Fairness opinions | S1 EP1
Disputed - Discussions to keep your business risk-ready
October 13, 2021
Disputed episodes
Short form summaries considered by the financial advisor, fairness opinions determine whether a proposed transaction is fair from a financial perspective to company shareholders. In this episode, join hosts Ailsa Bloomer and Andrew McCoomb as they interview Steve Leitl, QC to find out why fairness opinions are becoming top of mind for courts, and what questions directors, shareholders and financial advisors should be ready for. Steve is a senior partner in our Calgary office and has represented clients across Canada in complex securities and M&A litigation, directors’ liability cases, class actions and internal investigations.
For more information on fairness opinions, check out Steve’s publication, Judicial scrutiny of fairness opinions.
This episode qualifies for 0.5 hours of Substantive credit in Ontario and 0.5 hours of Substantive credit in British Columbia.
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Transcript:
Andrew McCoomb 00:10
Hello, and welcome to Disputed, a new Norton Rose Fulbright podcast. Join us as we dive into the trends, issues and opportunities across Canada's legal landscape. Ailsa, this is our first episode. So maybe we should start off by introducing ourselves in the podcast. Do you want to go first?
Ailsa Bloomer 00:26
Sure. So my name is Ailsa Bloomer. I'm a commercial litigation associate based in Calgary and my practice is quite broad. It covers general commercial disputes, class actions, insurance coverage disputes, and some Indigenous law matters. I'm originally from London, UK, where I began my career with another leading firm and I practiced insurance litigation and worked on a number of arbitration and EU regulatory matters, before moving to Canada as a foreign qualified lawyer and joining Norton Rose Fulbright in 2018, and was finally called to the Alberta bar in 2020.
Andrew McCoomb 01:02
And I'm Andrew McCoomb. I'm a litigation partner in Norton Rose Fulbright's Toronto office. My practice focuses on complex commercial and securities litigation, as well as disputes in the competition, consumer protection and fraud spaces, among other things. I work with a broad range of clients, but most often with clients in the tech sector or financial institutions. And I often work with companies and energy and transport as well. I'm also a member of Norton Rose Fulbright's special situations team, which I think you'll hear about in at least a couple of future episodes, which includes Canada's leading shareholder activism practice.
Ailsa Bloomer 01:37
I feel like both our bios are just wordy ways of saying that we're in the business of solving problems.
Andrew McCoomb 01:44
Yeah, I think that's right. And we're also in the business of advocacy. Ailsa, let me ask you this. Why did you want to start this podcast?
Ailsa Bloomer 01:51
Well, first of all, I love the format. I'm a big fan of podcasts as a means of staying in tune with what's going on in the world and gathering information, not just at a high level, I think podcasts, you know, they offer a way to take a listener from the basic concepts, but into a meaningful detail in quite a short period of time.
Andrew McCoomb 02:12
Yeah, I think that's so right. When I'm listening to podcasts, I'm usually commuting or walking the dog or doing something that doesn't fully occupy my mind. So it's great to have a means to learn and gather information while I'm on the go.
Ailsa Bloomer 02:26
Yeah, I think that there's also something that's about overhearing people having a conversation that just like pretend like peeks into our tendencies to eavesdrop. And you know, even even if that conversation is about the law, but seriously, I think a podcast presents a really useful opportunity to just engage with lawyers across Norton Rose Fulbright's national and international networks, learn about legal issues, and also learn how they relate to changes across key industries.
Andrew McCoomb 02:57
Ailsa you said 'useful', I think that's really the key. Our focus is on practical knowledge and updates on relevant legal areas. It's sort of what you'd need to know, what's the state of the law in the area? How do we get there? Where are we going?
Ailsa Bloomer 03:11
Yeah, and to hear it from lawyers and professionals that are immersed in those industries and that are perfectly placed to tell our listeners what's what. So that's Disputed in a nutshell.
Andrew McCoomb 03:23
To give you a sense of what you can expect in our early episodes, today, we're going to discuss fairness opinions, and M&A and related litigation. Next week as October is Cybersecurity Awareness Month, we will release three episodes on relevant topics like ransomware and litigating a cyber breach.
Ailsa Bloomer 03:40
We also have upcoming episodes on proxy fights, climate change disputes, parent company liability for international human rights abuses, as well as some insolvency insurance and Indigenous matters. So our content is going to be broad, but it's designed to identify key dispute related trends across Canada's common law landscape.
Andrew McCoomb 04:01
We hope you enjoy the podcast at least as much as we've enjoyed putting it together for you. If you want to get in touch to get more information, give us feedback or suggest future episodes to cover you can reach us at disputed@nortonrosefulbright.com.
Ailsa Bloomer 04:14
And you can subscribe to Disputed through Spotify, Apple Podcasts or wherever you get your podcasts. Here's episode one, Fairness Opinions with Steve Leitl, QC. If you have ever been involved in a public company transaction, whether that's a share exchange, acquisition or reorganization, well then you've probably heard of a fairness opinion. These are a common feature of board endorsed transactions and they're typically cited in a company's disclosure such as a circular seeking shareholder approval of a transaction.
Andrew McCoomb 04:55
Fairness opinions are generally short form summarizing the information considered by the financial advisor with the conclusion on whether the proposed transaction is fair from a financial perspective to the company shareholders. Sounds pretty uncontroversial. So why are we talking about them now?
Ailsa Bloomer 05:12
So here's the point, the courts have started to take a closer look at what is in these fairness opinions, particularly when shareholders disagree with the board's proposed transaction. It started in 2008, with the Supreme Court of Canada decision BCE. And that briefly acknowledged that a fairness opinion could be one of many indications that a transaction is fair to shareholders. But the Supreme Court did not actually say what a fairness opinion should contain. And since then, courts in Ontario, the Yukon and BC have scrutinized these documents. And because of these decisions, directors, shareholders and financial advisors are facing a series of questions and uncertainties, like should these documents be treated the same way as expert evidence in litigation? Is it okay for financial advisors to charge success fees for the opinions? And ultimately, how much comfort should a fairness opinion give directors that they've satisfied their fiduciary duties?
Andrew McCoomb 06:17
To answer these questions, we spoke with Steve Leitl, QC. Steve is a senior partner in our Calgary office. Over the past 30 years, Steve has represented clients across Canada in complex securities and M&A litigation, directors’ liability cases, class actions and internal investigations. He has been involved in hundreds of plans of arrangement where issues of fairness opinions most commonly arise. Steve recently published a paper on this topic a link to which is in this episode's description. Steve, thanks so much for being here.
Steve Leitl, QC 06:50
My pleasure, nice to be here.
Andrew McCoomb 06:52
Steve, maybe I'll start off at a high level, can you tell us what is a fairness opinion?
Steve Leitl, QC 06:56
So, the fairness opinion that we'll be talking about in the Canadian context is generally a short form opinion prepared by financial advisors, in my experience, most commonly investment bankers in relation to a proposed transaction, which is given to a company board or a special committee in connection with a proposed transaction.
Andrew McCoomb 07:16
So to pick up where you started there you said, a short form opinion. As opposed to what?
Steve Leitl, QC 07:22
Well, it's short form in terms of the work done by the financial advisors, for sure. Usually, it'll be very conclusory saying, you know, we've looked at the transaction, and in our opinion it's fair from a financial perspective to the shareholders of the company. And then there'll be a long list of things they reviewed, but what they don't disclose, is their-- their analysis, their valuation, methodology, etc.
Andrew McCoomb 07:44
How the sausage is made.
Steve Leitl, QC 07:46
Exactly.
Ailsa Bloomer 07:47
And so what are they used for primarily?
Steve Leitl, QC 07:50
Well, in the Canadian context, again, they're generally relied upon by boards of directors or special committees, as part of the indicia of the process which they've undertaken in connection with assessing a transaction. Now, they may play many other roles at the same time, for example, advising as to the structure of the process canvassing potential purchasers and assessing different competing bids that come in the financial, the sort of fairness opinion will be one aspect of their work.
Ailsa Bloomer 08:22
And can you just expand on that? What do you mean by indicia of the process?
Steve Leitl, QC 08:28
Well, in Canada, a company's directors owe a fiduciary duty, which requires them to act in the best interests of the corporation. And in Canada, that's not linked to just the short term, you know, the next quarter or the two quarters away. It's long-term profit maximization or long-term interest. And-- and directors have a defense when their judgment is challenged, based on the so-called business judgment rule, but to have the benefit of that rule they have to show that they've undertaken a proper and thorough process. And that requires them to do all kinds of things. It's by no means easy being a director, but one of the things that is considered an indicia of the fairness, or if you prefer, an indicator of fairness, is the fact that they have consulted with financial advisors expert in the area to get their opinion on the merits of their proposed course.
Ailsa Bloomer 09:18
Okay, so fairness opinions grew out of the context of directors, fiduciary duties. They give the board some additional comfort in terms of recommending a proposed course of action to shareholders. What types of action could that include?
Steve Leitl, QC 09:34
It could be a reorganization, that could be an acquisition of another company, and it could be selling the company to somebody else, or selling assets of the company, could be all kinds of things. And what they'll do, boards frequently, especially the larger the company, the more complex the situation is to get some very expert advice on the merits of the transaction and especially-- and especially the alternatives available so they can compare that to the merits of transaction in question.
Ailsa Bloomer 10:02
And so where do they most commonly come up?
Steve Leitl, QC 10:04
Sure, that's certainly where I most often see fairness opinions arises in the context of a plan of arrangement. And a plan of arrangement can be a corporate transaction of many kinds it just can't be one that's a pure takeover. It's very flexible, and the definition is very easily met. So for example, one company may acquire another company by a share exchange. And what the arrangement requires is that you get court approval, and the court will look to the fairness of the transaction, I'm sure we'll be coming to how fairness opinions fall in or play into that.
Ailsa Bloomer 10:40
And you've been involved in hundreds of these plans of arrangement. And as you say, this is a where a court sanctions a proposed transaction under the company's applicable statute, whether that's the CBCA, or its provincial/territorial equivalent, these involve hearings in court, but they're not your classic litigation. So can you talk a bit more about the context of a plan of arrangement and where the fairness opinions fit in?
Steve Leitl, QC 11:05
In the context of a plan of arrangement, there are two, usually two court hearings. One is an application for what we call a motion for an interim order. And that's an order where the court just looks at the proposed arrangement from a very superficial level, I don't mean that critical, from a high level. And they-- they set the terms by which shareholders or other stakeholders will have an opportunity to vote, where the vote will be, and other things such as whether shareholders will have a right of dissent and-- and provision for a final hearing at which the fairness of the transaction will be assessed by the court. And for example, rights of interested parties, stakeholders to appear to oppose if they so desire.
Andrew McCoomb 11:50
So that first hearing is focused on process and mechanics. And the final hearing is focused on really the merits and the fairness and the substance of the transaction, right?
Steve Leitl, QC 12:01
Absolutely. And the first hearing will be what we call, sorry to use Latin again, ex parte. Without notice to anybody. So you're not-- even though it's litigation, in a sense, you're not serving anybody, you're not-- it's not adverse to anybody.
Andrew McCoomb 12:15
Usually, it's just-- because I've done a couple of these as well. Usually, it's just target counsel, acquire counsel, usually in chambers with the judge, talking about fairness from the perspective of making sure votes are going to get counted, making sure people have adequate notice of a meeting, and how everything's going to work to, you know, to make sure that when you come back for that final hearing, the court can be satisfied that it can make a decision on the fairness and the reasonableness of the transaction.
Steve Leitl, QC 12:44
And-- and at that stage, you know, experienced judges may ask about who's got, for example, who's gonna get to vote. You know, there may be option holders or warrant holders and other stakeholders as well as shareholders. So, they want to see that everybody, when you come back, they have reliable data in terms of the support. So, it's common in my experience, when there's option holders whose options are not underwater, the judge will ask for a separate tabulation of their votes. So, in my view, the ex parte hearing is very much just procedural, leaving the powder dry of all parties to come back and argue about things like whether the fairness opinion was adequate.
Andrew McCoomb 13:19
And sometimes you see judges getting into those questions about the substance and usually the best deflection for counsel is to say, well, that's really a question for the final order hearing on fairness and reasonableness and probably not something for today.
Steve Leitl, QC 13:33
Yep. Absolutely.
Ailsa Bloomer 13:36
So moving on to the final hearing, then what test will the court apply to determine whether the plan of arrangement should be approved?
Steve Leitl, QC 13:44
Yeah, that the catchphrase is fair and reasonable to the-- to the people whose legal rights are being arranged or compromised or affected. And that test is set out, you know, in the famous decision BCE or Supreme Court of Canada. One indication of fairness will be the existence of a fairness opinion. But the-- the key in my experience, the key indicia indicator is the level of shareholder support.
Ailsa Bloomer 14:10
BCE is the 2008 Supreme Court of Canada case on the nature of directors' duties and this principle of fairness, this is the leading authority on directors' fiduciary duties and plans of arrangement. So can you talk us through that decision?
Steve Leitl, QC 14:28
So, at a high level BCE involved a leveraged buyout, which was going to benefit its shareholders. And it was an arrangement. BCE had debenture holders that had, you know, multi-page-- hundreds and hundreds of pages long debenture, form of debentures with extensive terms, and they opposed because it was going to downgrade the rating of the company, and in the end, it would affect the value of their debentures. So they opposed the approval of the arrangement on the basis of fairness and they also in parallel sued for oppression, which you often see in a party challenging an arrangement.
Ailsa Bloomer 15:05
And so what happened?
Steve Leitl, QC 15:07
In the end of the day, well, the court provided some very helpful guidance on what-- what is fair, and you know, the nature of arrangements and the test for oppression, at the end of the day, in most simple terms, the court said to the debenture holders, your reasonable expectations, and that's the magic phrase in the oppression world when stakeholders sue for oppression, but your reasonable expectations were codified in the terms of your debentures, and the terms of your debentures did not block this transaction, so you're out of luck. You could have your debenture holders, for example, could have negotiated a provision which proscribed this transaction that's before the court.
Andrew McCoomb 15:47
And when it comes to a plan of arrangement involving shareholders, you'd expect there to be some off ramp through a descent process for most shareholders, they don't like a transaction, but they're going to get swept up by it, does that factor into the analysis as well?
Steve Leitl, QC 16:01
Courts will consider, now, the dissent rights in most cases are not required. You know, they're offered as another indication of fairness. And as you say, you can say to the court, and we often raise that at the interim stage to-- to say, you know, look, the shareholders not only get the disclosure in the circular, they not only get to vote, but they also get a right to dissent. And then for those who don't know what that means is that when you dissent, you can sue for what's called the fair value of your share. So, if you think for example, that the company is worth more than it's being sold for you can sue for fair value.
Andrew McCoomb 16:38
So, Steve, we know you've worked on a number of plan of arrangement transactions. Are there any anecdotes you can give us or stories you can tell it from plans of arrangement where you faced opposition trying to get it across the finish line?
Steve Leitl, QC 16:52
They're very rarely opposed. And when they do, they make the news. So, for example, I was involved in one years ago called PetroKazakhstan. But that was a wonky one. It involves arbitrations, and Sweden and all kinds of, you know, Toronto counsel flying in impressing Alberta judges. More often-- yes. More often, anecdotally, I'd say is that, and we're going to come to this, is that what used to be a very kind of routine application, the judges are getting more interested now, when they're hearing about cases like InterOil, which we'll come to. I mean, literally, in the early days, we would go into-- I'm not going to name the judges-- we would go into private chambers and the judge I have in mind would hold his pen over the order and say, Steve, is there anything unusual about this one? And I would say no, and he'd sign. But you knew damn well, that if there was something unusual about it, he would never do that for you again. But today, the judges are much more formal and careful about that.
Andrew McCoomb 17:48
And so what are the warning signs, if any, that you're going to see a bit more friction, getting towards completion on one of these plans of arrangement?
Steve Leitl, QC 17:58
Well, generally, my experience, the companies, you know, these transactions follow an intensive kind of process in which they've, they've looked at a lot of alternatives. And they've, if they have a substantial shareholder, for example, they've spoken to that shareholder, and they'll get a sense of whether they're going to support if they've got, you know, a troublemaker, quotation mark, shareholder, they're going to know that there might be some trouble down the road. So generally, when they come to this, they have a good sense of whether it's going to be opposed or not.
Andrew McCoomb 18:29
So Steve, you mentioned that courts are taking a little bit more interest than perhaps they historically have in plans of arrangement? Can you tell us a little bit more about that, and in particular, how that might relate to fairness opinions?
Steve Leitl, QC 18:44
Sure. Recently, and by that I mean over the last six, seven, eight years, there have been some contested arrangements, plans of arrangement, proposed plans of arrangement in which the-- the contesting party has shined-- shone a light on the fairness opinion, alleging that it's not an indication of fairness and should not be given any weight because of either its failure to disclose the methodology of the advisors, or the way the advisors have been compensated. And if the decisions flowing from these cases, which we'll talk about, have not been entirely consistent, and I think, you know, when you appear to just-- to seek approval of arrangement, you have to tell the court about these decisions, and it makes them more interested in the fairness opinion and its relevance in the case.
Andrew McCoomb 19:39
So, I take it one of those decisions is the Champion Iron Mines decision?
Steve Leitl, QC 19:42
Yes, so in that case, in Ontario, Justice Brown was asked to approve a plan of arrangement where an Australian company acquired Champion Iron Mines through a share exchange. And bear in mind here that the end-- at the end of the day, the court approved the arrangement and found it fair, but Justice Brown refused to give any consideration to the fairness opinion. He did not like the pro forma form of the fairness opinion. And he did not like the fact that, you know, his-- I think these are his words, the number crunching was not disclosed. And he basically applied the litigation standard of introducing expert evidence and contested litigation to the case at hand. And I think, you know, that's where there was a crosscurrent and that can lead to some confusion.
Ailsa Bloomer 20:38
Yes, so Justice Brown in Champion Iron Mines approved the arrangement and then went on to make some comments on the use of common form fairness opinions as evidence in court proceedings. As you mention Steve, Justice Brown approached the opinion as if it were expert evidence, and I think he said something like it was “devoid of analysis”, cookie cutter and did not meet the admissibility criteria, so he disregarded it. I mean, that’s pretty significant, isn’t it? If standard practice is to have short form fairness opinions and then suddenly the Court says actually they may have to meet the qualification criteria of an expert opinion, I mean, that’s a huge leap. So what was the reaction to that amongst practitioners?
Steve Leitl, QC 21:24
Well, where the confusion lies, and I think the way to get rid of the confusion is to understand it in this sense, in a non-contested plan of arrangement, in my view, the fairness opinion is evidence of part of the process of the board of directors. It's not introduced as expert evidence in contested litigation and doesn't have to meet the test for admission of such evidence because of that. It's there to show the shareholders the board process, and it's there to show the court that the board concluded that-- included that in part of its process. But things change dramatically when a party opposes an arrangement and especially where they challenged the fairness opinion, because then you're in contested litigation, and you can't just refer to the default pro forma opinion and ask the judge to after the fact accept that as expert evidence. The rules of evidence in Canada require that experts be qualified and that they explain the nature of the analysis that leads to their opinion. So, if an arrangement is opposed, you have to look at your fairness opinion very differently.
Andrew McCoomb 22:30
So, I had the pleasure of being a junior counsel to the target on Champion Iron Mines, trying to get that one approved. And I remember in court, we're going through the process, and we're in open court and explaining that, you know, the-- the substance of the transaction and the different pieces of the evidence, as you would in any other case of what you have in the record, and the different indicia supporting fairness. And I remember Justice Brown saying to lead counsel who is making those submissions, you know, hold on, I'm not quite finished with you yet, on what was an unopposed plan of arrangement. And then he went into this discussion of concerns about-- about the fairness opinion before writing reasons that explain just what you said, Steve. And so, I wonder whether in that case, you know, because it was an unopposed plan of arrangement, it was an opportunity to approve the transaction, but make this commentary for the practice so that people can consider it, knowing that that opposed plan or plan of arrangement where it might be a more relevant issue could come up down the road?
Steve Leitl, QC 23:32
I fully expect that Justice Brown is trying to be helpful and give guidance to the practitioners is, it's just they think that if anybody goes in so far as to refuse admission to the fairness opinion, because it doesn't meet the expert rules and a non-contested arrangement, in my view, that's going too far.
Ailsa Bloomer 23:50
And didn’t the same Ontario court, a few months later, pull back from that position, I think in the Bear Lake case?
Steve Leitl, QC 23:58
Yeah, so there was Bear Lake, another Ontario case, Justice Wilton-Siegel. And he considered an arrangement in respect of a mineral exploration company. And he had no qualms in continuing with the standard form fairness opinions, you know, commonly used, and recognized their use as one indicia of the execution of a board's fiduciary duties. And then there was another case, Justice Frank Newbould, who I used to work with eons ago, by the way, in Royal Host, said the same thing in different words. You know, the-- saying that the use of fairness opinions in an unopposed arrangement like that was commercial.
Ailsa Bloomer 24:40
Yeah, I think he said the purpose of Fairness Opinions is commercial: they are considered by Boards and shareholders in a commercial context and are not like an expert report. Moving on from that, another significant case is the InterOil decision. Can you tell us a bit about that decision?
Steve Leitl, QC 24:59
Well, InterOil was a 2016 decision of the Yukon Court of Appeal. And in fact, there were a series of decisions until it was ultimately approved. And it concerned the proposed acquisition of InterOil by Exxon Mobil. InterOil's main asset was a yet to be in development gas field in a remote location in Papua New Guinea. So needless to say, it was hard to value, it was hard to value because it was not producing and they didn't know when it would start producing, and they didn't know how the production would go. So you know, obviously, in that case, a board has a very difficult time executing its business judgment rule on, you know, are we selling this now for a great price? Are we giving it away for a steal? The transaction involves a so-called contingent resource payment, on-- on what the field would later contain or produce. And in that case, in fact, InterOil first accepted an offer from another party, who was outbid by Exxon, which in my view, is fantastic evidence of a vibrant process where you have the ability for competing bidders to come in and one who actually does. 80% of the shareholders actually voted to approve the transaction. And in my experience, you know, that's a number-- you'd love to go in with 90 but 80 is a solid number, anything over 75 I think I'll be very confident with. But despite that, the Yukon Court of Appeal found that deficiencies in the fairness opinion fatally undermined the entire transaction and denied approval of it.
Ailsa Bloomer 26:32
So what kind of deficiencies?
Steve Leitl, QC 26:35
Well, they were concerned about the fairness opinion having or lacking any specific analysis of this contingent resource payment. And they were concerned about disclosure generally and the compensation. And they were also concerned, they don't get into too much detail, about whether the CEO had a conflict, about whether he would personally benefit from the transaction. I think ultimately, they were worried that the shareholders were not, despite overwhelmingly voting in favour, that they had not been properly informed.
Andrew McCoomb 27:05
That's the kind of problem that goes to the root of the whole proposal, right, because it affects the disclosure going out to shareholders. And so, their decision-making on whether to approve the transaction or not, and that affects that 75, 80% number that you're talking about, as the-- as the primary indicator of fairness.
Steve Leitl, QC 27:24
Right. So, one of the-- the upshots of the decision was that the company had to go and get a so-called long form opinion from an independent advisor, which provided a detailed analysis as to how the transaction is closed. But in terms of context, I think, you know, this case, you know, I wasn't counsel, but from reading the pleadings, which I've done in the affidavits and the decisions, it looks like the applicant, who was met with all kinds of responding evidence and arguments to challenge the transaction, tried to proceed without directly responding to that, and simply relying on the original fairness opinion. So, this is where the issue transforms of one from evidence of execution of board duty to, you know, contested litigation. And therefore, at the-- before the court, there was a big imbalance of evidence in favour of the party challenging the transaction, which was ultimately corrected.
Andrew McCoomb 28:17
So, Steve, earlier on, I asked you about sort of what you meant when you're referring to a short form opinion. I mean, is there an off-ramp in a situation like this, where you're met with opposition and a plan of arrangement process, that maybe you thought was going to be relatively straightforward, to supplement the material that you have in support of the transaction to make it clear to a court that you've got something more than just that bald opinion?
Steve Leitl, QC 28:42
My view is how you should approach it is I wouldn't even use the word supplement, I would say that, you know, you're starting almost from scratch. You have to look at the issues raised by the responding parties, you have to look at their evidence, and you have to respond to that like they had just initiated a lawsuit. So, if they come at you with investment bankers talking about your value, or-- and/or process, you need to respond. And if your original fairness opinion came from someone who was on a contingency-- contingency fee, you probably need to go and find someone else who can give the responding evidence on an independent basis to satisfy the other rules of expert evidence.
Andrew McCoomb 29:20
With all the backup that you'd expect to go along with a proper expert report and analysis.
Steve Leitl, QC 29:25
Absolutely. Now in high stakes, you know, where it's-- where it's bet the company kind of litigation, you have to you have to respond accordingly. You can't, can't treat this lightly.
Ailsa Bloomer 29:35
So if the panel arrangement is opposed, ie, the shareholders are saying it's not fair and here's our financial analysis to prove it. Your fairness opinion needs to, it sounds like at the very least, have sufficient detail to defeat the opposition's opinion. How much should financial advisors, investment banks, the ones that are giving the opinions…how much should they be concerned about having to disclose their proprietary valuation models as part of this contested litigation?
Steve Leitl, QC 30:10
I guess they, obviously to the extent that their proprietary models, things like that, they should be very concerned, although it rarely comes up. I am currently involved, for example, in some dissent proceedings, where the dissenters are seeking all of the analysis internal to the financial advisors. They hired their own counsel, and they fought that heavily. Ultimately, there was a compromise where they disclose some of their analysis. But you know, it's-- it's part of their-- their tradecraft, and they don't want-- they don't want that out on the street. You know, whether there's merit to that, I don't know.
Ailsa Bloomer 30:39
Well, and coming back to the Bear Lake case, that said, you know, the purpose of a fairness opinion is commercial, it's not an expert report. If the shareholders aren't satisfied with the depth of analysis that's in there, presumably, they can just vote against the deal.
Steve Leitl, QC 30:55
Yeah, and very rarely, the financial advisors will be engaged to do a formal valuation, that's an onerous and expensive task. So, you know, there'll be reams and reams of analysis spreadsheets and models that they've-- presentations they've made to the board talking about alternatives, different perspectives on valuation. And-- and I do agree that you know, to a certain-- at a certain stage, this, you know, adding more to the circular is not going to help shareholders make their decision.
Andrew McCoomb 31:24
So, Steve, when we were talking about InterOil, you made a comment about success fees. I gather until recently, it was common for financial advisors giving a fairness opinion on a transaction to be paid a success fee based on the approval and completion of the transaction. How does that practice interact with what happened in InterOil? What's the issue?
Steve Leitl, QC 31:44
Well, again, the cross currents, it works like this. And as you know, Andrew, in litigation, you cannot put an expert on the stand and try and get her qualified if she's working on a contingency fee. It's, you know, the court will say, you're out. You can stop talking, leave the room, you're not qualified. You have to be independent, and the contingency fee does not support that. In contrast with that, they work with financial advisors in trying to help a company find a transaction that maximizes value. It's common for contingency fees or success fees to be used for a number of reasons. One might be, for example, that the-- the company is, you know, a mid-cap or a small cap company, and they simply can't afford a speculative possible venture, paying financial advisors, a fixed fee, which would be enormous in length, if it's-- if it's an intensive job, versus a success fee. The other thing you have to consider is, as I mentioned earlier, is that the financial advisors are probably doing all kinds of other work, including trying to find the optimal purchaser, for example of the company. So, in that sense, I think of them like a real estate agent. And I, you know, if I'm selling my house, I want my agent to find the buyer who's willing to pay the most, and I'm obviously willing to share a piece of that accordingly. And so I don't have a problem with that at all. It's just when you get into the opposition, and you want to rely on someone's advice as a quasi-expert or expert, if it's contingent payment, then that makes courts more nervous.
Andrew McCoomb 33:12
You have to imagine that it's unbalanced, it could be a good thing to make sure that your financial advisor has skin in the game and recognizing what the risks are of having that skin in the game. You know, of course, they're still going to be motivated to do the work and get the job done, right? And not merely just rubber stamp a fairness opinion on a-- on a transaction just to get it over the finish line. But how does that interface with InterOil, and takeaways from InterOil?
Steve Leitl, QC 33:37
Well, I think InterOil, the-- again, because there were such a strong opposition to the transaction, which at first instance was not strongly met, talking about the compensation, raising questions about the CEO's possible conflicts, I think, you know, that there was one big pile of concerns that led to the court to say, no, you have to go start from scratch.
Andrew McCoomb 33:57
So going forward, I mean, it's not necessarily cut and dry, that you can't have a success fee aspect to a fairness opinion. But, if you can avoid it, that's certainly going to increase your chances of avoiding judicial scrutiny, is that the takeaway?
Steve Leitl, QC 34:11
I just think it's-- it's a factor that should be addressed, depending on the circumstances. And, you know, anecdotally, I can tell you that since this series of case law we've talked about, it's very common for judges to say, Mr. Leitl, how are these financial advisors being paid? And if it is a contingency fee we'll be frank about it, and we'll explain why and how that's still commonly done. But they want to know.
Andrew McCoomb 34:31
So, on that note, Steve, taking all this stuff together, I mean, what's the-- what's the biggest lesson that a listener should take away from where the case law and everything stands on fairness opinions going into 2022?
Steve Leitl, QC 34:42
Well, what comes to mind is, and we alluded to this earlier, when a company, if you're seeking, for example, by way of a proposed arrangement, you know, you should do your homework in canvassing stakeholders to the greatest extent you can to find out where there are going to be people who are going to fight you. And if you expect to fight, you probably want to anticipatorily beef up your disclosure, and think about whether you should get independent opinions and things like that. You know, think about the compensation of the investment bankers and the company's circumstances. And if it is sensible that they'd be paid a contingency fee, you know, be ready to explain why. Because, in my view, in some cases that would advance the best interest of the company. And to me as a litigator, you know, the big lesson is, and we've talked about this already, if someone, you know, serves material saying, we're opposing the transaction, then it's battle stations. And don't rely on what you've done to date and and meet that case head on.
Ailsa Bloomer 35:41
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