Be a filter, not a conduit - Secondary market disclosure ‎obligations

A recent Ontario decision involving a securities class action claim for secondary market disclosure has ‎shed light on what a court may consider to be a material fact when determining if a misrepresentation ‎under securities legislation has occurred  and what constitutes a reasonable investigation defence to a ‎finding of misrepresentation. ‎In the case of contradictory expert reports and duelling experts, this case suggests if the experts are not “created equal” then not all reports need to be disclosed to the public. The company must show that it properly considered the reports and any concerns raised and acted reasonably in deciding to not disclose certain information.

Background

In a recent proceeding involving claims of “misrepresentation by omission”, Wong v Pretium Resources Inc., 2021 ONSC 54 [Wong], the Ontario Superior Court of Justice dismissed a secondary market securities class action.  Secondary market liability is a term used to describe the statutory liability of a corporation, its officers and directors, and certain experts for misrepresentation in an issuer’s continuous disclosure documents or public statements.  In Ontario, the rules that govern secondary market liability are set out in Part XXIII.1 — Civil Liability for Secondary Market Disclosure of the Ontario Securities Act (“OSA”).  A person who trades in a public corporation’s securities during the time frame that a misrepresentation was contained in a disclosure document or public statement has a right to damages pursuant to those statutory provisions, even if that person did not rely on the misrepresentation. In Wong, the Court held that the responsible issuer, Pretium Resources Inc. (“Pretium”), and its then-CEO, were not liable for secondary market misrepresentation for demurring disclosure of a negative opinion from one of their consultants.Pretium had investigated the consultant’s negative opinion and objectively concluded it was “inherently unreliable”. 

Over three and a half years earlier, the plaintiff investors’ leave to commence the securities class proceeding (required by section 138.8 of the OSA) was granted based on the Court attributing equivalent qualifications and expertise to two of Pretium’s consultants that had contrary opinions. Upon further evidence presented at Pretium’s summary judgment motion to dismiss the class action, the Court held that the consultant’s expertise diverged in relevant key areas of competency. Noting that the evidence was mostly documentary and that there were no concerns regarding the credibility of either party, the Court allowed the motion for summary judgment, finding that Pretium had demonstrated that these facts presented no genuine issues requiring a trial.The Court contextualized the eventual summary dismissal by stating “[t]he leave motion, while more than a speed bump, is not the Matterhorn” indicating the evidentiary requirement for a summary judgment is significantly higher.A leave motion requires that the plaintiff prove there is a “reasonable possibility” their action may prevail, ‎while a summary judgment weighs the evidence on a balance of probabilities. ‎

A tale of two experts

Pretium is a mining company that hired two reputable mining consultants, Snowden Mining Industry Consultants Pty Ltd. (“Snowden”) and Strathcona Mineral Services Ltd. (“Strathcona”), to assist with the evaluation of mineral deposits in a gold mine in northwestern British Columbia. Snowden was hired to update its previous mineral resource estimate by evaluating a larger bulk sample of the rock from the mine.  Strathcona’s role was to supervise the process required to gather that bulk sample and ensure it was properly prepared for Snowden’s evaluation. Due to a delay in Strathcona’s processing procedure, Pretium allowed Strathcona to broaden its initial scope of work and perform a preliminary evaluation on the mineral content of the rock. Pretium and Strathcona agreed to release these results concurrently with Snowden’s mineral resource estimate.

The preliminary evaluation convinced Strathcona that there was a lack of gold and silver in the mine, negating a previously disclosed feasibility study, and for two months it encouraged Pretium to release its results without delay. Pretium refused and eventually Strathcona resigned believing the lack of public disclosure of its preliminary negative results was erroneous and misleading. Two weeks later, Pretium disclosed the reasons for Strathcona’s resignation alongside Snowden’s first batch of positive bulk sample results. A “misrepresentation by omission” class action was brought by investors who argued that Strathcona’s preliminary evaluation was a material fact that should have been disclosed to the market earlier. The investors claimed that Pretium and its then-CEO breached OSA section 138.3 (liability for secondary market disclosure) by omitting disclosure of Strathcona’s preliminary evaluation. Pretium’s material change reports, management discussion and analysis reports (MD&A’s ) and press releases did not disclose Strathcona’s preliminary evaluation results for a two-month period. Strathcona provided no evidence and was not called as a witness to this action.

Decision

The Court found that Strathcona’s preliminary evaluation was not a material fact. In granting the summary dismissal of this Action, the Court reasoned as follows:‎‎

1. the issuer is not obliged to disclose information that they reasonably and objectively believed was premature, unreliable and incorrect; and
2. the issuer may defend liability for misrepresentation with ‎the reasonable investigation defence under section 138.4(6) of the OSA.

The Court also noted that the issuer submitted compelling statutory defences for relying on Snowden as an appropriately qualified expert pursuant to section 138.4(11) of the OSA and properly disclosing and disclaiming forward-looking information according to section 138.4(9) of the OSA.

An expert should “stay in its own lane”

The Court held that Strathcona, by conducting the preliminary evaluation, had acted beyond the scope of their engagement, expressing unsolicited opinions in an area where they held limited expertise. Based on the evidence, the Court opined that it became apparent the two experts used different evaluation methods and that Strathcona’s preliminary evaluation was simply not representative of this mine’s bulk sample.

The reasonable investigation defence

In the alternative, the Court held that Pretium, by directing a reasonable investigation on Strathcona’s preliminary evaluation results, could defend itself from liability for “misrepresentation by omission” by section 138.4(6)(a) of the OSA.  The two prongs of this defence are:

1. before the release of the document with the misrepresentation “the person or company conducted or caused to be conducted a reasonable investigation ;and
2. at the time of the document’s release, there was “no reasonable grounds to believe that the document…contained the misrepresentation.

At the initial leave decision in 2017, the Court held that the first prong was satisfied since Pretium discussed Strathcona’s concerns both internally amongst their technical experts, at their board meetings, and with the company’s Disclosure Committee, and externally with Snowden. With respect to the second prong, the Court wanted to ensure that each time Pretium considered that the omission of the preliminary evaluation was not a material fact “that a reasonable investor would find important and would reasonably want to know”. The second prong was confirmed in the summary judgment with additional evidence, where the Court was compelled by evidence from independent experts. Referencing parallel litigation that had previously dismissed this class action in the United States, the Court found it persuasive that if the American Court held taking four months “to investigate Strathcona’s concerns” was reasonable, then a two or three month delay could likewise be held as reasonable.

Takeaways

What can be gleaned from this case is that the objective reliability of information must be assessed to determine if it is a material fact. According to the Court in Wong, while “genuinely-held but fundamentally subjective views of a public issuer” do not displace objective reality, a reasonably objective opinion that information is “premature, unreliable, and incorrect” negates disclosure obligations. 

The fact that the expert which originally sought early disclosure of its preliminary evaluation both lacked the credentials to offer an opinion on the unique ‎evaluation methodology required and did not expressly support the Plaintiff’s action in addition to Pretium’s consultations with a third party expert (Snowden) further ‎convinced the Court that a dismissal was appropriate.‎ The Plaintiff’s expert, which was an unrelated party, agreed with Snowden’s concerns regarding the appropriateness of the methodology used in the preliminary evaluation.

With respect to secondary market disclosure, the Court stated that unfiltered disclosure may overwhelm investors and result in the market going “up and down like a yo-yo” and that disclosure obligations under the OSA do not require that responsible issuers proceed with “flooding the market with unhelpful information…[burying] the shareholders in an avalanche of trivial information [would] impair, rather than enhance, their ability to make decisions.” 

The decision also provides further commentary on what constitutes a reasonable investigation defence in the secondary market liability context and what evidence a court may find meets that test. It serves as a reminder that public corporations and their management who have followed reasonable and prudent procedures and relied on external experts may be shielded from liability in class actions for liability based on secondary market securities.

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