Overview
How should a board of directors respond to a shareholder meeting requisitioned by an activist? Specifically, what should inform the board's process to improve its chances of securing the “business judgement” deference of the courts?
A new decision of the Ontario Superior Court of Justice (ONSC)1 provides instruction, but also cuts against some of its previous guidance. We dive into the decision and the practical takeaways for directors defending against a dissident campaign.
The cautionary lessons are manifold but all point in a similar direction: the process by which the board decides its response and the issues deliberated in reaching that response may be just as, if not more, important than the substance of the board's ultimate reaction.
The Dispute
The issuer is a real estate investment trust (the Issuer) that began implementing a capital allocation and portfolio optimization plan (the Optimization Plan) in September 2022, which included selling assets and increasing distributions.
The Optimization Plan was ill-received by two activist investors holding an aggregate 9% interest (the Activists). In early December 2022, the Activists requisitioned a special meeting of unitholders seeking to replace four of the Issuer's nine directors and taking issue with the Optimization Plan.
The Activist's requisition requested that the meeting occur no later than March 1, 2023. However, in late December 2022, the Issuer's board of directors (the Board) set the meeting for May 16, 2023 as part of a combined annual and special meeting of unitholders.2
The Activists offered to agree to the May 16 combined meeting provided that the Issuer undertake not to proceed with any further dispositions under the Optimization Plan in the interim. When the Board rejected this proposal, the Activists applied to the ONSC for an order compelling an earlier special meeting.
The Court's Twin Analysis: Process and Substance
The anchor of the Court's analysis was that the “right to requisition a meeting is a fundamental right” of shareholders and an “important protection against the conduct of the Board…”
That said, the Court explained that the scheduling of a requisitioned meeting is “left to the business judgment of the directors” and to which the courts will generally defer provided the decision falls “within a range of reasonableness” and is not coloured by an improper purpose. Citing the Supreme Court of Canada the Court also emphasized the context-specific nature of the analysis; i.e., that “[e]verything depends on the particular situation faced by the directors and whether, having regard to that situation, they exercised business judgment in a responsible way.”
This left two sets of issues for the Court: (i) whether the procedures followed and the factors considered by the Board in setting the meeting for May 16 were deserving of deference, and (ii) if the Board's decision was undeserving of deference, whether the Board's delay of the meeting until May 16 was unjustified such that it warranted ordering the meeting on an earlier date.
Process: Were the Board's Deliberations Deserving of Deference?
The Court explained that deference is “dependent upon directors engaging in scrupulous deliberations and demonstrating diligence in their arrival at decisions…” It held this standard “has not been demonstrated here.”
The Court was troubled by the fact that the Board discussed the requisition at a single board meeting that was less than two hours in duration and that included multiple other agenda items. Another problem was the justifications for delay weighed by the Board. The fact that the requisitioning unitholders were “activists” was irrelevant for the Court, but did not appear to be to the Board. Further, while the Board relied on caselaw holding that multiple shareholder meetings risked avoidable cost and distraction, the Board overlooked differences in context, namely both the Issuer's greater financial wherewithal and past practice of successive meetings. Finally, the Court was unmoved by the Board's desire to give the Optimization Plan more time to advance, because the Optimization Plan was the very impetus for the requisition.
An additional source of concern was the presence, participation and voting by the four directors the Activists were seeking to replace. The Court acknowledged that a meeting requisition does not raise the requirement of a “special committee”, but noted it was “reasonable to infer” the four targeted directors hoped that the Activists' agenda would be defeated such that their views expressed at the board meeting “lack[ed] independence and objectivity.” The Court's conclusion was that a “relatively short single meeting at which the potential for a conflict does not appear to have been acknowledged or considered does not reflect a robust, independent and objective process of deliberation.”
Substance: Expeditiousness and Reasonableness
Having determined that the Board's decision to delay the unitholder meeting until May 16 was underserving of deference for failure of appropriate process, the Court asked the question anew: “was the special meeting called expeditiously and within a reasonable time?” The answer would be based on two sets of factors: those considered by the Board and “any [others] that may be relevant.”
The alleged justification which received the swiftest treatment by the Court was the Board's desire to “allow the Unitholders more time to consider the information and engage with the Board before the special meeting…” The Court quickly dismissed this as “not particularly compelling.” Key here was that the further information the Board sought to provide the unitholders – the Issuer's financial statements for Q1 2023 – would not be ready by the 21-day cut-off date before the May 16 meeting.
The Court went on to consider the notion, supported by caselaw and relied on by the Board, that multiple meetings add otherwise avoidable cost and distraction. The Court noted this was “unquestionably” the case. However, the Court reasoned that this reality “cannot in every case justify deferring a requisitioned special meeting to the next AGM or other already planned meeting.” The appropriate approach, the Court held, was for these concerns to be weighed in the particular circumstances and as might impact the particular company. Doing so, the Court found that, unlike in past disputes involving “much smaller” companies beleaguered by “declining revenues”, the Issuer could shoulder the incremental costs and extra meeting without great pain. On the one hand, the “estimated cost savings for combining the meetings was only about 0.1 percent of [the Issuer's] revenues.” On the other hand, the Issuer had “a good track record for Unitholder turn out and engagement at past meetings held in close succession with each other.”
Lastly, the Court revisited the Board's desire to delay the meeting to provide greater time for the Optimization Plan to “further unfold”. The Court had several problems with this rationale.
First, if the Board wished to accommodate an “upcoming event or transaction”, it was incumbent on the Board to identify it with specificity, including to explain how allowing it to transpire would “better assist the Unitholders in their deliberations.” An example here would be a “CRA ruling on a tax structure [that] had been requested but not yet received…” By contrast, “unspecified events” of a “vague and speculative” nature were insufficient to justify delay.
The Court also found it inappropriate to delay a requisitioned meeting on the basis of allowing the very initiative being contested to unfold. The Court described doing so as akin to making the unitholders' decision for them. Similarly, the Court described such a tactic as almost rendering the requisition right moot. The Court may have been comfortable with a meeting that allowed the Optimization Plan to unfold further if that was “simply a by-product of other reasonable justifications…” but giving the controversial program that was the very impetus for the requisitioned meeting further time to prove itself should not have been “an independent consideration and justification.” Indeed, the Court indicated that it saw this “unreasonable factor” as that which, in truth, “drove the selection of the May 16, 2023 meeting date…”
As a result, the Court concluded that “the Board's decision to hold the special meeting five months after it was requisitioned… resulted in an “unreasonable or unjustifiable” delay.”
Practical Takeaways
The Court's decision is a significant addition to shareholder activism caselaw in Canada, and it will be interesting to see whether subsequent courts follow its lead in all respects. Other courts, by way of example, have been less troubled by the directors targeted by activists participating in the board's response to a meeting requisition.
In the interim, the Court's ruling merits a revaluation of best practices regarding a board's response to a requisitioned shareholder meeting in at least two respects: (i) the deliberative process adopted by the board, and (ii) the factors specific to the circumstances at hand. Simply put, the decision puts increased pressure on boards to react to a meeting requisition in a thoughtful, focused and fact-intensive manner.
For example, the Board appeared to take a fair amount of comfort from caselaw sanctioning the delay of a requisitioned meeting to avoid the additional cost and expense of a standalone meeting. The Court flipped this default position on its head, starting instead from the observation that “a delay of five months to hold a special meeting requisitioned by Unitholders appears, in the abstract, to be an unreasonably long time to wait.” The lesson is clear: in some circumstances delay may be justified, in others it will not. A board should not rely too heavily on precedent but interrogate the issue(s) in the specific context at hand.
Similarly, the Court's analysis repeatedly returns to the importance of the impetus behind the requisitioned meeting. Furthermore, in doing so the Court manifests clear concern with delay serving to defeat the dissident's plight. In the Court's words, if delay may “prejudice” the requisitioner's cause, such potential prejudice should be “identified” and “considered” by the board. The Court will also expect the board to attempt to “mitigate” such prejudice where possible. In the circumstances this left the Court somewhat disappointed with the Board's refusal to agree to the Activists' willingness to accept the May 16 meeting date in exchange for an undertaking to cease divestitures under the Optimization Plan until then. It was the Board's “prerogative” to reject the proposal, but “absent the ability of the Board to offer that standstill protection to justify a later meeting date, the special meeting date should be set as soon as practically possible after the Requisition was delivered.”
Another takeaway is that fundamentals matter. Although other courts have been less troubled by the directors targeted by activists participating in the board's response to a meeting requisition, this standard may be changing. Going forward, boards should consider putting greater weight on potential conflicts in the requisitioned meeting context, including using in camera sessions and having targeted directors recuse themselves from voting. Boards should also ensure that their deliberative process is well documented. Diligence and detail go hand in hand, and meeting minutes should be carefully drafted to support the decision made and the reasoning that led there.
Overall, the Court's message in this case is clear: process is important. Courts will expect a board's process to evidence satisfactory time and attention paid to the specifics of the requisitioned meeting in the specific situation at hand. If a board's process and focus are not sufficiently attuned to the particular circumstances, the board risks forfeiting its greatest advantage: the court's deference to the board's “business judgment”.
Footnotes
1 Sandpiper Real Estate Fund 4 Limited Partnership v. First Capital Real Estate Investment Trust, 2023 ONSC 794 (CanLII).
2 Canadian corporate statutes generally require that boards “call” a requisitioned meeting within 21 days of the requisition. Aside from British Columbia, which stipulates that the meeting be “held” within 4 months of the requisition, provincial and federal statutes do not mandate a specific timeframe within which the requisitioned meeting must be held.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
