrificial lambs” among the incumbents.

The “Insider Activist”: Former CEOs, directors, and founders are increasingly targeting companies that they once led. This activity brings with it not only personal “grudge matches”, but also unique and sometimes unanticipated risks. Due to the depth of knowledge that former insiders may possess, including knowledge of non-public information, these activists may be able to refute arguments deployed by the board in its defense more easily than an outside activist. Further, insider activists may be able to exploit internal incongruities among management in an attempt to divide a board.

Looking Forward

The Rise of the Reluctavist: A “reluctavist” is a party who “begrudgingly adopts activist tactics when all other avenues are exhausted.” The report indicates that we may begin to see traditionally passive institutional investors adopting activist-like tactics, instead of simply “voting with their feet” by selling their position.

The Arrival of Short-Seller Activists: An emerging trend that combines short-selling with an activist approach may present unique challenges to Canadian companies. Short-selling activists endeavour to make money by shining a spotlight on the alleged overvaluation of a company. The unique challenge for Canadian companies arises from a number of factors, including an asymmetrical market that reacts disproportionately to bad news and a lack of visibility regarding short positions in a company. Kingsdale suggests that the most effective responses to short-selling activists tread a fine line between engaging with the activist, but not appearing overly defensive.


The report offers three key recommendations for Canadian companies looking forward:

  1. Define the Activists from the “Ankle-biters”:The current activism climate features many “pretenders”; companies should become adept at quickly determining the credibility of any activist.
  1. Pay Attention to Retail Investors: Strong ongoing turnout of retail holders – the “moms and pops” – can be the difference in a contested situation.
  1. Engage with Shareholders at the Board Level: Regularly engaging with shareholders can earn early support in a proxy contest and help the board understand shareholders’ expectations.

The author would like to thank Geoff Mens, articling student, for his assistance in preparing this legal update.

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Changes to the OBCA under Bill 218, The Burden Reduction Act, 2016

If passed, Bill 218, Burden Reduction Act, 2016 (the Bill) will make some small but welcome changes to corporate governance requirements for companies incorporated in Ontario. The Bill passed first reading in the Ontario legislature on June 8, 2016 and still has some steps to go before becoming law. However, it is hoped that the Bill will be passed during the legislative session which began earlier this month.

Board Meetings

Currently, the Business Corporations Act (Ontario) (the OBCA) requires board meetings to be held at a corporation’s registered office. In the alternative, and only if allowed by a corporation’s by-laws, a board meeting can be held at another location, provided that the majority of board meetings are held within Canada. The Bill repeals these rules and replaces them with a provision which, subject to a corporation’s articles and by-laws, removes restrictions on the locations where a board meeting may take place.

As well, the Bill removes the requirement for two-fifths of directors to be present at board meetings. Subject to a corporation’s own articles and by-laws, the board meeting quorum requirement will be satisfied so long as a majority of directors are present or the minimum number of directors required by the corporation’s articles is present.

Shareholder Meetings and Addresses

The quorum requirement for shareholders’ meetings is also clarified by the Bill. The Bill states that a quorum for shareholder meetings is met so long as a majority of shares entitled to vote at the meeting are present in person or by proxy (and irrespective of the number of persons actually present at the meeting).

Finally, the Bill also amends the OBCA by requiring a corporation to include e-mail addresses in share registers if the corporation is provided with a shareholder e-mail address.

Further details about the Bill’s legislative progress found here.

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Evolving tactical defenses by target issuers: Private placements in response to a hostile bid

The Ontario and British Columbia Securities Commissions (the Commissions) issued orders on July 22, 2016 allowing junior B.C.-based miner, Dolly Varden Silver Corp. (Dolly Varden), the target of a hostile takeover bid from Idaho-based Hecla Mining Co. (Hecla), to proceed with a proposed private placement, which was announced shortly after Hecla launched its hostile bid. While the Commissions have not yet published written reasons for the orders, their decision is notable in Canada’s new takeover bid regime.

As discussed in a previous post, Canadian securities regulators enacted harmonized amendments to Canada’s takeover bid regime earlier this year under Multilateral Instrument 62-104 – Take-Over Bids and Issuer Bids, including the requirement for a bid to remain open for a minimum deposit period of 105 days, which in practice has reduced the effectiveness of shareholders’ rights plans as a defensive measure for targets. The Dolly Varden and Hecla case was thought by many to be a test case as to whether private placements would become the new “poison pill”, with issuers using a private placement as a tactical mechanism to make a hostile bid more difficult and more expensive for an acquirer.

On June 27, 2016, Hecla announced its intention to acquire all of the outstanding shares of Dolly Varden not already owned by it and formally commenced its bid on July 8, 2016 with the filing of its offer and bid circular. Shortly after the Hecla bid was announced, Dolly Varden announced on July 5, 2016 a proposed private placement financing to raise up to $6 million (the Private Placement). On July 8 and 14, 2016, Hecla filed applications with the British Columbia Securities Commission (BCSC) and the Ontario Securities Commission, respectively, seeking an order to cease trading the Private Placement. On July 14, 2016 Dolly Varden signed an undertaking to the BCSC that it would not issue any securities under the Private Placement until the BCSC had rendered its decision. A joint hearing on the applications was held with the Commissions over two days on July 20 and 21, 2016.

The orders issued by the Commissions dismissed Hecla’s applications and in doing so, allowed Dolly Varden to proceed with the Private Placement, with the effect of diluting the target’s share capital and making it more costly for Hecla to complete its bid. Hecla had previously announced when filing its offer and bid circular that it would not proceed with the bid if the private placement was completed and accordingly withdrew its bid shortly after the orders were issued, on July 25, 2016.

Without detailed reasons from the Commissions, it is not yet known to what extent the Commissions will provide guidance on private placements in the context of hostile bids more generally. Acquirers and targets can expect that Canada’s regulators will evaluate so-called “tactical” private placements on a case by case basis, however an argument can be made that the Dolly Varden and Hecla case has, at the very least, given targets a signal they may proceed with caution in using the private placement as a tool in their defensive arsenal in Canada’s new takeover bid regime.

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Federal government proposes changes to corporate law: What it means for corporate governance and shareholder activism

On September 28, 2016, Canada’s federal government introduced a bill proposing amendments (the Amendments) to the Canada Business Corporations Act (the CBCA), among other acts. The Amendments include new requirements for electing directors, mandatory diversity disclosure, and changes to shareholder communications. These proposed changes, if enacted, will have significant effects on corporate governance and shareholder activism in Canada. Here are some of the key things issuers and investors will need to know.

 Election of directors

 The Amendments introduce several changes to the election of directors. They will require publicly traded corporations, with some prescribed exceptions, to:

  • hold annual elections for directors;
  • elect directors individually; and
  • use a majority voting standard for uncontested director elections (i.e. when the number of director candidates is the same as the number of director positions to be filled).

Annual and individual voting

These rules are similar to rules that are already in place for issuers listed on the Toronto Stock Exchange (TSX), which were announced in October 2012 and February 2014. Though most Canadian companies already hold annual elections, the Amendments will formally preclude longer director terms beyond one year for CBCA companies. The declining practice of slate voting—where shareholders can vote only for slates of directors rather than individuals—will also be disallowed. Federally incorporated issuers listed on the TSX Venture Exchange (TSXV), which already requires annual elections and restricts slate voting, will now be explicitly barred from slate voting.

Majority voting for directors

The majority voting requirement addresses a controversial issue that arises from the way Canadian directors are now elected. In Canada, corporate statutes provide for the election of directors by plurality voting, meaning that shareholders can either vote for a director or “withhold” their vote. Without a majority voting standard, a director can be elected by just one vote, regardless of the number of votes withheld. This has fed significant concerns about “zombie directors,” appointed against the will of the majority of shareholders. Director majority voting requires that in uncontested elections, a director be elected by the majority of votes cast.

The majority voting requirements will have several  practical implications. One is to address a perceived weakness in the TSX majority voting rule. The TSX rule, which applies to all issuers other than majority-controlled issuers, requires issuers to have a majority voting policy stipulating that a director who does not receive a majority of votes will tender his or her resignation within 90 days of the vote. However, the TSX rule also gives the board the power to decide whether or not to accept the resignation, and allows the board to refuse the resignation if there are “exceptional circumstances.” In practice, this provision has frequently resulted in defeated directors remaining on the board. The Amendments do not allow this discretion and state that “each candidate is elected only if the number of votes cast in their favour represents a majority of the votes cast for and against them.” In addition, federally incorporated issuers listed on the TSXV will now be required to comply with majority voting.

It remains to be seen whether the Amendments will lend further impetus to ongoing provincial law reform efforts along similar lines.

 Mandatory diversity disclosure

 The Amendments will also require publicly traded companies to disclose information with respect to the diversity of directors and senior management. While the precise details of these requirements remain to be prescribed by regulation, the government has indicated that “distributing CBCA corporations will be required to identify the gender composition of their boards and senior management and to disclose their diversity policies or explain why none are in place.”

As we have noted in a number of previous posts on the Special Situations Blog, investors and other stakeholders are increasingly demanding that boards and executive teams be diverse.  In recent years, securities regulators have tried to quicken the pace of change by adopting new measures in the face of stubborn statistics. National Instrument 58-101 Disclosure of Corporate Governance Practices contains similar “comply or explain” requirements with respect to gender, which as a practical matter now apply to all TSX-listed issuers.

The Amendments will give further force to the expectation that issuers consider gender and other forms of diversity in determining whom to nominate to their boards. Issuers without diverse boards and senior management may face an elevated prospect of “withhold” votes for their nominees, as well as criticism from the media and shareholder activists.

 Shareholder communications

The Amendments will also simplify shareholder communications. For the first time, they will allow CBCA companies to take full advantage of notice-and-access.  In 2012, the Canadian Securities Administrators adopted rules that allow companies to provide a notice of the meeting either physically, or electronically if the shareholder consents.  The notice informs shareholders (among other things) that proxy materials have been posted electronically and provides instructions on how to obtain them. Under the present iteration of the CBCA, issuers face several barriers to full implementation of notice-and-access. The Amendments will also simplify the timeframes for submitting shareholder proposals to CBCA companies by setting prescribed periods.

We expect that the Amendments will increase the attraction of using notice-and-access for CBCA companies, reducing costs for issuers. We also expect that they will simplify and enhance participation in shareholder democracy.


If you have questions about any of these matters, please contact a member of our Special Situations team.

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The authors would like to thank Joe Bricker, articling student, for his assistance in preparing this legal update.

Non-standard accounting measures: The media, regulators, and shareholders zero in

Non-standard accounting practices have been gaining in popularity among Canadian publicly traded companies. Issuers that rely solely on standard accounting metrics now make up a small minority of the companies listed in the S&P 500 and S&P/TSX 60.

Many issuers believe that non-standard measures are a better reflection of performance than Generally Accepted Accounting Principles (“GAAP”), which for Canadian issuers typically conform to International Financial Reporting Standards (“IFRS”). Yet there are growing concerns that non-GAAP measures are being used to inflate earnings and present a more positive picture of financial performance. These concerns have been expressed in the media, including in recent articles in the Wall Street Journal and the Globe and Mail and, even more significantly, have received and are expected to continue to receive increased regulatory attention.  Shareholders and other stakeholders of public companies are paying attention too. In the past year, Norton Rose Fulbright’s Special Situations team has been consulted by a number of investors and other parties contemplating launching activist campaigns that focus specifically on an issuer’s accounting practices.

In light of these developments, issuers should ensure that their accounting and related disclosure practices align with the expectations and requirements of investors and regulators.

i. Criticisms of non-standard accounting metrics

The most frequently noted concern with non-GAAP measures is that they may appear to inflate earnings artificially. For some Canadian issuers, the result is a large gap between adjusted and non-adjusted earnings. An additional concern is that because these measures are non-standard, it may be difficult for investors to understand how they are calculated. This means they may also vary from company to company, rendering comparisons difficult.

Regulators are following these developments closely. In a June speech, SEC Chair Mary Jo White said that “[i]n too many cases, the non-GAAP information, which is meant to supplement the GAAP information, has become the key message to investors, crowding out and effectively supplanting the GAAP presentation.” The Canadian Securities Administrators’ (“CSA”) Staff Notice 52-306 (Revised) (“Staff Notice 52-306”), published in January of this year, states that “Staff is concerned that investors may be confused or even misled by non-GAAP financial measures.” In a 2013 review of compliance by reporting issuers with the prior iteration of the Staff Notice, the Ontario Securities Commission (“OSC”) described the results of its review as “disappointing.”

ii. Legal considerations for Canadian Reporting Issuers

There remain valid reasons why issuers may choose to disclose non-GAAP measures. Staff Notice 52-306 specifies the principles that should guide issuers who wish to do so, which principles are in addition to other general requirements relating to accounting principles and financial statement disclosure under Canadian securities laws.  To summarize, issuers should:

  • State explicitly that the non-GAAP financial measure does not have any standardized meaning under the issuer’s GAAP and therefore may not be comparable to similar measures presented by other issuers;
  • Name the non-GAAP financial measure in a way that distinguishes it from disclosure items specified, defined or determined under an issuer’s GAAP and in a way that is not misleading. For example, in presenting EBITDA as a non-GAAP financial measure, it would be misleading to exclude amounts for items other than interest, taxes, depreciation and amortization.
  • Explain why the non-GAAP financial measure provides useful information to investors and the purposes, if any, for which management uses the non-GAAP financial measure;
  • Present with equal or greater prominence to that of the non-GAAP financial measure, the most directly comparable measure specified, defined or determined under the issuer’s GAAP presented in its financial statements;
  • Provide a clear quantitative reconciliation from the non-GAAP financial measure to the most directly comparable measure specified, defined or determined under the issuer’s GAAP and presented in its financial statements, referencing to the reconciliation when the non-GAAP financial measure first appears in the document, or in the case of content on a website, in a manner that meets this objective (for example, by providing a link to the reconciliation);
  • Ensure that the non-GAAP measure does not describe adjustments as non-recurring, infrequent or unusual when a similar loss or gain is reasonably likely to recur in the next two years, or has occurred in the past two years; and
  • Present the non-GAAP financial measure on a consistent basis from period to period; however, where an issuer changes the composition of the non-GAAP financial measure, explain the reason for the change and restate any comparative period presented.

In Staff Notice 52-306, the CSA “cautions issuers that regulatory action may be taken if an issuer discloses information in a manner considered misleading and therefore potentially harmful to the public interest.” We expect an increase in regulatory reviews and enforcement.

Use of non-GAAP measures in a manner that leaves a misleading impression of the issuer’s true financial position may also expose an issuer to class action risk. Provincial securities legislation contains statutory causes of action for misrepresentations in offering documents and continuous disclosure.

As scrutiny on this issue sharpens, Canadian public companies should carefully review their accounting and related disclosure practices to ensure adequate transparency with respect to non-GAAP metrics. This is better done proactively than at the behest of a regulator, in the teeth of an activist attack, or in the glare of media scrutiny.


If you have questions about anything discussed in this post, please contact a member of our Special Situations team.

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Norton Rose Fulbright’s Canadian Special Situations Team ranks in the top 10 of global legal advisors for shareholder activist campaigns

Global law firm Norton Rose Fulbright’s Canadian Special Situations Team has ranked in the top 10 of global legal advisors advising both companies and activists in shareholder activist campaigns and is the only Canadian firm to be represented on the global ranking. The Special Situations Team also advised on the only Canadian campaign to rank in the top 15 global campaigns by target market cap, ranking 5th.

To view the Global Shareholder Activism Scorecard, please click here.

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