Dissidents Beware: The Merger of Alberta Oilsands and Marquee EnergyWednesday, January 11, 2017
Alberta Oilsands Inc. (“AO”) held oilsands licences in the vicinity of Fort McMurray, Alberta. In 2015, AO received approximately $35 million from the Province of Alberta as a result of the cancellation of these licences. Smoothwater Capital Corporation (“Smoothwater”), a significant shareholder of AO, urged AO to distribute this money to its shareholders.
However, AO began having discussions with Marquee Energy Ltd. (“Marquee”) with respect to a possible merger of the companies. Marquee held a number of oil and gas assets, but had insufficient capital resources to develop these assets.
Both AO and Marquee were incorporated under the Business Corporations Act (Alberta) (the “ABCA”) and listed on the TSX Venture Exchange (the “TSXV”).
In July 2016, Smoothwater was informed by AO that AO and Marquee had entered into a letter of intent regarding a potential merger by amalgamation, which would require the shareholders of both Marquee and AO to vote to approve the amalgamation. Shareholders who voted against the amalgamation would be entitled to dissent and be paid the fair market value of their shares. Smoothwater publicly indicated that it was against the merger.
On August 19, 2016, AO and Marquee issued a press release stating that the merger would be effected by way of a plan of arrangement (the “Arrangement”) under the ABCA, rather than by way of amalgamation. Pursuant to the Arrangement, Marquee’s shareholders would exchange their shares for AO shares. AO would issue almost 100% in additional shares to purchase the outstanding Marquee shares. Upon the completion of the purchase, Marquee would be a wholly-owned subsidiary of AO; then Marquee and AO would amalgamate.
Pursuant to the ABCA, the Arrangement would need approval by at least two thirds of the votes of Marquee shareholders voting at the special meeting for the Arrangement, as well as by the Court of Queen’s Bench of Alberta (the “Court”). AO’s shareholders would not be given a vote upon the Arrangement, nor a right to dissent.
On August 22, 2016, Marquee commenced the process before the Court for the approval of the Arrangement. The presiding judge of the Court granted Marquee’s application to commence the Arrangement process, with the knowledge that Smoothwater was against the Arrangement and intended to take legal action with respect thereto. Subsequently, Smoothwater filed an application before the Court (heard by a different judge) seeking the right for AO’s shareholders to vote on the Arrangement. Marquee opposed the application, claiming that the ABCA did not require that AO’s shareholders approve the Arrangement.
On September 14, 2016, Smoothwater’s application was granted by the Court.
The Decision of the Court of Queen’s Bench of Alberta
In granting the application, the Court applied the analysis mandated by the Supreme Court of Canada in BCE Inc. v. 1976 Debentureholders (“BCE”), which requires the applicant corporation in an arrangement to satisfy the court that: (i) the statutory procedures have been met; (ii) the application has been put forward in good faith; and (iii) the arrangement is fair and reasonable. The Court held that the Arrangement was not fair and reasonable unless AO’s shareholders were given a right to vote on the Arrangement, as well as a right of dissent. In coming to this conclusion, the Court made the following findings:
- The essence of the proposed transaction was a merger of AO and Marquee.
- Combining AO and Marquee would accomplish a valid business purpose, however, the business purpose could not be met without the eventual amalgamation of the two companies at the second stage of the transaction.
- The primary, if not the only reason for using the Arrangement, as opposed to an ordinary amalgamation, was to avoid the need to get approval of AO’s shareholders. While combining the two companies had a valid business purpose, the technique chosen did not, because it was only designed to avoid the approval of AO’s shareholders.
- While the underlying business purpose for the Arrangement was put forward in good faith, the method chosen was not put forward in good faith because it was merely designed to avoid a vote of AO’s shareholders.
- It was not necessary, on an interim application, to rule whether it was “impracticable to effect the Arrangement” under any other section of the ABCA. However, balancing any impracticality against the value of the rights that would be sacrificed under the Arrangement process required that there be a vote of AO’s shareholders on the same basis as Marquee’s shareholders.
- Given the significant dilution of shareholdings, the legal rights of AO’s shareholders were being affected.
- The arrangement as proposed was not “fair and reasonable”, but it could be made so by granting AO’s shareholders voting and dissent rights equivalent to those available to Marquee’s shareholders.
The Decision of the Court of Appeal of Alberta
The decision of the Court was appealed by Marquee. On November 9, 2016, the Court of Appeal of Alberta (the “Court of Appeal”) overturned the Court’s decision.
In overturning the decision of the Court, the Court of Appeal held that the trial judge’s conclusion that the transaction structure was not selected in good faith was based on the following errors of principle: (i) the idea that the Marquee and AO shareholders should be treated equally, something not found in the ABCA; (ii) the trial judge examined “fairness” from the perspective of AO, as well as Marquee; and (iii) the trial judge assumed that it was bad faith for the directors of AO and Marquee to structure a transaction in a way that would not require the vote of AO’s shareholders, when there were other structures that would require such a vote.
With respect to the first error of principle made by the trial judge, that the Marquee and AO shareholders should be treated equally, the Court of Appeal elaborated that the intuitive attractiveness of “equality of treatment” between the shareholders of Marquee and AO found no support in the ABCA, noting that “the siren song of shareholder democracy” does not undermine the powers of directors to operate a corporation without having to check with the shareholders, except where specifically required to do so by statute:
“As the cases note, from time to time decisions must be made about the operation of corporations, and it is impossible to please everybody. The directors are placed in control of the corporation because of their experience and expertise. In this situation, the directors of Alberta Oilsands were faced with two perspectives about the future of the corporation. There are those, like Smoothwater, who would favour winding up the corporation, distributing the cash, and potentially realizing a short term gain. There are others (including, apparently, the directors) who believe that the long-term interests of Alberta Oilsands and its shareholders lie in the corporation staying in the oil and gas business, combining together with Marquee, and using Alberta Oilsands’s cash and Marquee’s assets in combination. The directors were required to resolve the tension between the different stakeholders of Alberta Oilsands. The courts have traditionally deferred to the expertise of the directors in making decisions of this type.”
With respect to the second error of principle made by the trial judge, that fairness of the Arrangement should also be viewed from the perspective of AO, the Court of Appeal held that the trial judge should not have begun his analysis by reasoning that the Arrangement was in substance an amalgamation, and therefore as an amalgamation, shareholder votes of both Marquee and AO were required. In other words, it was not open to the trial judge to re-characterize the transaction from the perspective of AO, and then use that characterization to vary the Arrangement.
The Court of Appeal held that although the definition of “arrangement” under the ABCA includes “amalgamations”, that did not necessarily mean that an arrangement under the ABCA required a vote of any corporation other than the arranging corporation, and that there were no automatic dissent rights, even for the arranging corporation. The Court of Appeal also concluded that the ABCA required only the arrangement itself be approved by the court, and that subsequent steps (like vertical amalgamations) to implement the business plan underlying the arrangement were excluded from the requirement for court approval.
With respect to the third error of principle made by the trial judge, that it was bad faith for the directors of AO and Marquee to structure the transaction to avoid a vote by AO’s shareholders, the Court of Appeal noted that in BCE the Supreme Court of Canada found that selecting a form of transaction that did not require bondholder approval did not amount to “bad faith”, holding that it is the final transaction that is to be assessed for fairness, not the process by which it is developed, and that the structuring of a transaction to avoid a vote does not deprive security holders of any pre-existing right.
The Court of Appeal also cited a faulty “circularity” in the trial judge’s reasoning: he assumed that AO’s shareholders had a right to vote, that right was taken away from them, and therefore they should be given back that right to vote. The ABCA, however, did not provide AO’s shareholders with the right to vote on the Arrangement, and structuring the transaction to avoid a vote by AO’s shareholders did not “turn the arrangement procedure on its head” as the trial judge contended.
The Court of Appeal also focused on the legitimacy of the business reasons of AO and Marquee to structure the transaction as an arrangement of Marquee:
“It is thus not bad faith for the directors to structure transactions to avoid dissent rights... If a minority of shareholders opposing the business plan dissent and cash out, that affects the liquidity of the corporation. In this case, the business plan was to use the Alberta Oilsands’s cash to develop the Marquee assets. If the transaction was structured in a way that required a vote with dissent rights, that might result in the diversion of some of Alberta Oilsands’s cash to pay out dissenting shareholders. That would mean there would be less cash available to implement the original business plan of developing Marquee’s assets. There was therefore a legitimate business reason for structuring the transaction as an “arrangement”. As noted, there is no provision of the statute authorizing the Court to review the business decisions of the directors.
There were other business advantages as well. Having the transaction approved by the court was helpful to American shareholders because of specific provisions of the United States Securities Act of 1933. Not requiring a vote of the Alberta Oilsands shareholders enhanced what the appellant called “transactional certainty”. Entering into a transaction of this magnitude is expensive, and it distracts the corporation and its management team from its core business. The more uncertainty in the transaction, the more expensive it is likely to be, and the more delay might be expected if things do not go smoothly. A failure of the transaction can have very negative effects, particularly for a company like Marquee which must address its liquidity situation in a timely manner. If the transaction with Alberta Oilsands is not to proceed, Marquee will want to look at other options.
There is also the importance of certainty in commercial law. There are clearly equities on both sides of this dispute, and one can well understand the thinking of the chambers judge in wanting to give the shareholders of Alberta Oilsands a say in the future of the company. However, those in control of or advising public companies need predictability in the law. Both BCE and Goldcorp permit transactions of this sort to proceed without necessarily submitting them to shareholder approval, and this form of transaction is apparently in regular use. There is merit to the position that the choice of the structure of the transaction should not be taken from the directors without an express statutory provision to that effect. On balance, having regard to the deference owed to the directors, the need for certainty, and the absence of any statutory right to vote, a shareholders meeting of Alberta Oilsands should not be required.”
On November 14, 2016, Marquee’s shareholders approved the Arrangement, and on November 29, 2016, the Arrangement was approved by the Court. On December 6, 2016 AO acquired Marquee and the two companies, now parent and subsidiary, amalgamated.
In its decision, the Alberta Court of Appeal not only took a literal approach to interpreting the arrangement provisions of the ABCA. It also demonstrated again the deference that Canadian courts are prepared to grant to decisions of boards of directors of Canadian corporations, the so called “business judgement rule”. In recent years, the business judgement rule has shielded board decisions in a number of cases involving activist investors, such as Smoothwater. In devising their strategies to exert influence over issuers in which they have an investment, activist investors must take account of the legal advantage the business judgement rule gives issuers, at least under Canadian corporate law.
It should be noted, however, that it is unclear whether boards enjoy the same tactical advantage under Canadian securities laws. The business judgement rule is an approach to interpreting decisions of directors as they satisfy their obligations under corporate law: courts simply do not want to second guess the business judgements of boards, at least when it can be shown that they have acted responsibly. It is not practical to do so. However, the enforcement of securities laws is founded on objective evaluations of compliance with required regulations. Securities regulators are not bound to give deference to board actions; rather they can objectively determine whether issuers have complied with securities laws, despite their good intentions. For activist investors, a determination of the venue of attack (court or securities regulator) has become a critical assessment.
This case also highlights an important anomaly between the rules of the TSX and TSXV.
As both AO and Marquee were listed on the TSXV, pursuant to the rules of the TSXV, the Arrangement required only the approval of the TSXV. The TSXV granted its approval.
If AO had been listed on the TSX, shareholder approval of the Arrangement would have been required: TSX rules require security holder approval in those instances where the number of securities issued or issuable in payment of the purchase price for an acquisition exceeds 25% of the number of securities of the listed issuer which are outstanding, on a non-diluted basis.
The trial judge gave voice to the effect of the merger on AO’s shareholders, and the policy rationale underlying the TSX’s shareholder approval requirement:
“As to the submission [by Marquee] that no legal rights of AO’s shareholders are being affected, I understand the argument regarding the dilution of the shares and, as I understand it, they have been diluted to almost a hundred percent because of the huge number of shares issued by AO to accomplish this transaction. To say they are not affected, I don't agree with that.”
If AO had been listed on the TSX, Smoothwater’s goal would have been achieved. It is an open question as to why shareholders of TSX listed issuers should have the right to a vote in a transaction like the Arrangement, but shareholders of TSXV listed issuers, like AO’s shareholders, should not. Again, from the perspective of an activist investor, the listing exchange of an investee issuer may be fundamentally important to the activist investor’s ability to exert influence over the issuer.
If you have any questions with respect to this update, please contact Mark Wilson (firstname.lastname@example.org), Rob Wortzman (email@example.com) or any other member of our Mergers and Acquisitions practice group.
This update is intended as a summary only and should not be regarded or relied upon as advice to any specific client or regarding any specific situation.
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