CITATION: Cornish v. Ontario Securities Commission, 2013 ONSC 1310
DIVISIONAL COURT FILE NOS.: 33/12 and 35/12
DATE: 20130319
ONTARIO
SUPERIOR COURT OF JUSTICE
DIVISIONAL COURT
ASTON, SWINTON AND T. DUCHARME JJ.
IN THE MATTER OF THE SECURITIES ACT
R.S.O. 1990, c. S.5, as amended
COURT FILE: 33/12
B E T W E E N:
GEOFFREY CORNISH
Appellant
– and –
ONTARIO SECURITIES COMMISSION
Respondent
B. Zarnett, J.T. Curry, S. Roy and P. Kolla, for the Appellant, Geoffrey Cornish
J. Waechter, M. Vaillancourt and C. Johnson, for the Respondent
COURT FILE: 35/12
AND BETWEEN:
DEAN TAI
P. Le Vay and P. Sagull, for the Appellant, Dean Tai
Appellant
- and -
ONTARIO SECURITIES COMMISSION
J. Waechter, M. Vaillancourt and C. Johnson, for the Respondent
HEARD at Toronto: October 23 and 24, 2012
INDEX
I. OVERVIEW 1
II. FACTUAL BACKGROUND 2
(A) Facts 2
(B) The Decision Below 5
(C) Jurisdiction 8
III. ISSUES 8
IV. THE STANDARD OF REVIEW 9
V. WERE THE COMMISSION’S FINDINGS THAT THERE WERE
MATERIAL CHANGES WITHIN THE MEANING OF
THE SECURITIES ACT REASONABLE? 12
(A) Overview 12
(1) The Importance of Public Disclosure in the Regulation of Securities 13
Markets
(2) Public Disclosure Requirements under the Securities Act 15
(3) The Determination of When a Material Change has Occurred 17
(B) Were the Commission’s Findings That There Were Material Changes
Within the Meaning the Securities Act Reasonable? 23
(1) Did the Commission Err in Applying the “Reasonable Investor
Test” to Determine Materiality Instead of the Statutorily Mandated
“Market Impact Test”? 23
(a) Did the Commission Use the “Reasonable Investor” Test Rather
than the “Market Impact” Test? 26
(b) The Commission’s References to the “Reasonable Investor” or
“Reasonable Shareholder” 34
(2) Did the Commission Err in Finding that There Were Material
Changes in the Absence of Any Evidence Capable of Supporting
that Finding? 37
(a) Was There an Evidentiary Basis for the Finding of Material
Changes? 38
(i) Evidence Re the Materiality of the DRBS January Release 39
(ii) Evidence Re the Materiality of the Events Prior to August 1,
2007 42
(iii) Conclusion Re Evidentiary Basis for Findings of Materiality 44
(b) The Relevance of the Fact that the Market Price of Coventree
Shares Did Not Change 44
(c) Was Shareholder or Expert Evidence Required? 47
(3) Did the Commission err in Failing to Distinguish Between a
“Material Fact” and “Material Change” in Finding Disclosure
Was Required? 48
(a) Changes That Did Not Occur and Were Only Risks of Future
Change 49
(b) If There Were Changes, They Affected the Conduits and Not
the Business, Operations or Capital of Coventree 51
(c) The Possibility of Lower Returns Does Not Constitute a
Material Change 52
(d)Did the Commission Improperly Rely on Hindsight in
Identifying Material Changes? 53
VI. DID THE COMMISSION ERR BY MAKING FINDINGS ON
MATTERS NOT PROPERLY BEFORE IT? 54
VII. WAS THE COMMISSION’S DECISION THAT THE APPELLANTS
ACTED CONTRARY TO THE PUBLIC INTEREST REASONABLE? 56
VIII. CONCLUSION 64
t. ducharme j.
reasons for judgment
I. OVERVIEW
1Coventree Inc. (“Coventree”) is an Ontario company that was incorporated in 1998. It became a reporting issuer following an initial public offering on November 15, 2006. At the relevant time, Coventree described itself as a niche investment bank specializing in structured finance. The appellant, Geoffrey Cornish, is a founder, President and a former CEO of Coventree Inc. The appellant, Dean Tai, was also a founder, director and officer of Coventree.
2On September 28, 2011, following a 45 day hearing that ran from May 12, 2010 to December 9, 2010, the Ontario Securities Commission (“OSC” or the “Commission”) found that the appellants authorized, permitted or acquiesced in Coventree’s non-compliance with Ontario securities law, and thereby failed to comply with Ontario securities law pursuant to s. 129.2 of the Securities Act, R.S.O. 1990, c. S.5, as amended (the "Act"). The conduct of each of the appellants in contravening Ontario securities law was also found to be contrary to the public interest.
3Following a separate hearing on October 26 and 27, 2011 to consider the appropriate sanctions, the Commission issued its sanctions order on November 8, 2011. It publicly reprimanded Mr. Cornish and Mr. Tai and:
(a) required them to resign as a director or officer of any reporting issuer, other than Coventree;
(b) prohibited them from becoming or acting as a director or officer of a reporting issuer for one year; and
(c) levied a $500,000 administrative monetary penalty against each.
4The appellants seek to have the September 28, 2011 order and the November 28, 2011 sanctions order set aside, and, in their place, request an order be made dismissing the Statement of Allegations of the Commission dated December 7, 2009 against the appellants.
5The appellants challenge the Commission’s interpretation and application of its enabling statute. In particular, they challenge the Commission’s interpretation and application of the definition of “material change” under the Act, and the Commission’s discretionary application of its public interest jurisdiction under s. 127 of the Act. The appellants also argue that the Commission in its reasons for decision made inappropriate credibility findings as well as other irrelevant and prejudicial findings against them. The appellants characterize these issues as a denial of procedural fairness and a breach of natural justice.
6For the reasons that follow, I would dismiss the appeals. The Commission made no error in law and reached a reasonable decision based on the evidence before it.
II. FACTUAL BACKGROUND
(A) Facts
7Coventree and its subsidiary, Nereus Inc. (“Nereus”), managed and administered ten separate trusts commonly known as “conduits”. The conduits issued asset-backed commercial paper (“ABCP”), debt instruments that typically have a short maturity term (30-90 days). A purchaser of ABCP receives a financial instrument that contains a promise that the conduit will pay interest on the ABCP’s principal amount at a rate above the Canadian Deposit Offering Rate.1 The ABCP is backed by investments in long-term assets held by the conduits. Given the short-term maturity of ABCP, to fund maturing ABCP the conduits sold new ABCP to investors daily, a process known as “rolling”.
8Coventree was the conduits’ securitization agent or sponsor and in that capacity managed and administered the transactions that were carried out by the conduits, which included selecting and arranging the purchase of assets. As sponsor, Coventree negotiated and implemented traditional securitization transactions2 and credit arbitrage transactions. Credit arbitrage transactions are a type of ABCP asset securitization transaction.3 Although Coventree engaged in other lines of business, its revenues from its securitization activities comprised approximately 90% of its total revenues. Moreover, most of Coventree’s revenue came from credit arbitrage transactions – 80% of Coventree’s total revenue was derived from those transactions for each of the three-month periods that ended on December 31, 2006, March 31, 2007 and June 30, 2007, respectively.
9Coventree was the only non-bank ABCP sponsor in Canada that was a reporting issuer. The ABCP market was an opaque market about which public shareholders and investors had limited information. The Commission explained this as follows:
The over-the-counter market for ABCP was a very opaque securities market. There was no public reporting of the prices at which transactions in ABCP were effected, there were no securities law filings required in connection with the sale or trading of ABCP and there was no disclosure legally required with respect to the attributes of, or assets backing, ABCP. As a result, investors relied heavily on the credit rating of the ABCP and had very limited ability to carry out their own due diligence with respect to the ABCP and the assets backing it.4
10The credit rating of ABCP was done by the Dominion Bond Rating Service (“DBRS”). DBRS played a very significant role in establishing standards in the ABCP market through the conditions it imposed as a requirement for issuing its ratings of ABCP.
(1) The DBRS January Release
11On January 19, 2007, DBRS issued a press release announcing changes to its credit rating criteria for certain credit arbitrage transactions (“DBRS January Release”). These changes did not affect the ratings of existing Canadian ABCP backed by credit arbitrage transactions. However, it effectively required Coventree to secure an unattainable type of liquidity to back certain types of its credit arbitrage transactions going forward. Liquidity backing was designed to provide for payment to ABCP investors if the ABCP failed to roll. Prior to this change, the now DBRS-prohibited type of credit arbitrage transactions had represented 40% of the conduits’ assets and their use had been the largest contributor to Coventree’s growth. In an affidavit sworn on March 1, 2007, Tai recognized the significance of this development, saying that he was not aware of any liquidity providers that were prepared to offer liquidity for credit arbitrage transactions in accordance with the DBRS’s new terms.
(2) Coventree’s Mention of DBRS Change in Criteria
12Coventree mentioned the DBRS January Release in a letter to its shareholders on February 14, 2007. In its second quarter Management’s Discussion & Analysis (“MD&A”), publicly filed on May 14, 2007, Coventree disclosed that the DBRS January Release would “have the effect of reducing the profitability of the Company by substantially curtailing its ability to grow, if not halt in the short term, its credit arbitrage business.” The market price of Coventree’s shares did not change significantly as a result of these two disclosures.
(3) The August 1, 2007 Liquidity Events
13By July 2007, as a result of downgrades of certain US residential mortgage-backed securities and the collapse of two foreign hedge funds, a global credit crisis emerged that affected all markets, including the Canadian market for ABCP. By late July, the dealers who sold ABCP on behalf of Coventree-sponsored conduits were reporting difficulties in selling. From late July to early August, Coventree took a series of steps to attempt to address the lack of demand for new ABCP, including:
(a) Selling some of its assets to raise cash;
(b) Deferring the planned purchase of $66 million of mortgages from Xeed Mortgage Corporation;
(c) Monitoring “spread widening” which occurred when a conduit was required to offer its ABCP for sale at higher interest rates. Cornish testified that modest spread widening began to occur on July 30, 2007; and
(d) Generally following the market closely and meeting regularly to discuss what would bring about a “material change.”
(4) August 1 Board Meeting and Continued Meetings About Disclosure
14On August 1, 2007, Coventree’s Board of Directors met to discuss market conditions and consider whether material changes had occurred to Coventree’s business or operations. Cornish drafted a press release that was never released. The Board met on a daily basis to discuss market conditions and assess whether a material change had occurred.
(5) August 13, 2007 Market Disruption and Disclosure
15On August 13, 2007, the $16-billion market for Coventree-sponsored ABCP collapsed, leaving Coventree’s ABCP investors holding illiquid investments that they could neither sell nor redeem. Cornish prepared and issued a press release disclosing the market disruption as a material change. On August 14, 2007, Coventree’s share price dropped to $2.37 from its initial public offering price of $10.75 per share.
(B) The Decision Below
16The Commission dealt with the following primary allegations that were set out in the Statement of Allegations issued by Commission Staff on December 7, 2009:
(a) The First Particular alleged that Coventree had violated s. 56 of the Act by failing to make full, true and plain disclosure of all material facts relating to the securities issued or proposed to be distributed. Specifically, there was no mention in the prospectus of the fact that, in November 2006, Coventree had received a letter from DBRS which indicated, among other things, that DBRS had adopted more restrictive credit rating criteria for ABCP;
(b) The Second Particular alleged that Coventree had violated s. 75 of the Act by failing to comply with its continuous disclosure obligations with respect to material changes under ss. 75(1) and 75(2) of the Act. Specifically, Coventree failed to issue and file a news release, and file a material change report, disclosing that DBRS's decision to change its credit rating methodology in January 2007 resulted in a material change in Coventree's business or operations;
(c) The Third Particular alleged that Coventree had violated s. 126.2(1) of the Act by making a statement that is misleading “in a material respect” and would reasonably be expected to have a significant effect on the market price or value of a security. This related to Coventree presentations to investors which suggested that the total U.S. subprime mortgage exposure ("subprime exposure") of its sponsored conduits was 7.4% (the "subprime statement"), and did not provide investors with a breakdown of that exposure by conduit and ABCP note series; and
(d) The Fourth Particular alleged that Coventree had violated s. 75 of the Act by failing to comply with its continuous disclosure obligations with respect to material changes under ss. 75(1) and 75(2) of the Act. Specifically, it failed to issue and file a news release, and file a material change report, disclosing liquidity and liquidity-related events and the risk of a market disruption in the days leading up to the disruption in the ABCP market that occurred on August 13, 2007.
17Cornish and Tai were alleged to have authorized, permitted or acquiesced in the first, second and fourth allegations. The conduct of Coventree, Cornish and Tai was separately alleged to have been contrary to the public interest.
18The Commission dismissed the first and third particulars. However, it found that the second and fourth particulars were made out with respect to Coventree. It further found that Cornish and Tai, as senior officers and directors of Coventree, authorized, permitted or acquiesced in these breaches of Ontario securities law by Coventree. As a result, Cornish and Tai were deemed to have also not complied with Ontario securities law in accordance with s. 129.2 of the Act.
19The reasons for the decision are 133 pages in length, exclusive of appendices. The reasons are carefully reasoned, comprehensive and responsive to all of the arguments advanced by Coventree or the appellants at the hearing.
20The Commission found that the DBRS January Release, while an external event, constituted a change in Coventree’s business that would reasonably be expected to have had a significant effect on the “market price or value” of Coventree’s shares. Thus, it constituted a “material change” to Coventree’s business and operations within the meaning of the Act. The Commission found that Coventree breached the Act by failing to issue a mandatory news release and failing to file a mandatory material change report about the January material change. The Commission reached this conclusion despite the fact that Coventree’s mentions of the DBRS January Release in its February 14, 2007 letter to shareholders and in its May 14, 2007 MD&A did not result in any significant change in the price of Coventree shares. Given the opaque nature of the market and Coventree’s failure to explain the impact of the DBRS January release on its business and operations, the Commission found that the market price of Coventree’s shares could not, and did not, reflect the effect of the DBRS announcement on Coventree’s business and, by necessary implication, the value of its shares.
21The Commission also found that by August 1, 2007, the following changes had occurred to Coventree’s business and operations: (a) the inability to issue new ABCP; (b) difficulty rolling outstanding ABCP; (c) ABCP spread widening; (d) credit default swap spread widening; and (e) sales of assets. The Commission found that these constituted a “material change” to Coventree’s business and operations within the meaning of the Act. Here again, it found that Coventree breached the Act by failing to issue a mandatory news release and failing to file a mandatory material change report. In reaching this conclusion, the Commission found that an investor would have considered the undisclosed information to be “critically important” in making an investment decision with respect to Coventree shares.
22In considering whether or not to exercise its public interest jurisdiction with respect to the appellants, the Commission noted that it was being asked to do so only with respect to proven contraventions of the Act. The Commission noted its public interest jurisdiction is protective and preventative and is intended to prevent likely future harm to Ontario capital markets. Therefore, general deterrence is an appropriate consideration and may indeed be a necessary consideration in making orders that are both protective and preventative. The Commission referred to a number of previous OSC cases and concluded, “It is clear that the Commission considers the failure to make timely disclosure in accordance with section 75 of the Act, and the making of inaccurate, misleading or untrue disclosure, to be contrary to the public interest.” On this basis it concluded that the conduct of Coventree, Cornish and Tai was contrary to the public interest.
23Following a separate hearing on October 26 and 27, 2011 to consider the appropriate sanctions, the Commission issued its Sanctions Order on November 8, 2011. It publicly reprimanded Mr. Cornish and Mr. Tai and:
(a) required them to resign as a director or officer of any reporting issuer, other than Coventree;
(b) prohibited them from becoming or acting as a director or officer of a reporting issuer for one year; and
(c) levied a $500,000 administrative monetary penalty against each.
24In addition to two administrative orders regarding trading activity, Coventree was ordered to pay an administrative monetary penalty of $1 million and costs of $250,000.
(C) Jurisdiction
25This court has jurisdiction to hear this appeal pursuant to s. 9 (1) of the Securities Act:
Any person or company directly affected by a decision of the Commission, other than a decision under section 74, may appeal to the Divisional Court within thirty days after the later of the making of the final decision or the issuing of the reasons for the final decision.
III. ISSUES
26The following issues are raised on this appeal:
(1) What is the appropriate standard of review?
(2) Were the Commission’s findings that there were material changes within the meaning of the Act reasonable?
(a) Did the Commission err in applying the “reasonable investor test” to determine materiality instead of the statutorily mandated “market impact test”?
(b) Did the Commission err in finding that there was a material change in the absence of any evidence capable of supporting that finding?
(c) Did the Commission err in failing to distinguish between a “material fact” and a “material change” in finding disclosure was required?
(3) Did the Commission err by making findings on matters not properly before it?
(4) Did the Commission unreasonably make orders in the public interest under s. 127 of the Act?
IV. THE STANDARD OF REVIEW
27The appellants challenge the Commission’s interpretation and application of its enabling statute, the Securities Act. In particular, they challenge the Commission’s interpretation and application of the definition of “material change” under the Act, and the Commission’s discretionary application of its public interest jurisdiction under s. 127 of the Act. The appellants also argue that the Commission made irrelevant and prejudicial findings against them contrary to the rules of natural justice and procedural fairness.
28The appellant, Cornish, submits that the appropriate standard of review for the definition of material change is correctness as it raises a question of central importance to the legal system and is outside the Commission’s specialized area of expertise. Similarly, he argues that a correctness standard should be used to assess the Commission’s decision to make an order in the public interest, as these orders were based on the Commission’s erroneous interpretation of the material change provisions of the Act. The appellant, Tai, submits that all questions of law should be assessed on a standard of correctness. With respect to the denial of procedural fairness, Tai submits that if a denial of natural justice is found, then the decision cannot stand.
29The respondent submits that the reasonableness standard is appropriate for every issue raised on this appeal.
30In Pezim v. British Columbia (Superintendent of Brokers), the Supreme Court of Canada determined that the interpretation and application of the B.C. Securities Commission’s home statute draws upon the unique expertise of the Commission as a specialized tribunal, and, accordingly, is to be accorded strong curial deference:
[T]he definitions in the Securities Act exist in a factual or regulatory context. They are part of the larger regulatory framework…. They are not to be analyzed in isolation but rather in their regulatory context. This is something that requires expertise and thus falls within the jurisdiction of the Commission.5
31In Committee for the Equal Treatment of Asbestos Minority Shareholders v. Ontario (Securities Commission), the Supreme Court of Canada applied the analysis in Pezim to the Ontario Securities Commission, saying at para 49:
In this case, as in Pezim, it cannot be contested that the OSC is a specialized tribunal with a wide discretion to intervene in the public interest and that the protection of the public interest is a matter falling within the core of the OSC's expertise. Therefore, although there is no privative clause shielding the decisions of the OSC from review by the courts, that body's relative expertise in the regulation of the capital markets, the purpose of the Act as a whole and s. 127(1) in particular, and the nature of the problem before the OSC, all militate in favour of a high degree of curial deference. However, as there is a statutory right of appeal from the decision of the OSC to the courts, when this factor is considered with all the other factors, an intermediate standard of review is indicated. Accordingly, the standard of review in this case is one of reasonableness.6 [Emphasis added.]
32In Alberta (Information and Privacy Commissioner) v. Alberta Teachers' Association, the Supreme Court of Canada reaffirmed and clarified the reasonableness standard of review is applicable when a tribunal interprets or applies its home statute. The majority in Alberta Teachers’ Association reiterated that there should be deference on judicial review:
[U]nless the situation is exceptional, and we have not seen such a situation since Dunsmuir, the interpretation by the tribunal of “its own statute or statutes closely connected to its function, with which it will have particular familiarity” should be presumed to be a question of statutory interpretation subject to deference on judicial review.7
[Emphasis added.]
33The Ontario Court of Appeal considered Alberta Teachers’ Association in the securities law context in Rowan v. Ontario Securities Commission and applied the reasonableness standard of review:
To decide whether or not Carmichael was under any duty imposed by Ontario securities law to supervise Rowan, the Commission would have to interpret and apply its home statute, regulations, rules and policies. That interpretative exercise would involve careful consideration of how those provisions operate in the complex world of the securities industry. It is difficult to imagine an issue that more squarely fell with the province and expertise of the Commission.8 [Emphasis added.]
34It is beyond question that the interpretation of material change under the Securities Act and the Commission’s discretionary application of its public interest jurisdiction under s. 127 of the Securities Act are issues falling within the specialized expertise of the Commission. Thus, as the foregoing authorities make clear, the appropriate standard of review for the issues raised by the appellants is reasonableness.
35While the Supreme Court of Canada applied a correctness standard in Rogers Communications Inc. v. Society of Composers, Authors and Music Publishers of Canada9, it did so in a context where both the courts and the Copyright Board were engaged in interpreting copyright legislation at first instance. The Court described this as an “unusual statutory scheme”. In contrast, in the securities context, the courts have long recognized the special expertise of securities commissions in the regulation of securities markets.
36As for the allegation of a denial of procedural fairness, the Court does not apply a standard of review. The question is whether there was a denial of procedural fairness.10
V. WERE THE COMMISSION’S FINDINGS THAT THERE WERE MATERIAL CHANGES WITHIN THE MEANING OF THE SECURITIES ACT REASONABLE?
(A) Overview
37Section 75 requires forthwith disclosure of material changes to a reporting issuer’s business, operations or capital. The appellants both emphasize that s. 75 of the Securities Act must be read in light of the entire mandatory disclosure regime. Therefore, before considering their specific grounds of appeal, it will be helpful to review: (1) the importance of public disclosure in the regulation of securities markets; (2) the public disclosure requirements under the Securities Act; and (3) the proper approach to the determination of when a material change has occurred.
(1) The Importance of Public Disclosure in the Regulation of Securities Markets
38One of the central policies underlying the Securities Act and its predecessors is the “protection of the investing public through full, true and plain disclosure of all material facts relating to securities being issued.”11 The importance of public disclosure in securities markets cannot be underestimated. Disclosure is fundamental to the fairness of Ontario’s capital markets, and to the protective mandate of the Act. The Commission has repeatedly identified disclosure as the cornerstone of securities regulation:
Disclosure is the cornerstone principle of securities regulation. All persons investing in securities should have equal access to information that may affect their investment decisions. The Act's focus on public disclosure of material facts in order to achieve market integrity would be meaningless without a requirement that such disclosure be accurate and complete and accessible to investors.12 [Emphasis added]
39In British Columbia Securities Commission v. Branch, the Supreme Court of Canada acknowledged the centrality of disclosure to the regulation of the securities industry:
[A]lthough activity in the securities sphere is of immense economic value to society generally, it must be remembered that participants engage in this licensed activity of their own volition and ultimately for their own profit. In return for permitting persons to obtain the fruits of participation in this industry, society requires that market participants also undertake certain corresponding obligations in order to safeguard the public welfare and trust. Participants must conform with the extensive regulations and requirements set out by the provincial securities commissions. Many of these requirements are fundamental to maintaining an efficient, competitive market environment in a context where imperfect information is endemic. They are also essential to prevent and deter abuses of such asymmetries of information, and therefore to maintain the integrity of the securities system and protect the public interest.13 [Emphasis added.]
40Disclosure also acts to enhance the accountability of corporate management, serves to level the playing field such that all investors have access to the same information upon which to make pricing and investment decisions, and contributes to the efficiency of capital markets by permitting investors to target particular securities. The policy of equal access to information that is reflected in the disclosure requirements under the Act has been characterized as the “most fundamental principle of securities regulation.”14
41However, while disclosure is important “[t]oo much disclosure or information overload can be counter-productive”15 in terms of enabling investors to make informed choices. As the U.S. Supreme Court noted in TSC Industries, Inc. v. Northway, Inc.:
We are aware, however, that the disclosure policy embodied in the proxy regulations is not without limit. … Some information is of such dubious significance that insistence on its disclosure may accomplish more harm than good. The potential liability for a Rule 14a-9 violation can be great indeed, and if the standard of materiality is unnecessarily low, not only may the corporation and its management be subjected to liability for insignificant omissions or misstatements, but also management's fear of exposing itself to substantial liability may cause it simply to bury the shareholders in an avalanche of trivial information -- a result that is hardly conducive to informed decision making. 16 [Emphasis added.]
Thus, a central tenet of securities law is that disclosure obligations are limited to material matters.
(2) Public Disclosure Requirements under the Securities Act
42Extensive information about newly issued common shares is available through a prospectus, which investors rely upon to educate themselves before making investment decisions. A prospectus must provide full, true and plain disclosure of all material facts relating to the securities offered. But this obligation does not extend beyond the date when the prospectus is filed. From the date it is filed through the date of the completion of the distribution, an issuer is not required to disclose new material facts; it is only required to disclose material changes.17 Once shares are issued under a prospectus, they become freely tradeable and investors may sell their shares in the secondary market without providing the purchaser with a prospectus.18
43Once a corporation goes public, it becomes subject to the requirements of continuous and timely disclosure set out in the Act and its related instruments, which prescribe different disclosure requirements as between “material changes” and “material facts”:
(a) With respect to material changes, s. 75(1) of the Act requires that “where a material change occurs in the affairs of a reporting issuer, it shall forthwith issue and file a news release authorized by a senior officer disclosing the nature and substance of the change.” Section 75(2) requires the issuer to file a material change report within ten days of the date on which the material change occurred. This latter ten day filing requirement does not qualify the primary obligation to make public disclosure at once. A s. 75 disclosure obligation is not triggered until a material change has occurred. A finding of intent is not required for a breach of s. 75 of the Act; and
(b) With respect to material facts, there is no free-standing obligation to disclose or discuss material facts or risks on a timely basis. Rather, within a prescribed time after the end of the issuer’s fiscal quarters and year end, an issuer must file financial statements in a prescribed form, along with a MD&A19 in which management must “discuss important trends and risks that have affected the financial statements, and trends and risks that are reasonably likely to affect them in the future”20 along with “known trends, demands, commitments, events or uncertainties that are reasonably likely to have an effect on your company’s business.”21
44On a continuing basis, investors rely on an issuer’s up-to-date public filings in making their investment decisions and, therefore, it is essential that an issuer’s public record comply with the disclosure requirements under the Act and provide accurate information on a timely basis. The reasonable expectation of shareholders is that a reporting issuer will comply with all of its disclosure obligations.22
(3) The Determination of When a Material Change Has Occurred
45This is the central question in cases under s. 75 of the Act. A “material change” is defined in s. 1.1 of the Act as including:
[A] change in the business, operations or capital of the issuer that would reasonably be expected to have a significant effect on the market price or value of any of the securities of the issuer.
46The first part of the analysis under s. 75 of the Act requires a determination as to whether a change in the “business, operations or capital” of the issuer has occurred and, if so, when. The second part of the analysis requires an assessment of whether the change was material in the sense that it “would reasonably be expected to have a significant effect on market price or value of the securities.”
47In Re YBM Magnex International (OSC), the Commission found that materiality should be assessed objectively from the perspective of an investor and prospectively through the lens of expected market impact:
The test for materiality in the Act is objective and is one of market impact. An investor wants to know facts that would reasonably be expected to significantly affect the market price or value of the securities. The investor is an economic being and materiality must be viewed from the perspective of the trading markets, that is, the buying, selling or holding of securities.23 [Emphasis added]
Or as the Commission put it “[t]he materiality standard applicable in this case is an objective test based on reasonable expectation.”24
48The Commission has recognized that the concept of material change involves an exercise of judgment and that “a supercritical interpretation of the meaning of material change does not support the goal of promoting disclosure or protecting the investing public.”25 Thus, a technical interpretation of the language of the Act should not be relied upon to justify non-disclosure of material changes. Importantly, the Commission has recognized that “[i]f the decision is borderline, then the information should be considered material and disclosed.”26
49Assessments of materiality are not to be made against a standard of perfection or with the benefit of hindsight.27 In Re AiT Advanced Information Technologies Corp., the OSC found that it was unfair to judge the respondents’ disclosure decisions on the basis of what subsequently happened:
Instead, we must objectively assess the facts that were available to the AiT board during the [r]elevant [p]eriod, to determine in all the circumstances whether the three events constituted a material change in the business, operations or capital of AiT that triggered its disclosure obligation under section 75. It is important therefore, to recognize the dangers of hindsight in coming to this conclusion and to be careful not to look at the situation based on what subsequently happened.28 [Emphasis added.]
50When a reporting issuer is considering material change disclosure, it must apply an objective test as to the expected market impact as it will not have the benefit of actual market impact information.
51Materiality is a highly contextual issue that requires the Commission to apply statutory obligations to a particular company in the context of its industry and the market. No single factor will be determinative of whether a material change occurred:
Materiality is a question of mixed law and fact, i.e. do the facts satisfy the legal test? Some facts are material on their own. When one or more facts do not appear to be material on their own, materiality must also be considered in light of all the facts available to the persons responsible for the assessment.29
52In making determinations about materiality, common sense must prevail in assessing the broader factual context, or the “total mix”:
[T]he application of the probability/magnitude test to the investigation by U.S. law enforcement agencies as a discrete event is problematic. In essence, the fact of the investigation was incapable of the application of the probability/magnitude test. Probability could not be determined with perfect certainty. However, this does not mean that a fact cannot meet the test for materiality set out in the Act. One should not lose sight of the forest for the trees by assessing the materiality of individual facts piecemeal when the broader factual context suggests a risk faced by an issuer. Some facts may be material on their own, while others may only be material in the context of other facts. The probability/magnitude test is useful in assessing the occurrence of a future event, but common sense must prevail. The broader factual context, or total mix, must not be overlooked when the risk facing the company is a current one.30 [Emphasis added.]
53Since materiality is highly contextual, there is no “bright line” test to determine whether a material change has occurred. That assessment depends on particular circumstances and events. National Policy 51-201, the relevant Commission policy statement, which gives non-binding guidance to reporting issuers such as Coventree, states under the heading “Materiality Determinations” that many different factors should be taken into account, including the size of the company, the nature of its operations, the volatility of the company’s securities, and prevailing market conditions.31 Accordingly, a single factor such as share price movement will not conclusively determine whether a material change has occurred.
54A disclosure obligation arises when the material change actually occurs and, if the financial impact is experienced at a later date, the disclosure obligation is not delayed to that later date. This concept was made clear in the decision of the Supreme Court of Canada in Kerr v. Danier Leather:
It almost goes without saying that poor intra-quarterly results may reflect a material change in business operations. A company that has, for example, restructured its operations may experience poor intra-quarterly results because of this restructuring, but it is the restructuring and not the results themselves that would amount to a material change and thus trigger the disclosure obligation. Additionally, poor intra-quarterly results may motivate a company to implement a change in its business, operations or capital in an effort to improve performance. Again, though, the disclosure obligation would be triggered by the change in the business, operations or capital, and not by the results themselves.32 [Emphasis added.]
55In addition, the determination of whether a material change has occurred does not require deference to the business judgment of management. On the contrary, the “disclosure requirements under the [Securities] Act are not to be subordinated to the exercise of business judgment”.33 Mandatory disclosure cannot be avoided in circumstances where senior management or directors of a company believed or hoped that things would change. In Rex Diamond Mining Corp. v. Ontario (Securities Commission), this Court confirmed that the test for the determination of material change is objective, and does not depend on the subjective assessment or optimistic personal views of company executives.34
56The determination of whether a material change has occurred may be assisted by evidence of price and volume fluctuations for a reporting issuer’s shares. Thus, in Rex Diamond, where the issuer disclosed the material change at a later date by way of news release rather than disclosing it forthwith as required by the Act, there was evidence of share price and volume fluctuations following the disclosure. Additionally, there were accurate rumours in the market before Rex Diamond ultimately disclosed the information, and the share price and volume experienced abnormal fluctuations during that period. The Commission found that both of these market reactions demonstrated that the information was important to the investing public and therefore material.
57However, the Commission does not always need evidence of effect on market price to find a material change. As Iacobucci J. stated for a unanimous court in Pezim:
As already mentioned, the present case turns partly on the definition of "material change". … Thus, not all changes are material changes; the latter are set in the context of making sure that issuers keep investors up to date. Consequently, it would seem wholly uncontroversial that the determination of what information should be disclosed is an issue which goes to the heart of the regulatory expertise and mandate of the Commission, i.e., regulating the securities markets in the public's interest.35 [Emphasis added.]
58Thus, no issue can be taken with the Commission’s statement in this case that “[d]etermining questions such as whether a fact is a material fact, whether a material change has occurred, the effect of events or developments on the market price or value of securities and the adequacy of disclosure made, are matters squarely within our expertise as a specialized tribunal.”36 The Commission has repeatedly held that, as an expert tribunal, it does not require evidence from experts or investors in order to determine questions of disclosure and materiality. Thus, “such opinion or evidence may be relevant or useful but is not necessary.”37
59Not only is such evidence not necessary, but it may not always be of assistance in a materiality analysis. There are at least three reasons why evidence of historical price and volume fluctuations for a reporting issuer’s shares may not always be of assistance in this regard. First, if the reporting issuer is a new issuer, or if the issuer has never disclosed the same type of material change in the past, there may not be any relevant trading data to refer to for the purpose of determining how the market might react to a particular type of information. Second, where disclosure of the material change is limited or not made at all, a review of the market price and trading volume may not assist in the analysis of materiality. Third, if the material change is disclosed by the issuer along with other information, the market reaction to the combined disclosure may not be a reliable indicator of the market impact of the disclosure of one particular piece of information in isolation.
(B) Were the Commission’s Findings That There Were Material Changes within the Meaning of s. 1 of the Securities Act Reasonable?
(1) Did the Commission err in Applying the “Reasonable Investor Test” to Determine Materiality Instead of the Statutorily Mandated “Market Impact Test”?
60The appellants submit that the Commission erred by applying the wrong test in assessing whether a material change occurred. Rather than determining whether a change in the business, operations or capital of Coventree had occurred which was material, in that it “would reasonably be expected to have a significant effect on the market price or value” of Coventree’s shares (the “market impact” test), the Commission’s fundamental consideration was whether there was something not disclosed that “would be important to a reasonable investor in making an investment decision” (the “reasonable investor” test). The appellants submit in so doing the Commission made “exactly the error that it warned against making in its prior decision in Re Biovail.”38
61In this regard, the appellants note that the Commission made repeated reference to the “reasonable investor” or the “reasonable shareholder”. With respect to the DBRS January Release, the appellants object to the following references to the “reasonable investor” or the “reasonable shareholder” by the Commission in reaching its conclusion:
As we have concluded above, the DBRS January Release gave rise to a change in Coventree’s business. …
In our view, a reasonable shareholder or investor would consider Coventree’s inability to carry out any future CDO related SFA transactions important information in making an investment decision with respect to Coventree shares. It is only common sense that a shareholder or investor would want to know that Coventree was unable to carry on in the future business that represented 40% of conduit assets.
Accordingly, in our view, the DBRS January Release constituted a change in Coventree’s business that would reasonably be expected to have had a significant effect on the market price or value of Coventree shares within the meaning of the term “material change” in the Act. … Further, by April 25, 2007, Coventree knew that DBRS was applying the DBRS January Release to all credit arbitrage transactions, not just CDO related SFA transactions...In our view, a reasonable shareholder or investor would consider Coventree's inability to carry out any future credit arbitrage transactions important information in making an investment decision with respect to Coventree shares.39 [Emphasis added.]
62Similarly, with respect to the events of August 1, 2007, the appellants object to the following references:
We would add that the test to determine materiality is whether any of the events and developments referred to in paragraph 590 of these reasons, considered separately or together, would reasonably be expected to have had a significant effect on the market price or value of Coventree shares. Clearly, an event or development that would have that effect would be important to a reasonable shareholder or investor in making an investment decision with respect to Coventree shares. It is clear to us that if Coventree had informed a reasonable shareholder or investor of [the enumerated] facts […] that shareholder or investor would have considered that information critically important in making an investment decision with respect to Coventree shares. That means, in our view, that those events and developments would reasonably be expected to have had a significant effect on the market price or value of Coventree shares. That is the common sense conclusion in all of these circumstances.40 [Emphasis added.]
63The reasonable investor test was articulated in TSC Industries Inc. v. Northway Inc., 426 U.S. 438 (1976). This case dealt with a proxy solicitation said to have omitted material facts contrary to § 14(a) of the Securities Exchange Act of 1934. The Court of Appeals had defined material facts as “all facts which a reasonable shareholder might consider important.” [Emphasis added.] The Supreme Court rejected this standard as being too low as it would include facts that, although unlikely to do so, could possibly affect shareholder decisions. Rather the proper test for materiality was:
[A]n omitted fact is material if there is a substantial likelihood that a reasonable shareholder would consider it important in deciding how to vote. … It does not require proof of a substantial likelihood that disclosure of the omitted fact would have caused the reasonable investor to change his vote. What the standard does contemplate is a showing of a substantial likelihood that, under all the circumstances, the omitted fact would have assumed actual significance in the deliberations of the reasonable shareholder. Put another way, there must be a substantial likelihood that the disclosure of the omitted fact would have been viewed by the reasonable investor as having significantly altered the "total mix" of information made available.41 [Emphasis added.]
64The appellants argue that it is an error to consider something that would be important to a reasonable investor as equal to, or as a substitute for, something that would reasonably be expected to have had a significant effect on price or value. The reasonable investor test is an overly broad test for materiality as it includes matters that may be important to an investor in making investment decisions which do not have a significant effect on the market price or value of securities of an issuer. Thus, the appellants submit the Commission erred when it concluded that a finding that facts would be important to a shareholder or investor was equivalent to, or would necessarily result in, a significant impact on share price or value.
(a) Did the Commission Use the “Reasonable Investor” Test Rather than the “Market Impact” Test?
65The short answer to the appellants’ complaint is that the Commission clearly recognized and applied the statutory market impact test for materiality. The Commission made repeated references to the proper test, including the following:
In considering Staff's allegations and in determining materiality for purposes of this proceeding, the principal question we must address is what effect certain facts, events or developments would reasonably be expected to have had on the market price or value of Coventree shares.
Accordingly, in order for a "material change" to have occurred, there must be "a change in the business, operations or capital" of the issuer and that change must reasonably be expected to have a significant effect on the market price or value of the relevant securities. The latter element of that definition is the same objective test for materiality contained in the definition of "material fact".
The standard of materiality for both a material fact and material change is the same. A fact or change is considered to be material if it "would reasonably be expected to have a significant effect on the market price or value" of an issuer's securities. When we refer to "materiality" in these reasons, we are referring to the application of that test. Clearly, such a fact or change would be important to a reasonable investor in making an investment decision with respect to the relevant securities.42 [Emphasis added]
66The Commission did not only refer to the market impact test in its general discussion of the relevant law; it also specifically applied the test to its analysis of all four particulars, both those found to be substantiated and those that were not.
67The first particular alleged that Coventree had violated s. 56 of the Act and failed to make full, true and plain disclosure in the Prospectus by failing to disclose the fact that DBRS had written a letter to it in November 2006 adopting a more restrictive credit rating criteria for ABCP. The Commission concluded that the DBRS November Letter was not a material fact and, given the uncertainty about its meaning and application, it was difficult to assess the letter’s impact on Coventree and its business. Most important for the present purposes, the Commission concluded:
One way of asking whether the DBRS November Letter was a material fact is to ask whether, if disclosure of the DBRS November Letter had been made in the Prospectus, that disclosure would have significantly affected the price investors would have paid to purchase Coventree shares under the Prospectus. We consider that unlikely.
Based on the foregoing, we have concluded, on balance, that the DBRS November Letter would not reasonably be expected to have had a significant effect on the market price or value of Coventree shares. Accordingly, the DBRS November Letter did not constitute a "material fact" at the date of the Prospectus within the meaning of the Act. We therefore find that Coventree did not contravene section 56 of the Act by failing to disclose the DBRS November Letter in the Prospectus.43 [Emphasis added.]
68The second particular alleged that Coventree had violated s. 75 of the Act by failing to issue and file a news release, and file a material change report, disclosing that DBRS's decision in January 2007 to change its credit rating methodology resulted in a material change in Coventree's business or operations. In concluding that Coventree had contravened ss. 75(1) and 75(2) of the Act the Commission wrote:
Cornish testified that approximately 40% of the assets of Coventree and Nereus sponsored conduits were attributable at the time to traditional securitizations, approximately 20% of assets were attributable to credit arbitrage transactions that did not involve CDOs and approximately 40% of conduit assets were attributable to CDO related SFA transactions. In our view, a reasonable shareholder or investor would consider Coventree's inability to carry out any future CDO related SFA transactions important information in making an investment decision with respect to Coventree shares. It is only common sense that a shareholder or investor would want to know that Coventree was unable to carry on in the future a business that represented 40% of conduit assets.
Accordingly, in our view, the DBRS January Release constituted a change in Coventree's business that would reasonably be expected to have had a significant effect on the market price or value of Coventree shares within the meaning of the term "material change" in the Act. As a result, we conclude that Coventree was obligated to disclose that material change in accordance with section 75 of the Act on January 22, 2007, the day that Coventree confirmed with DBRS that the DBRS January Release required global style liquidity for CDO related SFA transactions.44 [Emphasis added.]
69In dealing with this particular, the Commission also addressed the argument made by Coventree that the DBRS January release could not have constituted a material change because there was no change in the market price of its shares as a result of the disclosure in its Q2 MD&A, which addressed the effect of the DBRS January Release on its credit arbitrage business. The Commission had a number of responses to this submission including the following reiteration of the market impact test:
The legal question we are addressing is whether the DBRS January Release would reasonably be expected to have had a significant effect on the "market price or value" of Coventree shares. That is applying an objective test that focuses on both the market price and value of Coventree shares. Clearly, if disclosure when made actually has a significant effect on the market price of securities, that is strong evidence suggesting that the test for materiality may have been satisfied at an earlier time. One cannot assume, however, that the lack of impact on market price means that the information disclosed was not material. There may be a number of different explanations why particular disclosure has no market impact (such as those referred to in paragraphs 348 to 351 of these reasons). In any event, one must also consider whether particular information would reasonably be expected to have a significant effect on the "value" of securities even if that disclosure would not, for some reason, be expected to affect the market price of the securities. We find in these circumstances that the DBRS January Release would reasonably be expected to have had a significant effect on the value of Coventree shares.45 [Emphasis added.]
70The third particular alleged that Coventree had violated s. 126.2(1) of the Act by making a statement that was misleading “in a material respect” and would reasonably be expected to have a significant effect on the market price or value of a security.46 This related to presentations by Coventree to investors which suggested that the total U.S. subprime mortgage exposure of its sponsored conduits was 7.4% and did not provide investors with a breakdown of that exposure by conduit and ABCP note series. While the Commission found that the subprime statement was misleading, it did not find a violation of s. 126.2(1) of the Act saying:
The foregoing analysis is relevant to determining whether an accurate subprime statement would have been important to any ABCP investors. However, the question we must determine is whether the subprime statement itself would reasonably be expected to have had a significant effect on the market price or value of any Coventree sponsored ABCP. That statement was to the effect that the total subprime exposure of Coventree sponsored conduits was 7.4%. Even if that statement was misleading (as we have found), we do not believe that the making of that statement would reasonably be expected to have had a significant effect on the market price or value of any Coventree sponsored ABCP (within the meaning of clause (b) of subsection 126.2(1) of the Act). That is to say that subsection 126.2(1) of the Act does not apply to misleading statements that have no impact or effect on the market price or value of a security. The making of a misleading statement may have other regulatory consequences, but it does not contravene subsection 126.2(1) of the Act.
Accordingly, we find that the subprime statement made by Coventree in the April Investor Presentations, in the circumstances in which that statement was made on April 25 and 26, 2007, would not reasonably be expected to have had a significant effect on the market price or value of any Coventree sponsored ABCP. As a result, we find that the requirements of clause (b) of subsection 126.2(1) of the Act have not been established by Staff and that, accordingly, Coventree did not contravene subsection 126.2(1) of the Act by making the subprime statement.47 [Emphasis added.]
71The fourth particular alleged that Coventree had violated s. 75 of the Act by failing to issue and file a news release, and file a material change report, disclosing liquidity and liquidity-related events and the risk of a market disruption in the days leading up to the disruption in the ABCP market that occurred on August 13, 2007. In concluding that Coventree had contravened ss. 75(1) and 75(2) of the Act the Commission wrote:
In our view, the events and developments referred to in clause (i) of paragraph 590 of these reasons constituted changes in Coventree's business or operations that would reasonably be expected to have had a significant effect on the market price or value of Coventree shares. Those events and developments therefore constituted a "material change" with respect to Coventree, within the meaning of section 75 of the Act, that occurred by the close of business on August 1, 2007.
Further and in any event, the events and developments referred to in clauses (i) to (v) inclusive of paragraph 590 of these reasons, taken together, constituted changes in Coventree's business or operations that would reasonably be expected to have had a significant effect on the market price or value of Coventree shares. Those events and developments therefore constituted a "material change" with respect to Coventree within the meaning of section 75 of the Act, that occurred by the close of business on August 1, 2007.
As a result of our conclusions in paragraphs 593 and 594 of these reasons, Coventree was required to forthwith issue a news release on August 2, 2007, and to file a material change report as soon as practicable and in any event within 10 days following that date. Coventree failed to do so. Coventree thereby breached subsections 75(1) and (2) of the Act.
We would add that the test to determine materiality is whether any of the events and developments referred to in paragraph 590 of these reasons, considered separately or together, would reasonably be expected to have had a significant effect on the market price or value of Coventree shares. Clearly, an event or development that would have that effect would be important to a reasonable shareholder or investor in making an investment decision with respect to Coventree shares. It is clear to us that if Coventree had informed a reasonable shareholder or investor of the facts that:
(a) its conduits were unable to carry out any new securitization transactions, whether traditional securitizations or credit arbitrage transactions;
(b) its conduits were unable to purchase assets from Coventree's traditional asset originators;
(c) its credit arbitrage business, which until very recently had represented approximately 80% of its revenues, was viewed by Coventree as dead or dying;
(d) the business of its wholly-owned subsidiary, Nereus, was no longer viable;
(e) its conduits were unable to issue any new ABCP for any purpose including for buying back maturing ABCP or funding possible collateral calls;
(f) its conduits were having increasing difficulty rolling their maturing ABCP and were doing so only with the reluctant market support of the Caisse de Dépôt et Placement du Quebec (the “Caisse”) in rolling its holdings of Coventree sponsored ABCP;
(g) interest rate spreads on Coventree sponsored ABCP had widened to an unprecedented level;
(h) its conduits were "perched on" collateral call triggers;
(i) its conduits were selling assets worth millions of dollars to accumulate cash to fund possible collateral calls;
(j) there was a very substantial supply/demand imbalance in the ABCP market (see paragraph 598 below); and
(k) Coventree had no way of knowing if or when market conditions would return to normal;
that shareholder or investor would have considered that information critically important in making an investment decision with respect to Coventree shares. That means, in our view, that those events and developments would reasonably be expected to have had a significant effect on the market price or value of Coventree shares. That is the common sense conclusion in all of the circumstances.48 [Emphasis added.]
72The appellants’ submission that the Commission used the wrong test for materiality is based on a few paragraphs of the Commission’s reasons read in isolation from the Commission’s factual findings and the Commission’s thorough analysis of the materiality issue. But, as this Court made clear in Rowan v. Ontario Securities Commission, this is not the correct approach:
The appellant points to para. 161 of the Penalty Reasons as indicating that the Commission erred by referring to all the misconduct of Mr. Rowan as being a failure to comply with Ontario securities law. I agree that if this paragraph is looked at in isolation, that would be a reasonable interpretation of it. However, the Penalty Decision is 51 pages long. It is not reasonable to take one paragraph out of context and disregard everything that came before it. Paragraph 161 is merely a summary of findings previously made. Looked at in context and in light of what preceded it, it is abundantly clear that the Commission was fully aware that the only findings that amounted to a breach of Ontario security law were those with respect to s. 107.49 [Emphasis added]
Rather than parsing a few sentences, taken alone, the Commission’s reasons must be read as a whole and in context. When this is done, it is abundantly clear that, throughout its reasons, the Commission analyzed materiality in terms of the market impact test as required by the definition of a material change in s. 1.1. of the Act.
(b) The Commission’s References to the “Reasonable Investor” or “Reasonable Shareholder”
73It is certainly true that the reasonable investor test sets a lower threshold for materiality than does the market impact test. This is precisely because the reasonable investor test does not require a reasonable expectation of "a significant effect on the market price or value of securities." Thus, as explained in V. Alboini in his text, Securities Law and Practice, 2nd ed.:
The effect of focussing on price or value of the securities as the appropriate test may be to exclude, as material changes, matters that may influence, and may therefore be material to, an investor in making decisions but do not have the probable effect of significantly altering market price or value of any securities of the issuer.50
74The interrelationship between the two tests was described well in Re Biovail at para. 73:
[I]f a statement would reasonably be expected to have a significant effect on the market price or value of a security, then that statement would clearly be important to an investor in making an investment decision. However, it does not necessarily follow that a statement that is important to an investor in making an investment decision would reasonably be expected to have a significant effect on the market price or value of a security.51 [Emphasis added.]
75Therefore, the concern with using the reasonable investor test rather than the market impact test is that it could broaden the definition of materiality to include matters that may be important to an investor in making investment decisions, but that would not reasonably be expected to have a significant effect on the market price or value of an issuer’s securities.
76However, it is clear that the Commission made no such error. Contrary to the submissions of the appellants, the Commission did not rely on factors that, while possibly important to investors, could not reasonably be expected to affect the market. Rather it focussed on significant changes that would have an impact on the market precisely because such changes would be so obviously important in influencing the decisions made by investors.
77With respect to the DBRS January Release, the Commission focussed on the fact that: (1) it, in effect, prevented Coventree from carrying out any future collateralized debt obligation (“CDO”52) related structured financial asset transactions (“SFA transactions);53 and (2) by April 25, 2007, Coventree knew that DBRS was applying the DBRS January Release to all credit arbitrage transactions, not just CDO related SFA transactions, preventing it from carrying out any future credit arbitrage transactions. The Commission correctly found that these changes would be important information to investors. What the Commission did not say explicitly, but is obvious from their reasons, is that this information was significantly negative in terms of Coventree’s ability to carry on its business in the future. This is why disclosure of this information would not only influence investor decisions but would also reasonably be expected to have had a significant effect on the market price or value of Coventree shares. In other words, because investors could reasonably be expected to react negatively to this information, the market impact test was satisfied.
78With respect to the liquidity events of August 1, 2007, it is entirely unobjectionable that the Commission observed that events that would reasonably be expected to have had a significant effect on the market price or value of Coventree shares would be of interest to the reasonable shareholder or investor. This relationship had been explicitly recognized at para. 73 of Re Biovail. As for its other references to the reasonable investor, the Commission was merely engaging in the same analysis as it had applied to the DBRS January release. It listed 11 developments that it reasonably found to be important to investors. While the Commission did not explicitly say so, all of these factors were significantly negative in terms of Coventree’s ability to carry on its business in the future. Here again, because investors could reasonably be expected to react negatively to this information, the disclosure of this information would reasonably be expected to have had a significant effect on the market price or value of Coventree shares.
79In conclusion, there is nothing objectionable to the foregoing references to the reasonable investor or shareholder. They simply reflect the reality that the market impact test subsumes the perspective of the reasonable investor.54 That is, the determination of whether the disclosure of information would reasonably be expected to have a significant effect on the market price or value of a security turns on whether or not it can be reasonably expected to affect the investment decisions of reasonable investors or shareholders. Recognizing this connection does not, in any way, dilute the market impact test. Thus, it was reasonable and appropriate for the Commission to consider whether a change would constitute “important information” to reasonable investors in determining whether the change would reasonably be expected to have a significant effect on the market price or value of the issuer’s securities.
(2) Did the Commission Err in Finding That There Was a Material Change in the Absence of Any Evidence Capable of Supporting that Finding?
80The appellants rely on Sharbern Holdings Inc. v. Vancouver Centre Ltd.,55 a case decided after the release of the decision in this case. They submit that Sharbern makes it clear how a trier of fact must assess materiality. Sharbern underscores that assessing materiality is a fact-specific inquiry and involves the application of a legal standard to a given set of facts. It holds that the burden of proving those facts lies with the party alleging materiality. It requires that, except in those cases where common sense inferences are sufficient, the party alleging materiality must provide evidence in support of that contention.
81The appellants submit that, without the benefit of Sharbern, the Commission erred in basing its findings of contraventions of the Act on speculation rather than on evidence and by relying on its expertise in the place of evidence. They reject the suggestion that it was a common sense inference that the DBRS January Release and the events leading up to August 1 would reasonably be expected to have a significant impact on market price or value. They point out that not only was there no evidence led to support this inference but, in fact, there was evidence to the contrary.56
82The appellants note that the Staff tendered no evidence regarding the volatility of Coventree’s securities or prevailing market conditions. Staff also did not lead any evidence regarding how Coventree’s shares were priced or valued by investors or the market in the first place, so it offered no basis for comparison of the price of value of the shares after the alleged material events. The appellants submit that the approach taken by the Commission was tantamount to taking judicial notice of a contested fact that should be proven through expert opinion or other evidence. In this regard, counsel for Tai relies on the decision of the British Columbia Court of Appeal in Re Cartaway Resources Corporation for the proposition that, while a specialized tribunal may use its expertise to draw inferences from the facts before it, this does not stop a reviewing court from determining whether a factual foundation existed from which to draw those inferences.57
83The appellants argue that the Commission’s use of a “common sense” inference was particularly improper since there was evidence that, in fact, the DBRS January release and the events of August 1, 2007 had no effect on the market price of Coventree’s shares. They submit that it is an error for the Commission to speculate that there might be “other explanations” why this might be so, in the absence of any evidence of such other reasons. The effect of the Commission’s reasoning was to shift the burden onto Coventree to disprove the Commission’s speculation that there might be “other explanations” as to why this was so. The appellants submit it is a palpable and overriding error to come to a “common sense” conclusion of a market impact where the only evidence is that the disclosure had no impact on share price.
(a) Was There an Evidentiary Basis for the Finding of Material Changes?
84As mentioned above, the Commission stated that “[d]etermining questions such as whether a fact is a material fact, whether a material change has occurred, the effect of events or developments on the market price or value of securities and the adequacy of disclosure made, are matters squarely within our expertise as a specialized tribunal.”58 There is nothing novel about this proposition. The question in this case is whether the inferences drawn by the Commission were reasonable “bearing in mind that this particular tribunal has special expertise in drawing inferences as to conduct in the securities marketplace.”59
85The appellants suggest that, in using a common sense approach when determining whether a change is material, the Commission based its findings on speculation rather than evidence. This is incorrect and ignores the fact that the Commission based its decision on an evidentiary framework that included: detailed evidence of Coventree’s business and operations; detailed evidence of market conditions for Coventree’s ABCP product; Coventree’s description of itself in its publicly filed disclosure documents; Coventree’s historical share price; and the prevailing ABCP market conditions. In particular, the Commission had the following evidence before it:
(i) Evidence Re the Materiality of the DBRS January Release
86The evidence before the Commission about the significance of the DBRS January release in terms of Coventree’s business included the following:
(1) New Requirement for Global Style Liquidity The DBRS January Release was a statement that general market disruption liquidity, which backed Coventree-sponsored ABCP, would no longer be acceptable, and that global style liquidity would now be required for Coventree-sponsored ABCP. The appellants knew that Coventree could not obtain global style liquidity for its sponsored conduits. Tai swore an affidavit on March 1, 2007 stating that, “I know of no liquidity providers that are prepared to offer liquidity for credit arbitrage transactions on the terms required by DBRS.” In a similar vein, Cornish wrote in a May 4, 2007 email that “DBRS has changed the rules for CDOs that will make it very unlikely, if not impossible, to do more CDOs in our conduits”;
(2) The End of ECP The DBRS January Release also brought an end to a particular type of Coventree-sponsored ABCP – E Notes (which were also known as extendible notes or ECP). The maturity date of E Notes would extend if a general market disruption occurred. Coventree sponsored conduits had $8.5 billion in E Notes outstanding, representing 57 percent of all extendible ABCP in the market. In an ABCP presentation in April 2007, Coventree acknowledged that the DBRS January Release “rules out the use of ECP to fund SFA transactions”.
(3) Review of Non-CDO-Related SFA Transactions The DBRS January Release also stated that non-CDO-related SFA transactions would be reviewed on a case-by-case basis by DBRS. Non-CDO-related SFA transactions were bonds that did not use CDO structures and comprised approximately 20-percent of Coventree’s conduit assets.
87Thus, it was entirely reasonable and not speculative for the Commission to conclude that the DBRS January Release, which ended Coventree’s ability to do any new CDO and LSS transactions, constituted a significant change in Coventree’s business.
88In terms of the materiality of the foregoing changes, the Commission had evidence obtained from Coventree’s public disclosure in February through April 2007 of the impact of the DBRS January Release on its business, including:
(1) Coventree's 2006 Annual Report that was publicly filed on February 14, 2007 contained a Letter to Owners that stated, in part, as follows:
Also, the size of the Canadian ABCP market has expanded rapidly over the past two years, with growth largely being attributed to the contemporaneous proliferation of credit-arbitrage-type transactions. As a result, Dominion Bond Rating Service Ltd. ("DBRS"), the current sole provider of rating-agency services for asset-backed commercial paper conduits, is changing their ratings methodology to become more rigid and less accommodating. This could have a negative impact on Coventree's business, but likely will have a more serious effect on our majority-owned subsidiary Nereus, given that it is less diversified than Coventree. The change in ratings methodology will not affect any existing transactions and thus will not alter our immediate financial results, but it will likely influence future growth prospects. (p.3)
The one issue we would like to address here is that DBRS is increasingly concerned about the rapid growth in credit-arbitrage transactions, which now represent approximately 30% of the Canadian ABCP market. DBRS recently issued a letter stating that they are going to dramatically increase the criteria required to execute credit-arbitrage transactions. As we have discussed in previous letters, the leveraged super senior "arbitrage" transactions are finally going away as many new participants have entered the market to eliminate the arbitrage. [Emphasis added.];
(2) The testimony of David Allan, the head of Coventree's Capital Markets Group as of January 22, 2007, who testified that prior to the DBRS January Release, DBRS had tried unsuccessfully to slow the credit arbitrage market, but, each time, the bicycle kept on rolling. Then, in January, in Allan's words, DBRS said "... okay. Here comes the steel pipe through [the spokes]. You've got to have global style liquidity in order to do these transactions. And that stopped the bike dead in its tracks". In an ABCP Investor Presentation given in April 2007, Allan included a drawing of a bicycle with a pole going into the spokes of its wheel. Allan clarified that the bicycle was the credit arbitrage market;
(3) Coventree’s Q2 MD&A publicly filed on May 14, 2007 which stated:
[I]n January 2007, DBRS announced new criteria relating to transactions involving the purchase of structured credit products by Canadian ABCP conduits. The Company's view is that it will be very difficult, if not impossible, to satisfy these new criteria. As a result, these changes will have the effect of reducing the profitability of the Company by substantially curtailing its ability to grow, if not halt in the short-term, its credit arbitrage business. [Emphasis added.]; and
(4) An email from Jane Mowat, a Coventree director who testified at the hearing. Ms. Mowat emailed the appellants a few days after the above-noted MD&A disclosure and commented on the impact of the DBRS January Release on Coventree: “The recent DBRS changes have had a significant impact to the business and the MDA [sic] while stating this does need to make this plainer as well.”
(ii) Evidence Re the Materiality of the August 1, 2007 Liquidity Events
89With respect to the August 1, 2007 liquidity events, the Commission found that five changes in Coventree’s business or operations had occurred by the close of business on August 1, 2007. Those changes were:
(1) The Inability to Issue New ABCP The Commission had ample evidence to conclude that Coventree could issue new ABCP. The Commission found that on July 30, 2007, Coventree could not fund the purchase of mortgages from Xceed Mortgage Corp. (“Xceed”), one of its important regular securitization assets providers. At the time, Coventree advised Xceed that the reason for the delay was “turbulent market conditions”, a reason that had never before resulted in a delay of a transaction. The Commission found that Coventree’s conduits were unable to carry out any new securitization transactions of any type. The inability to issue new ABCP also meant that Coventree could not carry out any new securitization transactions through its conduits and could not purchase any additional assets from its assets providers. Revenue from securitization activities represented 90 percent of Coventree’s revenues.
(2) Difficulty Rolling Outstanding ABCP By August 1, 2007, Coventree-sponsored conduits were having difficulties rolling outstanding ABCP because of a lack of liquidity in the market. The dealers who sold Coventree’s ABCP told Coventree they were finding it difficult to roll Coventree’s ABCP because of specific market concerns related to Coventree’s E notes and its notes with high U.S. subprime exposure. The dealers also reported that they were seeing a “flight to quality”; i.e. a movement away from Coventree ABCP towards bank sponsored ABCP that was viewed as a safer investment. The Commission found that a substantial amount of ABCP was being rolled on an overnight basis (reflecting an investment in ABCP for 1 day, instead of the usual 30 to 90 days), which resulted in an increase in the amount maturing on each subsequent day. This constituted a significant change in Coventree’s business and operations. The Commission also found that Coventree knew that its single largest ABCP investor, the Caisse, wanted to reduce its holdings of Coventree-sponsored ABCP and its overall exposure to the ABCP market. This affected the ABCP market as a whole, but Coventree in particular.
(3) ABCP Spread Widening ABCP was sold as a very safe short-term investment and historically was issued at small interest rate increment or spread over the benchmark Canadian Depository Offering Rate (CDOR). The Commission found that there was a very substantial widening of interest rate spreads for Coventree-sponsored ABCP on August 1, 2007, meaning that the interest rate payable by Coventree’s conduits on the ABCP that they were issuing was significantly increasing. Spread widening has a direct effect on the economics and viability of Coventree’s securitization business because the business relies on the difference between the cost of funds and the returns on conduit assets.
Coventree was actively involved in setting the spreads which were offered on its ABCP. The Commission further found that Coventree considered this spread widening to be unprecedented and a reflection of a very significant change in the level of liquidity available in the market. Spreads on Coventree-sponsored ABCP relative to bank-sponsored ABCP had also widened dramatically, meaning that Coventree-sponsored ABCP was the less attractive investment.
Spread widening affected Coventree’s revenues and net income as ABCP matured and was rolled into ABCP that paid higher interest rates. The Commission reasoned that the immediate financial impact of spread widening was only one quantitative consideration in assessing the materiality of spread widening. The qualitative impact of spread widening on Coventree’s business also had to be considered as “any substantial increase in interest rate spreads could affect the viability of Coventree’s business.”
(4) Credit Default Swap Spread Widening In the relevant timeframe, there was also spread widening with respect to credit default swap contracts, which were derivative contracts used to hedge the risk of default in a reference portfolio of assets. Coventree sponsored conduits were credit protection sellers under such swaps and spread widening meant that Coventree sponsored conduits were close to triggers that would require them to post additional collateral for certain LSS transactions. The Commission found that if collateral calls occurred, the financial impact would be extreme given the high leverage in LSS transactions. The Commission also found that it was clear that, by August 1, 2007, the risk of collateral calls was increasing in LSS transactions because of unprecedented spread widening in credit default swaps and large increases in risk correlation among the relevant assets. This was of great concern to the appellants.
(5) Sales of Assets By July 20, 2007, Coventree was selling conduit assets to generate cash in the conduits. Coventree’s initial objective in generating cash in the conduits was to be able to fund the repurchase of ABCP or to fund collateral calls. That was a factual change in the manner in which Coventree conducted its business made in response to external events.
90The Commission found that the inability to issue new ABCP constituted a material change in Coventree’s business or operations by the close of business on August 1, 2007. Additionally, the Commission found that the five changes described above, taken together, were a material change in Coventree’s business or operations by the close of business on August 1, 2007. There was clear support in the evidence for these findings. The Commission found that the impact on Coventree’s business was uncharacteristic of the impact generally experienced by other issuers engaged in the same business. Coventree had a legal obligation to publicly disclose and explain the resulting material changes in its business.
(iii) Conclusion Re Evidentiary Basis for Findings of Materiality
91The Commission arrived at its conclusions after carefully reviewing extensive evidence, most of which was not in dispute. Also, unlike Cartaway, this case turned primarily on direct, rather than circumstantial, evidence. As the foregoing analysis demonstrates, the Commission based its conclusion not on speculation, but on a thorough review of all of the evidence. The evidence that was before the Commission supports its conclusions.
(b) The Relevance of the Fact that the Market Price of Coventree Shares Did Not Change
92At the hearing, the appellants argued that the DBRS January Release was not material because there was no change in the market price of Coventree’s shares when Coventree included some disclosure about it in its 2006 Annual Report and Q1 MD&A, publicly filed on February 14, 2007, and in its Q2 MD&A, publicly filed on May 14, 2007.
93The Commission rejected this argument, noting that the fact that this disclosure did not affect the share price did not mean that no material change had occurred. It observed that there may be a number of different explanations for why a particular disclosure has no market impact. Particularly relevant in this case were the following facts:
(a) Disclosure by Coventree about the DBRS January release in the MD&A, rather than by the mandatory news release and material change report, may have caused investors to legitimately assume that no material change had occurred;
(b) As Coventree had admitted in its prospectus, the ABCP market was opaque. This meant that public shareholders and investors had insufficient information to be able to fully understand and assess the implications of the MD&A for Coventree and its business.60 In particular, investors did not know how important credit arbitrage and CDO-related SFA transactions were to Coventree’s business; they would likely not have known that (i) the DBRS January Release required global style liquidity for CDO-related SFA transactions and (ii) global style liquidity was not available to Coventree; and
(c) The absorption of information into the market was further hindered by the fact that the volume of trading in Coventree shares was relatively low, given that a majority of its outstanding shares were owned by the appellants and there were no other comparable public companies that were third-party sponsors of ABCP. That meant that information with respect to Coventree and its business was less likely to be reflected in the news media and reviewed and commented upon by analysts.
94In this regard, the Commission also stated:
One cannot assume, however, that the lack of impact on market price means that the information disclosed was not material. There may be a number of different explanations why particular disclosure has no market impact … In any event, one must also consider whether particular information would reasonably be expected to have a significant effect on the "value" of securities even if that disclosure would not, for some reason, be expected to affect the market price of the securities. We find in these circumstances that the DBRS January Release would reasonably be expected to have had a significant effect on the value of Coventree shares. [Emphasis added.]
95The appellants suggest that all of the foregoing analysis is speculative and not supported by any evidence. They submit that the Commission’s approach here reversed the burden of proof. They also object to a discussion of share value, distinct from share price, arguing that, in an efficient market, instances where the market price of a security will differ from its value are unusual and rare.
96The Commission’s analysis here was not based on speculation. Rather, it was based on a careful analysis of detailed evidence of Coventree’s business and operations; detailed evidence of market conditions for Coventree’s ABCP product; Coventree’s description of itself in its publicly filed disclosure documents; and the prevailing ABCP market conditions including, very importantly, the opaque nature of the market. These facts explain the lack of market impact from the disclosures and also provide a context in which the value of a security will not be reflected in its market price.
97The Commission did not reverse the burden of proof and require the appellants to disprove the other explanations as to why the DBRS January Release had no effect on the market price of Coventree’s shares. Rather, it applied its expertise to the evidence before it and explained why the lack of a change in share price was not determinative of the material change issue.
(c) Was Shareholder or Expert Evidence Required?
98The appellants note that the Staff tendered no evidence regarding the volatility of Coventree’s securities or prevailing market conditions. Nor did they lead any evidence regarding how Coventree’s shares were priced or valued by investors and the market. They submit this is a crucial defect in the case against them as this left the Commission with no benchmark against which to assess whether or not disclosure would reasonably be expected to have had a significant effect on market price or value.
99As mentioned above, the determination of whether a material change has occurred is an issue which goes to the heart of the regulatory expertise and mandate of the Commission. Thus, while shareholder evidence or expert evidence may be relevant or useful, it is not necessary. This is not changed by the statement in Sharbern that, “except in those cases where common sense inferences are sufficient, the party alleging materiality must provide evidence in support of that contention.”61 First, Sharbern does not deal with specialized tribunals. Second, it calls for evidence, not a particular kind of evidence. Third, and most important in this case, such evidence need not be called where one can conclude on the basis of common sense inferences that a change is material.
100In this case, the Commission was well situated to make an assessment of materiality for Coventree, based on the evidence before it. Given (1) the significant impact of the DBRS January Release and the events leading up to August 1, 2007 on Coventree’s business; and (2) the subsequent acknowledgment by Coventree and some of its principals of how significant these changes were, there was no need for further evidence, expert or otherwise. Not only was the conclusion that material changes had occurred an available common sense inference; it was the only reasonable inference available to the Commission on the evidence before it.
(3) Did the Commission Err in Failing to Distinguish Between a “Material Fact” and “Material Change” in Finding Disclosure Was Required?
101The Commission clearly recognized the distinction between "material facts" and "material changes" and the legal consequences of their occurrence. At paragraph 148 it stated:
The definition of "material fact" is broader than that of "material change". Not all material facts will arise from a "change in the business, operations or capital of the issuer". This distinction is fundamental to the application of section 75 of the Act, which applies only to material changes, and is a key consideration in this proceeding.62
102The Commission also noted that this court in Rex Diamond stated that "whether a material change occurred is a matter that is central to the expertise of the Commission".63
103The appellants argue that the Commission erred in determining the DBRS January Release and August 1 Events were “material changes” rather than “material facts” for the purposes of the Act. Specifically, they make the following submissions:
(a) There is no duty to immediately report material facts or risks of future material changes as these are not yet material changes. The “changes” identified by the Commission either did not occur and were, at best, hypothetical changes that did not need to be reported until they actually materialized;
(b) Not every fact or risk that would be expected to have a significant effect on price or value is a material change. To constitute a material change it must be a change in the business, operations or capital of the issuer;
(c) Lower returns or profits do not, in and of themselves, constitute a material change; and
(d) The Commission improperly relied on hindsight in identifying changes.
104I will discuss each of these in turn.
(a) Changes That Did Not Occur and Were Only Risks of Future Change
105As mentioned above, the disclosure obligation in s. 75 of the Act is triggered by the occurrence of a change to the “business, operations or capital” of an issuer. If no such change has actually occurred, there is no duty to immediately disclose under s. 75. Changes that are external to the issuer such as political, economic or social developments that affect it may be material facts, even where they create a risk that a material change may occur at some unspecified future time. However, such material facts are required to be reported only in a company’s periodic disclosure documents such as its MD&A. Such external changes need not be reported immediately under s. 75 unless they have actually resulted in a change in the “business, operations or capital” of an issuer.
106The appellants submit that the Commission erred when it failed to conclude that the DBRS January Release and the August 1 Events were external developments that did not result in a change in Coventree’s business or operations. They submit that neither the August 1 events nor the DBRS January Release changed the business of Coventree. Coventree continued to act as a securitization agent, to administer conduits sponsored by third parties and was an investor in other issuers. It also continued with its Chapter Two initiatives.
107Specifically with respect to the DBRS January Release, the appellants argue that it did not have any impact on existing credit arbitrage transactions arranged for the Coventree sponsored conduits as these were grandfathered by DBRS. Accordingly, Coventree’s business was unchanged, although its ability to grow that business was affected by the DBRS January Release.
108The Commission found that five changes in Coventree’s business or operations had occurred by the close of business on August 1, 2007: (1) the inability to issue new ABCP; (2) difficulty rolling outstanding ABCP; (3) ABCP spread widening; (4) credit default swap spread widening; and (5) sales of assets. The appellants argue that the first finding was a palpable and overriding error as Coventree issued new ABCP until August 13, 2007. The ABCP also continued to “roll” until market disruption on August 13, 2007. “Rolling” was central to Coventree’s business, and it did not cease until August 13, 2007. As for changes (2), (3) and (4) the appellants submit that, as they were all phrased in the hypothetical, they had not, in fact, occurred and were therefore not material changes. Finally, the appellants submit that the sale of assets by Coventree was simply prudent fiscal management and did not constitute a material change in its “business, operations or capital.”
109The suggestion that Coventree’s business was not changed by the DBRS January release or the August 1, 2007 liquidity events is simply untenable. While Coventree continued in business, its business was radically changed given the impact of the changes identified by the Commission. As a result of the DBRS January Release, Coventree could no longer carry out any new CDO related SFA transactions through its conduits which had been a substantial part of their business. By August 1, 2007, Coventree was unable to carry out through Coventree or Nereus sponsored conduits either traditional securitizations or credit arbitrage transactions. Those transactions represented approximately 90% of Coventree's revenues for the period ending June 30, 2007. The Commission’s findings that these reflected material changes are reasonable and supported on the evidence.
110As for the other points made by the appellants with respect to the August 1, 2007 liquidity events, the Commission made no error in terms of Coventree’s inability to issue “new ABCP” as it was referring to accretive issuances of ABCP, and not to rolling of maturing ABCP. By August 1, 2007, Coventree sponsored conduits were unable to issue any new ABCP because of the lack of liquidity in the market. The Commission made it clear that this alone constituted a material change and that the other changes mentioned above only made this conclusion more obvious and more serious. This conclusion was also reasonable and supported by the evidence.
111The appellants argue that the material changes were merely external events. The Commission’s reasons make it clear that public shareholders and other potential investors in Coventree shares would not have known either the fact of, or the implications of, those events and developments on Coventree and its business. While external developments gave rise to the January and August material changes, the Commission found that the changes in Coventree’s own business or operations were the basis for requiring material change disclosure.
(b) If There Were Changes They Affected the Conduits Not the Business, Operations or Capital of Coventree
112The appellants submit that, to the extent that any of these changes constituted a material change, they were a material change to the conduits not to the business of Coventree. This submission has no merit. Coventree’s business involved issuing ABCP to investors either through the conduits it sponsored or through the administration of conduits sponsored by third parties. Coventree’s revenues were overwhelmingly derived from the activities of these conduits. The changes identified by the Commission significantly impaired Coventree’s ability to continue to do so. The Commission’s conclusion that this constituted a material change to Coventree’s business is wholly reasonable. Indeed, Tai seemed to reject this distinction between Coventree and the conduits when he conceded in his factum that “the effect of the DBRS January Release was that Coventree would no longer be able to enter into certain kinds of securitization transactions.”
(c) The Possibility of Lower Returns Does Not Constitute a Material Change
113There is no question that the changes identified by the Commission had a significant impact on Coventree’s future revenues. Revenue from both traditional and credit arbitrage securitization transactions represented a critically significant 90 percent of Coventree’s total revenue for the period ending June 30, 2007. Moreover, most of Coventree’s revenue came from credit arbitrage transactions – 80 percent of Coventree’s total revenue was derived from those transactions for each of the three-month periods ending December 31, 2006, March 31, 2007 and June 30, 2007, respectively.
114The appellants suggest that the only significance of these changes was that they would cause a change in future fees Coventree might expect to generate as a result of potential new credit arbitrage transactions in the conduits. Relying on Danier Leather, they argue that a change in results, in and of itself, is not a change in the business, operations or capital and therefore is not a material change for the purposes of the Act. They also argue that Coventree’s revenue backlog was not affected by the DBRS January Release and that Coventree would continue to receive revenues from the existing credit arbitrage transactions for years to come. This would offset the loss of future fees and is another reason why the DBRS January Release did not result in a change in Coventree’s business.
115However, the changes identified by the Commission go well beyond the poor sales results of leather clothing which occurred in Danier as a result of some unseasonably warm weather. As the Commission correctly pointed out, the present case is much more like Rex Diamond, where the Commission found that a change occurred in the business of a diamond mining company, when it received a final notice that it would no longer have a legal entitlement to access land and extract diamonds. The Commission concluded that:
the inability of Coventree sponsored conduits to issue ABCP is analogous to the inability of Rex Diamond to access the relevant mining properties and to extract diamonds. In both cases, the result is that the relevant issuer became unable to carry on its principal business.64
116This conclusion is entirely reasonable on the evidence before it. The fact that Coventree’s business managed to continue in a lesser form, despite these changes, does not detract from this.
117The Commission also rejected the submission that the DBRS January release was not a material change because of the revenue backlog. The Commission found that revenue backlog was a valuable asset to Coventree, but that continued completion of new securitization transactions was key to Coventree’s ongoing business and financial performance. If Coventree could not carry out new securitization transactions, the revenue backlog would simply be declining revenues from winding down Coventree’s securitization business.
(d) Did the Commission Improperly Rely on Hindsight in Identifying Material Changes?
118The appellants characterize the situation leading up to August 1, 2007 as a short-term difficulty in rolling ABCP, which amounted only to a risk that ABCP might not roll in the future. They point to the fact that members of Coventree’s management team met with various ABCP market participants and were confident that a negotiated “soft landing” solution might be achieved. If the market had stabilized or if the soft landing solution had been implemented, then Coventree-sponsored conduits would have been able to issue new ABCP, purchase assets from its traditional asset providers and carry out traditional securitization transactions, including the Xceed transaction as anticipated.
119The appellants submit that the Commission inappropriately relied on hindsight when it found that Coventree could not carry on its securitization business because its sponsored conduits could not do any new fundings as of August 1, 2007, and presumed that the market turbulence would continue indefinitely into the future and not merely be a transitory issue.
120The Commission was of the view that the possibility of a soft landing agreement did not have a high degree of likely success in the short term. More importantly, having found that a material change had occurred it concluded at para. 631:
The effects on and changes to Coventree's business described in paragraph 590 of these reasons were immediate, direct and material; the possibility of a soft landing was contingent, uncertain, and highly speculative. Disclosure to shareholders of the material changes that occurred by the close of business on August 1, 2007 could not await the outcome of a possible negotiated solution among all of the market participants.65
121The Commission found that the subjective and optimistic hope of senior Coventree officers that they may be able to negotiate a different outcome or solution with a third party will not generally be sufficient to relieve an issuer from forthwith disclosing events that would otherwise constitute a material change. This is the same conclusion reached in Rex Diamond.
122Contrary to the submissions of the appellants, the Commission did not inappropriately use hindsight in its analysis. A review of the 154-page decision reveals that the Commission recognized that it should avoid using hindsight and arrived at its conclusions based on a thorough and detailed review of the facts that were known to the appellants and to Coventree at the time of the material changes in August 2007.
VI. DID THE COMMISSION ERR BY MAKING FINDINGS ON MATTERS NOT PROPERLY BEFORE IT?
123The appellants argue that the Commission erred in fact and law by making irrelevant and prejudicial statements concerning Coventree’s prospectus and the ABCP market in general. Tai submits that the Commission erred in making findings against the appellants that Staff had not asked the Commission to make and which were not part of the Statement of Allegations. Relying on the decision of the Commission in Re Anderson66, he submits that this was a breach of procedural fairness that constitutes a denial of natural justice.
124Specifically, the appellants complain about findings of wrongdoing by the Commission on at least three matters that were not raised by the Statement of Allegations:
(1) The Commission found that Coventree’s prospectus failed to make full, plain and true disclosure in various significant respects. This is despite the fact that it dismissed the first particular involving the prospectus;
(2) The Commission found that other public disclosures by Coventree, most notably its Q2 MD&A, were misleading; and
(3) The Commission concluded its reasons with the finding that "Coventree and a number of the dealers distributing ABCP from August 1, 2007 to August 13, 2007 had knowledge of liquidity related events and developments in the ABCP market that were important to investors considering the purchase of ABCP. It is unlikely that any investor would have purchased Coventree-sponsored ABCP, or any other ABCP, if they had been aware of those market events and corrections."
125The appellants contend that these statements made by the Commission were unfairly prejudicial to them and tainted the Commission’s analysis of the materiality issue as well as the question of making orders in the public interest.
126This submission has no merit. The Commission quite properly considered the nature and quality of Coventree’s disclosure in its prospectus, its Q2 MD&A, as well as elsewhere, in assessing the materiality of the changes caused by the January DBRS release. This was also necessary in order to respond to arguments made by the appellants that Coventree’s existing disclosure was clear, accurate and comprehensive, and that no further disclosure was required with respect to the January and August material changes. The Commission did not find any breaches of the Act or impose any sanctions related to these findings. In addition, the appellants had ample opportunity to adduce and challenge evidence concerning the adequacy of Coventree’s public disclosure and did so at the hearing.
127As for the concluding comments about the ABCP market, the Commission made it clear that this was an obiter statement saying in the preceding paragraph that “[t]hose questions are not the subject of this proceeding”. This was just another way of expressing how serious the August liquidity events were to the ultimate customers of the business sponsored by Coventree and it was related to the Commission’s finding that the ABCP market was opaque. The observation was reasonable, supported by the evidence and was not relied upon by the Commission in finding a breach of the Act or in sanctioning the appellants.
VII. WAS THE COMMISSION’S DECISION THAT THE APPELLANTS ACTED CONTRARY TO THE PUBLIC INTEREST REASONABLE?
128The Commission’s public interest jurisdiction arises from the following words in s. 127 of the Act: “The Commission may make one or more of the following orders if in its opinion it is in the public interest to make the order or orders…” The Commission may exercise this jurisdiction where there has been no breach of the Act. However, in this case, the Commission based its orders in the public interest solely on contraventions of the Act.
129The Supreme Court of Canada has provided guidance as to how the Commission should exercise its public interest discretion. In Asbestos it stated:
In exercising its discretion, the OSC should consider the protection of investors and the efficiency of, and public confidence in, capital markets generally. In addition, s. 127(1) is a regulatory provision. The sanctions under the section are preventive in nature and prospective in orientation. Therefore, s. 127 cannot be used merely to remedy Securities Act misconduct alleged to have caused harm or damages to private parties or individuals.67 [Emphasis added.]
130In Cartaway Resources Corp. the Supreme Court stated that "it is reasonable to view general deterrence as an appropriate and perhaps necessary consideration in making orders that are both protective and preventative".68
131After referencing the foregoing authorities, the Commission referred to prior decisions where the Commission found that violations of the Act pertaining to disclosure also constituted conduct contrary to the public interest.69 On this basis, the Commission stated that “[i]t is clear that the Commission considers the failure to make timely disclosure in accordance with section 75 of the Act, and the making of inaccurate, misleading or untrue disclosure, to be contrary to the public interest.” It then concluded that the conduct of Coventree, Cornish and Tai in contravening the Act was contrary to the public interest.
132The appellants challenge the Commission’s conclusion that they acted in a manner that is contrary to the public interest. The parties are agreed that the Commission may conclude that not every breach of securities law requires a sanction in the public interest. However, they differ as to what factors should be considered in making this determination. The appellants submit, given the findings of the Commission and the antecedents of the appellants, that there was no need to make such an order in this case.
133In this regard, the appellants point out that, while the Commission found that Cornish and Tai had permitted or acquiesced in Coventree's contraventions of s. 75 of the Act, the Commission added “there was no evidence before us that would lead us to conclude that either Cornish or Tai intentionally breached the Act or attempted to intentionally mislead public shareholders or investors.” As well, referring to the liquidity events in July and August of 2007 the Commission noted that “[m]anagement and the directors of Coventree appear to have been acting responsibly in monitoring events as they unfolded with a view to Coventree complying with its disclosure obligations.” The Commission also recognized that Coventree, Cornish and Tai had all fully co-operated with the investigation.
134Relying on Re Mithras Management Inc.,70 the appellants emphasize that the purpose of the public interest remedy is to restrain future conduct, not to punish past mistakes. They argue that, where there has been no intentional misconduct, findings of conduct contrary to the public interest are not appropriate. Moreover, they distinguish the other non-disclosure cases relied on by the Commission on the basis that in those cases (1) the respondents had not acted diligently; (2) the non-disclosure related to internal events; and (3) in some of the cases, the respondents failed to make disclosure for personal gain. In this case, by contrast, the appellants acted diligently, were dealing with external events in a difficult, highly fluid and constantly changing environment and were found not to have acted for personal gain.
135The appellants argue that the extensive evidence of good character led with respect to both appellants is a relevant consideration in determining whether they acted in a manner that was contrary to the public interest. They also argue that, even if this court upholds the finding of material changes, the appellants reasonably believed they were not material due to the attention they paid to the matter, their reliance on the opinions of other expert Board members and the fact that all decision-making at Coventree was consensus-based by the whole management team.
136In Gordon Capital Corp. Justice Craig stated:
There is no definition of the phrase “the public interest" in the Act. It is the function and duty of the OSC to form an opinion, according to the exigencies of the individual cases that come before it, as to the public interest and, in so doing, the OSC is given wide powers of discretion. 71
Craig J. added that “the scope of the OSC’s discretion in defining ‘the public interest’ standard… is limited only by the general purpose of the Act, being the regulation of the securities industry in Ontario, and the broad powers of the OSC thereunder to preserve the integrity of the Ontario capital markets and protect the investing public.” He concluded that the Commission should be “accorded a particularly broad latitude in formulating its opinion as to the public interest…”72
137The Ontario Court of Appeal in Asbestos characterized the scope of the Commission’s discretion in acting in the public interest as “very wide” and stated that its discretion “is guided by the two broad purposes of the Act… to provide protection to investors from unfair, improper or fraudulent practices; and to foster fair and efficient capital markets and confidence in capital markets – and by the six ‘fundamental principles’ set out in s. 2.1…”73
138The disclosure cases cited by the Commission make it clear that it is not necessary for the Commission to conclude that a respondent acted willfully or deceitfully in order to exercise its public interest jurisdiction.74 A breach of the disclosure requirements under Ontario securities law will generally involve conduct contrary to the public interest.75 The prior good character of the appellants and the fact they acted in good faith, while relevant to sanctions, does not preclude a finding that their conduct was contrary to the public interest.
139The decision to intervene to protect the public interest is a matter which lies squarely within the Commission’s expertise. As the Supreme Court of Canada made clear in the Asbestos case, such decisions are entitled to “a high degree of curial deference.”76 The Commission’s conclusion that the conduct of Coventree and the appellants in contravening the Act was contrary to the public interest was entirely reasonable. This case did not involve trivial or technical breaches of securities law, but instead related to two failures to comply with clear statutory disclosure requirements which constitute the “cornerstone” of securities regulation, and which had a significant impact on Coventree’s shareholders.
VIII. CONCLUSION
140For the foregoing reasons, the appeals are dismissed.
141If the parties cannot agree on costs, they may make brief written submissions, through the Divisional Court office, within 30 days of the release of this decision.
Aston J.
Swinton J.
T. Ducharme J.
Released: March 19, 2013
CITATION: Cornish v. Ontario Securities Commission, 2013 ONSC 1310
DIVISIONAL COURT FILE NOS.: 33/12 and 35/12
DATE: 20130319
ONTARIO
SUPERIOR COURT OF JUSTICE
DIVISIONAL COURT
ASTON, SWINTON AND T. DUCHARME JJ.
BETWEEN:
GEOFFREY CORNISH
Appellant
- and -
ONTARIO SECURITIES COMMISSION
Respondent
AND BETWEEN:
DEAN TAI
Appellant
-and-
ONTARIO SECURITIES COMMISSION
Respondent
REASONS FOR JUDGMENT
T. Ducharme J.
Released: March 19, 2013
Footnotes
- This is the daily average of the interest rates for Canadian bankers' acceptances.
- Traditional securitization transactions involve the purchase of traditional revenue generating assets.
- Credit arbitrage transactions include collateralized debt obligations and leveraged super senior transactions ("LSS transactions"). Revenue to the sponsor is based on the spread between the return on the underlying assets and the conduit's cost of funds. The term is generally used interchangeably with structured financial asset transactions or "SFA transactions".
- Reasons for Decision dated September 28, 2011 reported at 34 O.S.C.B. 10209 at para. 66.
- Pezim v. British Columbia (Superintendent of Brokers), 1994 103 (SCC), [1994] 2 S.C.R. 557 at para. 72 [“Pezim”].
- Committee for the Equal Treatment of Asbestos Minority Shareholders v. Ontario (Securities Commission), 2001 SCC 37, [2001] 2 S.C.R. 132 at para. 49 [“Asbestos (SCC)”].
- Alberta (Information and Privacy Commissioner) v. Alberta Teachers' Association, 2011 SCC 61, [2011] 3 S.C.R. 654 at para. 34.
- Rowan v Ontario Securities Commission, 2012 ONCA 208, 110 O.R. (3d) 492 at para 79.
- Rogers Communications Inc. v. Society of Composers, Authors and Music Publishers of Canada, 2012 SCC 35, [2012] 2 S.C.R. 283 at para. 15.
- London (City) v. Ayerswood Development Corp. (2002) 2002 3225 (ON CA), 167 O.A.C. 120 at para. 10 (C.A.)
- Re Ontario Securities Commission and Brigadoon Scotch Distributors (Canada) Ltd., 1970 436 (ON SC), [1970] 3 O.R. 714 (H.C.J.) at p. 717. This language was adopted by the majority in Pacific Coast Coin Exchange of Canada Ltd. v. Ontario (Securities Commission), 1977 37 (SCC), [1978] 2 S.C.R. 112 at p. 126.
- Re Philip Services Corp. (2006), 29 O.S.C.B. 3941 (O.S.C.) at para. 7.
- British Columbia Securities Commission v. Branch, 1995 142 (SCC), [1995] 2 S.C.R. 3 at para. 77.
- Re Cartaway Resources Corp., [2000] B.C.S.C.D. No. 92 (B.C.S.C.) at para. 216.
- Re YBM Magnex International Inc. (2003), 26 O.S.C.B. 5285 (O.S.C.) at para. 89 [“YBM Magnex International (OSC)”].
- TSC Industries, Inc. v. Northway, Inc., 426 U.S. 438 (1976) at p. 384 [“TSC Industries”].
- Securities Act, ss. 56-57; Kerr v. Danier Leather Inc., 2007 SCC 44, [2007] 3 S.C.R. 331 at paras. 32, 37 and 43 [“Kerr v. Danier Leather Inc.”].
- Re Rex Diamond Mining Corp. (2008), 2008 ONSEC 18, 31 O.S.C.B. 8337 (OSC) at para. 260 [“Rex Diamond (OSC)”].
- National Instrument 51-102 – Continuous Disclosure Obligations, Parts 4 and 5 (2007) 30 O.S.C.B. (Supp-1) at pp. 42-55.
- Form 51-102F1 – Management’s Discussion & Analysis Part 1(a) (2007) 30 O.S.C.B. (Supp-1) at p. 81.
- Form 51-102F1 – Management’s Discussion & Analysis Part 2, Items 1.2 1.4(g) (2007) 30 O.S.C.B. (Supp-1) at pp. 83-84.
- Rex Diamond (OSC) at para. 260.
- YBM Magnex International (OSC) at para. 91.
- Reasons for Decision dated September 28, 2011 at para. 157.
- YBM Magnex International (OSC) at para. 518.
- YBM Magnex International (OSC) at para. 518.
- YBM Magnex International (OSC) at para. 90.
- AiT Advanced Information Technologies Corp., 2008 ONSEC 3, 31 O.S.C.B. 712 (OSC) at para. 228 [“AiT Advanced Technologies”].
- YBM Magnex International (OSC) at para 94.
- YBM Magnex International (OSC) at para. 101. The probability/magnitude test analyses the current value of information as it affects the price of securities discounted by the chances of it occurring.
- AiT Advanced Technologies (OSC) at paras. 214-215; National Policy 51-201, (12 July 2002), 25 O.S.C.B. 4492 at p. 4499.
- Kerr v. Danier Leather Inc. at para. 47.
- Kerr v. Danier Leather Inc. at paras. 54-55; AiT Advanced Technologies (OSC) at para. 228; Rex Diamond (OSC) at para. 238.
- Rex Diamond Mining Corp. v. Ontario (Securities Commission), 2010 ONSC 3926, [2010] O.J. No. 3422 (Div. Ct.) at para. 6 [“Rex Diamond (Div. Ct.)”].
- Pezim at para. 82. Similarly, this Court recognized in Rex Diamond (Div. Ct.), at para. 3 that “whether a material change has occurred is a matter that is central to the expertise of the Commission.”
- Reasons for Decision dated September 28, 2011 at para. 157.
- Re Biovail Corporation (2010), 2010 ONSEC 21, 33 O.S.C.B. 8914 (OSC) at para. 80 [“Re Biovail (OSC)”]; Re Magna International Inc. (2010), 33 O.S.C.B. 6013 (OSC) at para. 40.
- Re Biovail (OSC). On this point, it is interesting to note that two of three Commission members in this case were also on the panel in Re Biovail.
- Reasons for Decision dated September 28, 2011 at paras. 335-338.
- Reasons for Decision dated September 28, 2011 at para. 596.
- TSC Industries Inc. at p. 449.
- Reasons for Decision dated September 28, 2011 at paras. 21, 139, 149.
- Reasons for Decision dated September 28, 2011 at paras. 214-215.
- Reasons for Decision dated September 28, 2011 at paras. 336-337.
- Reasons for Decision dated September 28, 2011 at para. 354.
- The phrase “in a material respect” is not defined in the Act. In the context of s. 122(1) of the Act, the Commission said in Re Biovail that “the meaning of the words ‘in a material respect’ is contextual and will vary depending on the nature of the document in which the statement is made, the nature of the statement itself and the circumstances in which the statement is made” (para. 75). While s. 122 does not require an assessment of market impact, this is expressly required by s. 126.2(1)(b) of the Act. The appellants concede that the Commission properly applied the market impact test here.
- Reasons for Decision dated September 28, 2011 at paras. 401- 402.
- Reasons for Decision dated September 28, 2011 at paras. 593-596.
- Rowan v. Ontario Securities Commission, 2010 ONSC 7029, 103 O.R. (3d) 484 (Div. Ct.) at para. 20.
- V. Alboini, Securities Law and Practice, 2nd ed. (Toronto: Carswell, 1984), at p. 18-14.
- Re Biovail (OSC) at para. 73.
- A CDO is a form of credit arbitrage transaction where diversified debt instruments are owned by a special purpose entity referred to as a CDO trust. The CDO trust issues different tranches of securities, backed by the debt instruments. The different tranches have different risk profiles. Coventree sponsored conduits generally invested in AAA tranches of CDOs. CDOs may be cash CDOs or synthetic CDOs.
- An SFA transaction is a term typically used by DBRS to refer to credit arbitrage transactions. Cornish testified that SFA transactions include all credit arbitrage transactions, but not all SFA transactions are credit arbitrage transactions. A CDO related SFA transaction is an SFA transaction involving a CDO.
- This is reflected in 4.1 of the National Policy 51-201 Disclosure Standards which says, referring to the market impact test and the reasonable investor test, “[d]espite these differences, the two materiality standards are likely to converge, for practical purposes, in most cases.”
- Sharbern Holdings Inc. v. Vancouver Centre Ltd., 2011 SCC 23, [2011] 2 S.C.R. 175 [“Sharbern Holding”].
- The appellants point to the testimony of a Staff investigator, Christine George, who testified that she was simply unable to say whether disclosure would have had a significant effect on the market price of Coventree's shares, or whether investors would have perceived the disclosure as good news or bad news. However, in rejecting a motion by the appellants and Coventree to exclude Staff investigators as witnesses, the Commission made it clear that the investigators would not be testifying as expert witnesses. Therefore, Ms. George’s testimony on this point was inadmissible and entitled to no weight.
- Re Cartaway Resources Corp., 2002 BCCA 461, 218 D.L.R. (4th) 461 at paras. 22-24, rev’d on other grounds 2004 SCC 26, [2004] 1 SCR 672.
- Reasons for Decision dated September 28, 2011 at para. 157.
- Johnson v. British Columbia (Securities Commission), 2002 BCCA 461, 218 D.L.R. (4th) 470 at para. 23. While these comments were directed to the B.C. Securities Commission they are equally applicable here.
- As the Commission pointed out at para. 66, “[t]here was no public reporting of the prices at which transactions in ABCP were effected, there were no securities law filings required in connection with the sale or trading of ABCP and there was no disclosure legally required with respect to the attributes of, or assets backing, ABCP. As a result, investors relied heavily on the credit rating of the ABCP and had very limited ability to carry out their own due diligence with respect to the ABCP and the assets backing it. The distribution and rolling of ABCP was carried out by dealers through sales to their clients. Coventree did not know who all of those clients were or how much Coventree sponsored ABCP was held by a particular client or dealer. Coventree had limited contact with purchasers of its ABCP. Accordingly, Coventree had to rely heavily on the dealers to provide market information with respect to the sale of its sponsored ABCP.”
- Sharbern Holding (SCC) at para. 58.
- Reasons for Decision dated September 28, 2011 at para. 148.
- Rex Diamond (Div. Ct.) at para. 3.
- Reasons for Decision dated September 28, 2011 at para. 583.
- Reasons for Decision dated September 28, 2011 at para. 631.
- Re Anderson (2004), 27 O.S.C.B. 7955 (OSC).
- Asbestos (SCC) at para. 45.
- Re Cartaway Resources Corporation, 2004 SCC 26, [2004] 1 S.C.R. 672 at para. 60.
- Re Cineplex Corporation, Drabinsky and Gottlieb (1983), 6 O.S.C.B. 3845; Re Standard Trustco (1992), 15 O.S.C.B. 4322 (OSC); YBM Magnex International (OSC); Rex Diamond (OSC); and Re Biovail (OSC).
- Re Mithras Management Inc. (1990), 13 O.S.C.B. 1660 (OSC).
- Gordon Capital Corp v. Ontario (Securities Commission) (1991), 1 Admin. L.R. (2d) 199 (Div. Ct.) at p. 211 cited with approval in Marchment & Mackay Ltd v. Ontario Securities Commission (1997), 1997 16247 (ON SC), 34 O.R. (3d) 284 (Div. Ct.) at p. 290.
- This analysis was cited with approval by this Court in Marchment & Mackay Ltd at p. 290 and by the Commission in YBM Magnex International [Ruling on Disclosure Motion], (2000) 23 O.S.C.B. 623 (OSC) at para. 20.
- Committee for Equal Treatment of Asbestos Minority Shareholders v. Ontario Securities Commission (1999), 1999 7316 (ON CA), 43 O.R. (3d) 257 (Ont. C.A.) at para. 41; aff’d Asbestos (SCC).
- Re Standard Trustco (OSC) at pp. 4359-4360; Gordon Capital, at p. 211; Re YBM Magnex International (OSC), at paras. 571-573.
- Re Standard Trustco (OSC) at pp. 4358-4359.
- Asbestos (SCC) at para. 49.