The Canadian Securities Administrators (“CSA”) recently released guidance on their expectations regarding the role of special committees in material transactions where there is also a material conflict of interest (i.e. related party transactions, insider bids, issuer bids and business combinations with involving insiders). This article presents the key takeaways from that guidance.
Use of special committee is expected
The CSA are of the view that a special committee is advisable for all material conflict of interest transactions.
The CSA expect that an issuer’s board of directors will appropriately manage the conflicts of interest that arise in the context of a material conflict of interest transaction. The formation of a special committee of independent directors to, among other things, ensure that the interests of minority security holders are fairly considered in the negotiation and review of such a transaction is one of the primary means of managing such conflicts of interest.
The CSA recognize there may be circumstances where the board of directors can adequately protect minority security holders without forming a special committee. For example:
- where the board of directors is comprised entirely of independent directors; or
- where the board of directors takes appropriate steps to conduct its deliberations free from interference or influence by directors with a conflict of interest.
For purposes of the CSA guidance and this article, references to a “special committee” include a board of directors acting in this manner.
Timely formation improves effectiveness
Special committees should be formed early in the transaction process and be involved in the consideration, negotiation, deliberation and implementation.
According to the CSA, special committees formed after a proposed transaction has been substantially negotiated, or where the special committee is passive, typically fail to conduct a robust review of the circumstances leading to the transaction, alternatives to the transaction that were available in the circumstances, and the transaction itself.
Composed of independent directors
Special committees should be formed entirely of independent directors, free from the undue influence of conflicted parties.
Deliberations Free from Influence
A special committee may invite non-independent board members and other persons possessing specialized knowledge to meet with, provide information to, and carry out instructions from the committee. However, the CSA believe that non-independent persons should not be present at or participate in the decision making deliberations of the special committee.
Mandates
The CSA expect the special committee to have a broad mandate that authorizes the special committee to address the key issues relating to a transaction including the ability to do the following:
- either negotiate or supervise the negotiation of a proposed transaction, rather than simply review and consider it,
- consider alternatives to the proposed transaction that may be available, including maintaining the status quo or seeking other transactions that would enhance value to minority security holders,
- make a recommendation regarding the proposed transaction, or, if it does not, provide detailed reasons why not, and
- hire its own independent legal and financial advisors, without any involvement of, or interference from, interested parties or their representatives.
Negotiations
The CSA recognize that the exact nature of the involvement of a special committee in negotiations will depend on the context of a particular transaction.
- In some circumstances, it may be appropriate for a special committee to negotiate a transaction from the outset, whether directly, through advisors, or in some other manner that is supervised by the special committee.
- In other circumstances, it may be appropriate for the transaction to be negotiated at a preliminary stage by key interested parties.
However, where the special committee has not been involved in preliminary negotiations, the CSA believe it is critical that the board of directors and special committee not be bound by any such negotiations and that other aspects of the role of the special committee be robust, such as a mandate to review, negotiate further, and consider alternatives that may be available.
Financial advisors and fairness opinions
Fairness opinions obtained by special committees and boards of directors from financial advisors in connection with material transactions are not required under Canadian securities law. However, they may aid directors in their deliberations.
If a financial advisor is retained, the CSA believe that it is generally the responsibility of the board of directors and the special committee to determine the terms and financial arrangements for the engagement of an advisor to provide a fairness opinion.
Further, the CSA also believe that a special committee cannot substitute the results of a fairness opinion for its own judgment as to whether a transaction is in the best interests of the issuer and its minority security holders; a properly mandated and effective special committee should generally consider the transaction from a broader perspective. A special committee should also engage in a thorough review of any fairness opinion that is obtained and bring its own experience and knowledge of the issuer to bear on the assumptions and methodologies utilized by the financial advisor.
Disclosure standards
The disclosure document provided to security holders should contain sufficient detail to enable them to make an informed decision on how to vote or whether to tender in respect of a material conflict of interest transaction and should avoid misrepresentations.
The CSA believe that disclosure in the context of a material conflict of interest transaction generally requires a thorough discussion of:
- the review and approval process,
- the reasoning and analysis of the board of directors and/or special committee,
- the views of the board of directors and/or special committee as to the desirability or fairness of the transaction,
- reasonably available alternatives to the transaction, including the status quo, and
- the pros and cons of the transaction.
Invitation for Discussion:
If you would like to discuss this article in greater detail, or any other business law matter, please do not hesitate to contact one of the lawyers in the Business Law group at Linmac LLP.
Disclaimer:
Note that the foregoing is for general discussion purposes only and should not be construed as legal advice to any one person or company. If the issues discussed herein affect you or your company, you are encouraged to seek proper legal advice.