Melnyk v. Acerus Pharmaceuticals Corporation, 2017 ONSC 1285
CITATION: Melnyk v. Acerus Pharmaceuticals Corporation, 2017 ONSC 1285
COURT FILE NO.: CV-16-011391-00CL
DATE: 20170222
SUPERIOR COURT OF JUSTICE - ONTARIO
RE: Eugene Melnyk, Moving Party/Plaintiff
AND:
Acerus Pharmaceuticals Corporation, Tom Rossi, Ihor (aka Ian) Ihnatowycz and John Does 1-6, Responding Parties/Defendants
BEFORE: Mr. Justice H.J. Wilton-Siegel
COUNSEL: Lorne S. Silver and David Kelman, for the Moving Party/Plaintiff
David R. Byers, Daniel S. Murdoch and Aaron Kreaden, for the Responding Parties/Defendants
HEARD: December 21, 2016
ENDORSEMENT
[1] On this motion, the applicant, Eugene Melnyk (the “applicant” or “Melnyk”), sought an order nunc pro tunc permitting him to commence this action as a derivative action in the name of and on behalf of Acerus Pharmaceuticals Corporation (the “Corporation”). He also sought ancillary relief, including an order requiring the Corporation to pay his reasonable legal fees and other costs reasonably incurred in connection with the conduct of the action. At the conclusion of the hearing, I advised the parties that the application would be denied, with written reasons to follow, based on the failure of the applicant to demonstrate that it is in the interests of the Corporation that the action proceed. This Endorsement sets out the Court’s reasons for the denial of the applicant’s motion.
Background
The Parties
[2] The Corporation is a corporation incorporated under the Business Corporations Act, R.S.O. 1990, c. B.16 (the “OBCA”). At the date of the hearing of this motion, there were 213,118,645 issued and outstanding shares of the Corporation having an aggregate market value of approximately $40 million as of September 29, 2016.
[3] The Corporation was incorporated on September 9, 2008 under the name Trimel Biopharma SRL (“Trimel”). The applicant was one of the founding shareholders.
[4] On July 15, 2011, Trimel amalgamated with another corporation in a reverse takeover to establish a public corporation. The continuing corporation was renamed Trimel Pharmaceuticals Corporation and subsequently, in 2015, further changed its name to Acerus Pharmaceuticals Corporation. The shares of the Corporation have traded on the Toronto Exchange since the completion of the reverse takeover transaction in 2011. At the time of that transaction, the applicant held approximately 61.5 percent of the outstanding shares of the Corporation on a fully diluted basis. Melnyk has sold most of these shares in the market since then at various times and at various prices. At the present time, Melnyk holds shares representing less than 0.015 percent of the outstanding shares of the Corporation, having a market value of approximately $5,000.
[5] The defendant Tom Rossi (“Rossi”) was hired as president of the Corporation in August 2011 and was appointed chief executive officer in January 2013 when Bruce Brydon (“Brydon”), the chairman of the board of directors and chief executive officer of the Corporation, stepped down. Rossi became a director in January 2014.
[6] The defendant Ihor (Ian) Ihnatowycz (“Ihnatowycz”), through his holding corporation First Generation Capital Inc. (“First Generation”), first acquired shares in the Corporation in the 2013 equity financing mentioned below. He was appointed a director of the Corporation in September, 2013 and has served as the chairman of the board of directors since January 2014 when Brydon retired as the chairman and as a director. Ihnatowycz currently owns directly or indirectly approximately 48 percent of the outstanding common shares of the Corporation.
[7] From May 5, 2011 until May 5, 2016, Melnyk was prohibited from having any involvement in the business and affairs of the Corporation as a result of sanctions imposed by the Ontario Securities Commission in a settlement agreement in respect of the applicant’s role in the management of Biovail Corporation. He was also subject to a similar restriction pursuant to a judgment of the United States Securities and Exchange Commission.
Business of the Corporation
[8] The applicant says that Trimel was founded to market unique formulations and methods of dosing for existing and approved pharmaceutical products, referred to as “localized dosing technologies” (“LDTs”). LDTs target the delivery of medications potentially reducing side effects and improving patient outcomes over existing products.
[9] In May 2009, Trimel entered into a licence agreement for a unique nasal gel technology. Thereafter, application was made for approval of the gel for testosterone replacement therapy (“TRT”) in two different contexts, which products were known as “Natesto” and “Tefina”, respectively. In addition, in November 2009, Trimel entered into another licence agreement for another LDT product, an inhaler rebranded by Trimel as “Trivair”.
[10] At the time of going public in 2011 as described above, the Corporation also closed a private placement of equity in which the Corporation raised approximately $30 million. In 2012 and 2013, the Corporation also raised money in two public equity financings. The Corporation used the approximately $83 million raised in these financings to fund the development of Natesto and Tefina.
[11] At September 30, 2016, the Corporation had cash resources totaling approximately US$5,125,000 and accounts payable and accrued liabilities totaling US$3,450,000. At the same date, the Corporation had total outstanding debt of US$6.3 million in respect of which principal and interest payments totaling almost US$6 million were required to be paid by the end of 2017. The Corporation says that it has a monthly cash burn of approximately US$200,000, although it is also due to receive a licence fee of US$4 million in January 2017.
Procedural History of the Action
[12] The applicant commenced this action by notice of action dated March 4, 2016. He filed a statement of claim on April 4, 2016 (the “Original Statement of Claim”) seeking damages of $145 million.
[13] On May 16, 2016, the defendants served a motion record seeking, among other relief, an order striking the Original Statement of Claim under Rule 21.01(1)(b) of the Rules of Civil Procedure, R.R.O. 1990, Reg. 194, as failing to disclose a reasonable cause of action. The defendants asserted that the applicant’s claims in the Original Statement of Claim were claims on behalf of the Corporation that had to be asserted by way of a derivative action pursuant to the decision of the Court of Appeal in Rea v. Wildeboer, 2015 ONCA 373, 126 O.R. (3d) 178. In that decision, the Court of Appeal held that claims must be pursued by way of a derivative action with leave of the court where the claims seek recovery solely for wrongs done to a public corporation, the thrust of the relief sought is solely for the benefit of that corporation, and there is no allegation that the complainant’s individualized personal interests have been affected by the wrongful conduct.
[14] The applicant says he then determined to commence a new proceeding to pursue individual claims against the Corporation and to amend this action to advance derivative claims on behalf of the Corporation against certain of its officers and directors, being principally Rossi and Ihnatowycz.
[15] Accordingly, the applicant has issued a fresh as amended statement of claim dated August 8, 2016 in this action (the “Amended Statement of Claim”) seeking damages in the amount of $155 million. The applicant has also commenced a separate action in his individual capacity by a statement of claim dated July 15, 2016 (the “Personal Statement of Claim”) seeking damages in the amount of $100 million.
[16] In response to the Amended Statement of Claim, the defendants filed an affidavit of Rossi sworn September 30, 2016 (the “Rossi Affidavit”). The Rossi Affidavit addresses at length, and in great detail, each of the applicant’s allegations in the Amended Statement of Claim.
[17] I do not propose to describe the defendants’ specific responses to the allegations of the applicant. The important point is that, in each case, the defendants assert that the directors, including Ihnatowycz and Rossi, acted in compliance with their statutory and common law duties, including their fiduciary duties. The defendants also say that the matters raised by the applicant involve matters of business judgment and, as such, are subject to the business judgment rule. The defendants assert factual circumstances in respect of each matter challenged by Melnyk that the defendants say demonstrate an entitlement to rely on the business judgment rule. They also say that the applicant, while making bald assertions, has failed to present any evidence of behaviour on the part of the directors of the Corporation, including Ihnatowycz and Rossi, that would displace the operation of the business judgment rule. In particular, they say that the applicant has failed to provide any evidence or support for the inferences of improper behaviour that he draws from the factual circumstances pertaining to the matters at issue.
[18] In response to the Rossi Affidavit, the applicant prepared an affidavit that was eventually sworn on November 26, 2016 (the “Melnyk Affidavit”) and that sets out in greater detail the specific complaints of Melnyk regarding the principal matters that constitute the basis of his claim.
[19] In turn, the defendants filed a further affidavit of Rossi sworn November 4, 2016 addressing certain issues raised in the Melnyk Affidavit (the “Second Rossi Affidavit”).
The Applicant’s Claims in the Actions
[20] The following summarizes the claims in this action and in the action commenced by the Personal Statement of Claim (the “Personal Action”).
This Action
[21] By way of overview, the applicant alleges that the defendants have mismanaged the development and marketing of the principal products of the Corporation – Natesto, Tefina and Trivair. He alleges that they failed to act in good faith and in the best interests of the Corporation and departed from the publicly announced business plan for the Corporation, which was, as the applicant understood it, to focus on LDT products. The applicant also alleges that, in connection with specific transactions and events, the defendants engaged in activity that was in breach of United States anti-trust legislation, their fiduciary duties as directors, and corporate and securities legislation pertaining to related party transactions. In addition, the applicant alleges that the defendants failed to comply with applicable corporate and securities legislation regarding disclosure of the transactions and events described above, which allegation overlaps with his claims in the action commenced by the Personal Statement of Claim. While the Amended Statement of Claim includes other present and former directors and officers as defendants John Does 1-6, the applicant has specifically named Rossi and Ihnatowycz as defendants. The applicant claims damages of $155 million for breach of the duty of care pursuant to s. 134 of the OBCA, breach of fiduciary duty and such other claims as may be determined.
[22] The following is a brief summary of the applicant’s principal claims as set out in the Amended Statement of Claim and supplemented by the Melnyk Affidavit.
[23] First, Melnyk says that the licensing of the Corporation’s key product, Natesto, was contrary to the best interests of the Corporation and industry standards, the result of which was that the entry of the product into the market was delayed for a period of 18 months during which time it was not promoted and earned little revenue. In particular, the applicant criticizes the licensing agreement entered into with a company that the applicant characterizes as a competitor of the Corporation as it had a number of other TRT products.
[24] In the Amended Statement of Claim, the applicant alleges that the licensing was effected through a non-arm’s length transaction with associates of Rossi. In the Melnyk Affidavit, he makes no reference to this allegation but develops in greater detail his allegation that the actions of the licensee constituted “parking” of the Natesto product in breach of United States anti-trust legislation. He suggests that both the Corporation and the licensee intentionally engaged in this practice. He says the fact that no reasonable commercial efforts were pursued or completed in the 24-month period following the receipt of FDA approval for Natesto “indicates that there must have been some agreement or acquiescence by the defendants in allowing Natesto to be parked.”
[25] Second, the applicant has several objections with respect to a July 2014 transaction pursuant to which the Corporation acquired the Canadian rights to a drug known as “Estrace”.
[26] The applicant complains that Estrace is a non-LDT product. The applicant pleads that the acquisition “had no relevance to the [Corporation’s] publicly disclosed business strategy and LDT plan.” This is part of a more general criticism of the defendants to the effect that they departed from the business strategy of the Corporation which, as the applicant understood it, was to focus on LDT products. The applicant particularly objects to the transaction with Estrace as a departure from the business strategy because of the size of the purchase price relative to the market capitalization of the Corporation at the time. In addition, he pleads that the Corporation acquired another “off-strategy,” non-LDT product, Gynoflor, without proper disclosure. The applicant also objects to a decision to abandon development of the Corporation’s manufacturing plant and of the attendant strategic plan to self-manufacture LDT products.
[27] The applicant also complains that part of the acquisition cost of Estrace was funded by the Corporation on an interim basis by a loan from First Generation, Ihnatowycz’s private investment holding corporation. The applicant says that this transaction, which it is not disputed was a related party transaction, was at an onerous and commercially unreasonable interest rate, was not fair and reasonable to the Corporation, and was in breach of the directors’ statutory and fiduciary duties to the Corporation.
[28] He also pleads that the Corporation failed to perform sufficient due diligence in respect of the Estrace acquisition and suffered a loss in value when a generic product was approved by Health Canada approximately one year later.
[29] Third, Melnyk pleads that the Corporation has changed the treatment profile and clinical study protocol for Tefina, which he says will make FDA approval far more difficult to obtain. He also pleads that the Corporation failed to take appropriate steps to maintain the international rights to Tefina, which he alleges were ultimately lost, apart from the rights for Canada, Mexico and the United States, although the Rossi Affidavit states that this allegation is based on erroneous information from the licensor’s website which has since been corrected.
[30] Fourth, the applicant pleads that the Corporation failed to take steps to advance the development of Trivair and has now sold or licensed the technology, which he says was a key technology of the Corporation, without disclosing the details of the transaction.
[31] Lastly, the applicant pleads that the Corporation improperly raised Rossi’s housing allowance with the intention of giving him a salary increase despite the Corporation’s non-performance.
[32] The applicant pleads that the foregoing actions resulted in a decline in the Corporation’s share price which enabled Ihnatowycz to purchase additional common shares of the Corporation from two investment funds in 2016 at a significantly reduced price, thereby increasing his shareholdings from 23.7 percent to 48 percent of the outstanding shares of the Corporation.
The Personal Action
[33] In the Personal Statement of Claim, the applicant claims damages in the amount of $100 million against the Corporation, Rossi, Ihnatowycz and other unnamed directors and officers of the Corporation “for negligent and/or reckless and/or fraudulent misrepresentation” as well as such other claims as may be determined. The applicant alleges that the defendants have made misrepresentations and failed to make timely disclosure regarding material changes in the Corporation’s business and operations. In general terms, the alleged misrepresentations relate to the various events described in the Amended Statement of Claim. The applicant says the defendants owed him a duty of care to disseminate complete and accurate information, that they breached this obligation, that he relied upon the defendants’ representations to his detriment in making decisions as to whether to hold or sell his shares in the Corporation, and that he suffered damages as a result.
Applicable Law
[34] The relevant provisions of the OBCA are ss. 246(1) and (2) and the related definition of “complainant” in s. 245, which read as follows:
- In this Part, …
“complainant” means,
(a) a registered holder or beneficial owner, and a former registered holder or beneficial owner, of a security of a corporation or any of its affiliates,
(b) a director or an officer or a former director or officer of a corporation or of any of its affiliates,
(c) any other person who, in the discretion of the court, is a proper person to make an application under this Part.
- (1) Subject to subsection (2), a complainant may apply to the court for leave to bring an action in the name and on behalf of a corporation or any of its subsidiaries, or intervene in an action to which any such body corporate is a party, for the purpose of prosecuting, defending or discontinuing the action on behalf of the body corporate.
(2) No action may be brought and no intervention in an action may be made under subsection (1) unless the complainant has given fourteen days’ notice to the directors of the corporation or its subsidiary of the complainant’s intention to apply to the court under subsection (1) and the court is satisfied that,
(a) the directors of the corporation or its subsidiary will not bring, diligently prosecute or defend or discontinue the action;
(b) the complainant is acting in good faith; and
(c) it appears to be in the interests of the corporation or its subsidiary that the action be brought, prosecuted, defended or discontinued.
[35] In Re Marc-Jay Investments Inc. and Levy et al. (1975), 1974 CanLII 786 (ON SC), 5 O.R. (2d) 235, 50 D.L.R. (3d) 45, at p. 237, O’Leary J. set out the following test for granting leave to bring a derivative action:
Where the applicant is acting in good faith and otherwise has the status to commence the action, and where the intended action does not appear frivolous or vexatious and could reasonably succeed; and where such action is in the interest of the shareholders, then leave to bring the action should be given.
[36] In this proceeding, the defendants do not dispute that the requirement in s. 246(2)(a) is satisfied. They suggest that the applicant’s lack of any economic interest in the outcome of the action is evidence of an absence of good faith. It is not necessary to address this issue and, accordingly, I decline to do so. I conclude that the applicant has failed to establish that it is in the interests of the Corporation that the action be brought for the reasons set out below. In this regard, I propose to set out my understanding of the content of the “interests of the corporation” requirement as it informs the decision herein.
[37] Although the passage in Marc-Jay Investments Inc. cited above is often taken to mean that the inquiry of a court in respect of the “interests of the corporation” test is limited to whether the action appears to be frivolous or vexatious, I think that this is a misreading of the decision of the application judge and, in any event, is too narrow a test, as discussed further below.
[38] I also note that, in Marc-Jay Investments Inc., the motion judge expressed the “interests of the corporation” test in terms of the interests of the shareholders. I do not think that this is the intention of s. 246(2)(c), which refers to the interests of the corporation, rather than the interests of the shareholders. In Crescent (1952) v. Jones, 2011 ONSC 756, 82 B.L.R. (4th) 155, at para. 18, Mesbur J. made the following observation, which I adopt:
In looking at the second branch of the test, the moving party must show the proposed action is in the interests of the corporation. Peoples Department Stores (Trustee of) v. Wise held:
…it is clear that the phrase ‘best interest of the corporation’ should be read not simply as ‘the best interests of the shareholders.’ From an economic perspective, the ‘best interest of the corporation’ means the maximization of the value of the corporation.
[39] For this purpose, the important point is that the test must address the maximization of the value of the corporation. In this context, there is no significance in the difference between the language of “the interests of the corporation” in s. 246(2)(c) of the OBCA and “the best interests of the corporation” in s. 122(1)(a) of the Canada Business Corporations Act, R.S.C. 1985, c. C-44 (the “CBCA”). Nor is it significant for present purposes that in Peoples Department Stores Inc. (Trustee of) v. Wise, 2004 SCC 68, [2004] 3 S.C.R. 461 the Supreme Court was addressing directors’ duties under s. 122(1) of the CBCA, rather than the comparable provision to s. 246(2)(c) of the OBCA.
[40] In Crescent (1952) v. Jones, Mesbur J. also commented, at para. 20, that “[a]t the end of the day, the court must look at the proposed claim in the context of the particular corporation in order to decide whether, overall, the proposed claim is in the corporation’s interest.” This approach is a natural consequence of the fact that “the interests of the corporation” test requires a consideration of the maximization of the value of the corporation.
[41] It is inherent in any concept of the maximization of the value of the corporation that there will be a comparison between two or more alternative courses of action. In the context of a leave motion under s. 246(2) of the OBCA, the alternatives are to proceed with the action or to refrain from proceeding, either absolutely or for a period of time. This requires an assessment of the potential costs and potential benefits of each course of action. Accordingly, any inquiry into whether prosecution of a proposed action “appears to be in the interests of the corporation” is best approached as an assessment of the probable impact on the market value of the corporation of the costs associated with prosecution of the action, being the impact of such action on the corporation’s business operations as well as the financial resources of the corporation necessary to dedicate to the action, relative to the probability of a successful outcome in the litigation that would increase the market value of the corporation.
[42] Given the foregoing, it is self-evident that an “interests of the corporation” test that is limited to whether a proposed action is frivolous or vexatious is unrealistically narrow, at least in the context of a public corporation. The fact that a proposed action would increase the value of a corporation if it is successful is not sufficient to justify a finding that the proposed action “appears to be in the interests of the corporation”. The overall costs to the corporation, even if successful, may more than outweigh the potential increase in value that could be achieved in the litigation.
[43] The more difficult issue is determining a basis for an assessment of the interests of a public corporation that is credible and that avoids a court forcing an unwanted legal proceeding on a public corporation where it cannot be justified as being in the interests of the corporation on a value maximization basis. In this regard, each case must be assessed on its own facts. I have addressed this issue further below in respect of the particular facts of this case.
Analysis and Conclusions
[44] The applicant argues that the Amended Statement of Claim and the Melnyk Affidavit collectively set out an arguable case. The defendants deny this. For the purposes of this Endorsement, I have assumed that the applicant has made out an arguable case, but no more, without making any determination on the merits of that case. Based on the analysis below, I conclude that, notwithstanding such an assumption, the applicant has failed to demonstrate that it appears to be in the interests of the Corporation that the action be brought.
[45] Before setting out my reasons for this conclusion, however, I propose to set out certain preliminary observations regarding the context in which the issues raised by the applicant are being addressed.
Preliminary Observations
[46] Given the applicant’s sale of his shares of the Corporation since 2011, his present shareholding, although sufficient to satisfy the technical requirement to permit him to qualify as a complainant, is minimal. As mentioned, his shareholding interest in the Corporation represents less than 0.015 percent of the outstanding shares, having a market value of approximately $5,000. Given that Melnyk currently has only a negligible interest in the Corporation, and therefore in the outcome of the action as a current shareholder, a natural question is the purpose of such action. The applicant makes two submissions.
[47] First, counsel for Melnyk advised at the hearing that, if the action is successful, the applicant would be seeking an order awarding him damages for the loss in value of the shares that he has sold in the market since 2011, which loss he attributes to the actions of the directors, in particular Rossi and Ihnatowycz. The applicant says that a court could issue such an award pursuant to s. 247(c) of the OBCA, which permits a court to make an order directing that any amount adjudged payable by a defendant in a derivative action shall be paid, in whole or in part, directly to former and present security holders. Accordingly, this action raises the apparently novel question of whether a former shareholder, or a nominal shareholder, can pursue a derivative action on behalf of a public corporation with a view to obtaining damages for trading losses previously suffered out of any amount that may be awarded in favour of the corporation.
[48] Second, the applicant says that his action is, on its own, for the benefit of the Corporation. In the Melnyk Affidavit, the applicant says that he “started this action because [he] was completely frustrated and appalled with the direction that current management and directors were taking [the Corporation] and with its stagnating share price.” He further stated that he believed that the merits of the action, the potential recovery to the Corporation and “the importance of exposing the truth against the actors who are running the [Corporation] into the ground for their own personal gain,” justified the financial resources that the Corporation would need to commit to pursue this action.
[49] As an important consideration in this case is whether the applicant can assert any economic interest in the proposed action or must justify the prosecution of this action solely on the basis that it is of benefit to the Corporation, I will first address the extent to which the applicant has a financial interest of significance in the outcome of this action. I will then set out the basis for my conclusion that it is not in the interests of the Corporation that this action proceed by way of a derivative action.
Does the Applicant Have a Financial Interest in the Outcome of This Action?
[50] The issues raised by this motion must be addressed against the larger background of the extent of the rights of current and former shareholders to sue directors of a public corporation for damage suffered by them as shareholders as a result of the alleged negligence or improper actions of the directors. As mentioned, Melnyk says that he is entitled to damages for trading losses that he claims he suffered as a result of the alleged breach of duties of the directors to the Corporation that are the basis of his claims in this action.
[51] The applicant’s theory would effectively create an oppression action under the guise of a derivative action under s. 246 of the OBCA. The defendants say that any damage award in favour of a public corporation pursuant to a derivative action prosecuted by shareholders accrues to the benefit of the corporation, rather than to the shareholders who have prosecuted the action. Accordingly, any loss that a former shareholder may suffer personally on the sale of his or her shares would be recoverable only to the extent that the shareholder has a valid personal statutory or common law claim based on misrepresentations by the public corporation. In this regard, I note that part XXIII.1 of the Securities Act, R.S.O. 1990, c. S.5 provides for a complete scheme of liability in respect of secondary market trading losses based on misrepresentations by a public corporation.
[52] I accept that there may be circumstances involving private closely-held corporations in which an award requiring payment to a shareholder, rather than to the corporation, would be appropriate. However, I do not think that such circumstances could arise in the context of a publicly traded corporation for the following four related reasons.
[53] First, damage or loss suffered or incurred by a public corporation as a result of alleged negligence or improper behaviour of its directors is not the same as a trading loss suffered by a former shareholder on the sale of his or her shares in the market. Accordingly, it is not at all clear how a portion of the aggregate loss to the corporation resulting from a breach of a director’s duty to the corporation can be allocated to a shareholder on account of losses arising on the sale of his or her shares. The problem is further complicated by the fact that, for example as in the applicant’s case, any shareholder bringing such an action may have sold his or her shares in the market at various times and at various prices. Any allocation of a damage award would have to be based on a calculation of the difference between the actual trading price and the notional price that would have existed in the market if the alleged breaches had not occurred as of each date on which shares were sold. These difficulties are multiplied if the action is pursued by a number of former shareholders, for example, by way of a class action.
[54] Second, to the extent that former shareholders are awarded damages, the purchasers of their shares should not benefit from the action in any way. The other shareholders – those who did not purchase their shares from the former shareholders who are awarded damages – should be entitled to the full benefit of the portion of the damage award that was received by the corporation after any allocation to the former shareholders. However, it is not possible, as a practical matter, to isolate the shares sold by the former shareholders who receive a portion of the damage award on account of past losses on the sale of their shares from the other shares of the corporation that should in principle receive the balance of any such award. As a result, the holders of shares that were purchased from shareholders who did not participate in the derivative action would effectively be giving a benefit to the holders of shares that were purchased from shareholders who participated in the action.
[55] Third, the applicant’s approach leaves open the possibility of concurrent personal and derivative actions by shareholders claiming damages for losses on the sale of their shares. Indeed, in this case, the applicant is pursuing both actions in respect of the Corporation at the present time. In such circumstances, it would appear that damages could be awarded for losses on the sale of shares based on different theories of liability resulting in different calculations of loss on each transaction. In these circumstances, there can be no certainty that partial or complete duplication of damage claims can be avoided.
[56] Lastly, as a result of the complexity resulting from the foregoing matters, I think that there is reason to doubt that the shares of the corporation could trade with any certainty as to their value so long as former shareholders were prosecuting a derivative action on behalf of the corporation with a view to receiving a portion of the award personally on account of losses allegedly suffered on the sale of their shares.
[57] I agree with the applicant that Rea v. Wildeboer establishes that personal claims that are not “individualized” in respect of the plaintiff must be pursued by way of a derivative action. The applicant seeks to convert the present action into a derivative action in order to avoid the motion to strike his claims brought by the defendants based on Rea v. Wildeboer.
[58] It should be noted, however, that Rea v. Wildeboer addresses very different circumstances from the present case. From paragraphs 2, 7 and 45 of that decision, it is clear that the plaintiffs in that case sought recovery of certain monies solely for the corporation, rather than for themselves as damages for losses on the sale of their shares. The Court of Appeal struck the pleading of oppression under Rule 21.01(1)(b) as failing to disclose a reasonable cause of action, thereby requiring the plaintiffs to pursue their claims by way of a derivative action on behalf of the corporation.
[59] The Court of Appeal did not, however, address whether leave would be granted to the plaintiffs to bring the action by way of a derivative action, if such a motion were brought notwithstanding the negligible shareholdings of the plaintiffs. Nor did the Court of Appeal address whether the plaintiffs could pursue claims for trading losses by way of a derivative action. In short, Rea v. Wildeboer does not suggest in any way that a former shareholder of a public corporation can bring a derivative action with a view to receiving damages on a personal basis for losses on the market, nor to be fair does the applicant suggest that it does.
[60] Based on the foregoing analysis, I conclude that the applicant cannot receive an award of damages on account of losses that he alleges that he suffered on the sale of his shares as a result of the actions complained of in this proceeding. I have therefore proceeded on the basis that the applicant has no financial interest of any significance in the outcome of this action given his negligible interest as a current shareholder.
Does Granting Leave to Bring the Action Appear to be in the Interests of the Corporation?
[61] Based on the determination above that the applicant has no financial interest of any significance in the outcome of the action, the issue for the Court can be expressed as follows: is the benefit of shareholder oversight, in circumstances in which allegations constituting no more than an arguable case are raised by a shareholder having no financial interest of any significance in the outcome of the action, sufficient to establish that it appears to be in the interests of the Corporation that the action proceed?
[62] The applicant says that it is. He argues that the Corporation has an interest in knowing whether or not the directors acted negligently or improperly and that it is in the interests of the Corporation that the action proceed on that ground alone.
[63] The defendants argue that it is not. They say that the Court must look at all the surrounding circumstances, not just the merits of the applicant’s case. For this proposition, they rely on the comments of Mesbur J. in Crescent (1952) v. Jones. In this regard, they say that the Corporation has limited resources, and particularly, limited cash resources, that are needed to grow the Corporation and that should not be diverted toward wasteful litigation that none of the other shareholders have supported. They also say that the “overhang” of the litigation on the Corporation’s shares will have a detrimental effect on its ability to obtain financing in the market in 2017 that it needs in order to fund the growth of the Corporation.
[64] I agree with the defendants. The benefit of shareholder oversight through the right to commence a derivative action, subject to court approval, is not an absolute benefit that trumps all considerations. Indeed, I am not certain that it is a relevant consideration on a leave motion in the absence of any evidence of a potential for a damage award in favour of the corporation from the action.
[65] In this case, I accept, however, that, although the applicant has made out only an arguable case on the merits, there is the potential for a financial benefit to the Corporation from the action. If the action were ultimately successful in establishing the alleged breaches by the directors and if recovery of damages in the amount contemplated in the Amended Statement of Claim were possible, there would be a significant benefit to the Corporation.
[66] Nevertheless, even assuming that the applicant has established an arguable case, I find that there are a number of considerations that support the conclusion that it does not appear to be in the interests of the Corporation to have this action brought notwithstanding the possibility of recovery of damages by the Corporation.
[67] First, there are two financial considerations raised by the defendants. The Corporation is in a development stage. It has a need to husband its cash resources, as well as the time of its senior management, both of which are limited. It is by no means clear that spending money on litigation rather than development and marketing of its products would be the most reasonable use of the Corporation’s funds. Further, the Corporation needs to access the market for funding purposes. The “overhang” of the proposed litigation does not assist, and may adversely affect, the Corporation’s ability to raise money in the market that would restrict the Corporation’s ability to grow.
[68] Second, as a related matter, as mentioned, the principal allegations in the applicant’s case are based on his belief. His belief is, in turn, based on his lengthy experience in the pharmaceutical industry but it is not, at the present time, supported by any specific documentary or factual evidence. As his counsel acknowledged, and the applicant acknowledges in the Melnyk Affidavit, in respect of almost all of the impugned conduct of the defendants, the applicant requires access to the Corporation’s records and the discovery process to determine whether there is, in fact, a viable cause of action. The allegations represent in large measure the applicant’s expectation regarding the facts that he would uncover if he were allowed to conduct such an investigation. Until such an investigation is completed, however, it is not possible to reach any conclusions regarding the likelihood of success, that is, to go beyond expressing the case as an arguable case. However, such an investigation would be time-consuming and expensive.
[69] Third, given that the applicant has no financial interest in the outcome, there is no inherent restraint on, or control over, the extent to which the applicant would expend the resources of the Corporation in pursuing his action. In this regard, even if the Court were to grant leave without requiring the Corporation to pay the applicant’s legal expenses, the prosecution of the action would necessarily involve diverting considerable time of the Corporation personnel as well as cash resources to aspects of the litigation without any countervailing factor that would impose a regime of proportionality on the investigations and expenditure of resources caused by the applicant.
[70] Accordingly, these three practical considerations must be weighed against the possible benefit to the Corporation if the applicant’s claims in this action were ultimately determined to be valid. While there is relative certainty of financial costs to the Corporation, it is not possible to assign any degree of certainty to the potential for any benefit to the Corporation. The issue for the Court is, therefore, the identification of an appropriate means of weighing these competing considerations. In my view, in the present circumstances, given that the Corporation is a public corporation, the most appropriate means of weighing the relative significance of those competing considerations is to have regard to the extent to which other current shareholders of the Corporation support the action.
[71] In this regard, it is important to note that the applicant’s intention to commence this action, as well as the applicant’s pleadings and motion materials setting out his case in detail, are a matter of public record. Melnyk himself issued a press release upon the commencement of the action and the substance of his claims have been reported in the press. The shareholders are therefore in a position to make their own assessment of the interests of the Corporation in the present circumstances. Given the nature of the considerations to be weighed, the current shareholders are at least as capable as the Court in considering the costs versus the potential benefits of the prosecution of this action.
[72] More particularly, the existing shareholders are able to assert the same claims as the applicant or to join in his action. None of them have chosen to do so. Nor have any other shareholders having a material shareholding in the Corporation come forward to advise the Court that they support the applicant’s motion. I think that the lack of participation in, or support for, the proposed derivative action by other current shareholders is highly significant in these circumstances. To the extent that the applicant is asserting an arguable case, the action of the other shareholders must be understood to reflect an assessment that the benefits of inaction outweigh any potential benefit to the Corporation of pursuing the action.
[73] To be more specific, it is open to shareholders to conclude that, even if a corporation has an arguable claim for negligence, for example, against some or all of its directors, it is in the shareholders’ collective interest, through the Corporation, to forego the claim, or at least to park it at the present time, in favour of focusing on the future growth of the Corporation. That is, the shareholders are free to conclude that, as between the two alternatives presented to them for maximizing the value of their shares, they prefer the alternative of foregoing the proposed litigation and allowing the board of directors to continue to pursue its current business strategy for the Corporation. I would also observe that such a decision would be eminently reasonable where, as in the present case, a significant element of the dispute between Melnyk and the defendants relates to differing views regarding the best business strategy for the Corporation.
[74] While the position of the other shareholders of a corporation may not be determinative in the context of a private corporation, I think it is a very important factor in the context of a public corporation and, in this case, should be regarded as determinative. Put another way, once it is acknowledged that there are valid considerations that weigh against the prosecution of the action, the Court must have an indication that at least some of the current shareholders having a real financial interest in the Corporation and, therefore, in the outcome of the action, consider that it would be a reasonable decision to proceed with the litigation notwithstanding negative or potentially negative consequences. In this case, there is no such support and thereby no evidence that any shareholders consider that, on balance, it is worth proceeding with the litigation. In these circumstances, I think it would not be appropriate for the Court to substitute its own opinion for the effective opinion of the current shareholders that the applicant’s case should not be pursued notwithstanding the assumption of an arguable case.
[75] The foregoing constitutes, in my opinion, a more than adequate basis for finding that the applicant has failed to demonstrate that the prosecution of the action as a derivative action is in the interests of the Corporation. There are, however, two other more legal considerations, specific to this case, that also justify and confirm this conclusion.
[76] First, the applicant would appear to be in a conflict of interest in prosecuting both this action and the Personal Action. In prosecuting this action as a derivative action, Melnyk would be acting on behalf of the Corporation. At the same time, in suing the Corporation in his personal capacity pursuant to the Personal Action, he is acting on his own behalf. As mentioned, however, there is considerable overlap in the factual background to the claims asserted in each action. In particular, the claims of negligence in this action in respect of the impugned actions of the directors, which include allegations of inadequate disclosure, cannot be separated from the claims of non-disclosure or improper disclosure in the Personal Action. There is therefore a real possibility of a conflict of interest arising out of the applicant’s dual roles. In order to pursue this action against the defendants, the applicant may well require access to privileged documents of the Corporation that are also relevant to the Corporation’s defence to the Personal Action. There is no obvious means of maintaining confidentiality of such documents without excluding their disclosure to the applicant and preventing their use in this action. I think that this consideration alone could be a sufficient basis for finding that the applicant’s prosecution of this action as a derivative action is not in the interests of the Corporation.
[77] Second, the applicant argues that an important consideration should be that he does not have any alternative remedy. He relies on the decision of Mesbur J. in Crescent (1952) v. Jones, at para. 21, and the cases cited therein, for the proposition that the absence of an alternative remedy is a relevant consideration in the determination of the interests of the corporation. Melnyk says that, if leave is not granted, he will be denied a claim for damages for trading losses resulting from the alleged reduction in the value of the Corporation’s shares as a result of the actions of Rossi and Ihnatowycz as directors of the Corporation. This begs the question of whether the applicant should reasonably have a remedy for such losses apart from the statutory and common law remedies for non-disclosure referred to above. For the reasons set out above in discussing whether the applicant can pursue a claim against the directors of the Corporation for trading losses in this action, I am not persuaded that the applicant, as a former shareholder of a public corporation, should have such a right in addition to any statutory or common law claim for damages based on “individualized” claims. Put another way, the applicant had a remedy which he voluntarily assigned when he sold his shares in the Corporation. Accordingly, I do not consider that the absence of an alternative remedy is a valid consideration in determining whether to grant leave to the applicant to pursue this action as a derivative action. In any event, the absence of an adequate alternative remedy is, at best, a necessary but not sufficient condition for the granting of leave. In my view, for the reasons set out above, the other considerations weigh against the granting of such leave.
Conclusion
[78] Based on the foregoing, the applicant’s motion is denied.
Costs
[79] The defendants seek costs of $268,111.67 on a partial indemnity basis. These costs include the costs of the entire action in view of the fact that this motion effectively terminates this action. The applicant’s costs outline, which was limited to the costs of this motion, totaled $122,815.64. Of these amounts, the disbursements claimed by each party are not materially different.
[80] In fixing costs, I have had regard to the following considerations. The matter was significant to both parties, as is reflected by the involvement of senior counsel on both sides. In addition, given the nature of the applicant’s allegations and the review of the merits of the applicant’s case that is usually conducted on leave motions, it was reasonable for the defendants to address their position at length in the two Rossi affidavits. For the same reason, the applicant would reasonably have anticipated responding materials of this nature and detail from the defendants. Accordingly, he would also have reasonably anticipated that the defendants’ costs would be materially greater than his own, representing the additional time required by the defendants’ counsel to address these matters. Further, although the applicant’s costs of the action prior to this motion are not before the Court, I would anticipate that they would have been at least equal to the costs of the defendants.
[81] Based on the foregoing, I find fair and reasonable costs of the action to be $250,000 payable by the applicant to the defendants forthwith.
Wilton-Siegel J.
Date: February 22, 2017