“What the decision means in practical terms is that auditors and underwriters who take indemnities from corporations must fully understand that if they are sued by the company’s shareholders in a class action or otherwise, any claims for indemnity against the company will be treated as equity claims in CCAA [Companies’ Creditors Arrangement Act] proceedings,” says Derrick Tay of Gowling Lafleur Henderson LLP’s Toronto office.
“Because the CCAA provides that claims in equity are subordinated to claims in debt, the chances of recovery would be slim.”
Sino-Forest arose after the company’s shareholders filed a class action against Sino-Forest as well as its auditors and underwriters. The auditors and underwriters sought contribution and indemnity from the company.
Subsequently, Sino-Forest obtained CCAA protection. The auditors and underwriters filed claims against the company. Sino-Forest then sought an order declaring them to be equity claims.
The Superior Court granted the order and the Court of Appeal upheld it.
The Court of Appeal noted that in 2009, Parliament amended the CCAA to define an equity claim as one “in respect of an equity interest.” They include claims for a dividend or similar payment; a return of capital; a redemption or retraction obligation; a monetary loss resulting from the ownership, purchase or sale of an equity interest or the rescission of such a purchase; and contribution or indemnity in respect of any of the foregoing.
Here, the shareholders’ claims in the class action arose from a monetary loss resulting from the purchase of an equity interest. Because the auditors’ and underwriters’ claims related directly to that matter, they were therefore claims “in respect of” an equity claim, making them equity claims themselves.
“The appellants tried to argue that the agreements to indemnify were independent contracts giving rise to independent causes of action,” says Tay. “But the court recognized that their claim existed only because they were being sued by the shareholders.”
In other words, if any proceeds from the claim ultimately ended up in the shareholders’ hands, it was an equity matter.
“The court ruled that the fact that the money might pass through third parties doesn’t affect the status of the claim,” says Tay. “No matter how you couch it, money from an insolvent estate that is channelled to the shareholders is money in respect of an equity claim.”
Writing in Bennett Jones LLP’s Corporate Commercial Update, Denise Bright, David Phillips, Chris Simard, and Ciara Toole observe that one of the implications of Sino-Forest is that “an indemnity might be meaningless just when it is needed most.”
As the authors point out, civil liability for shareholder claims has a long reach in Canadian law. For example, provincial securities legislation makes everyone who signs the certificate in a prospectus, offering memorandum, and takeover bid circular, as well as any materials incorporated by reference in these documents, liable to civil action.
As well, provincial secondary-market liability regimes impose liability for disclosure in public documents, public oral statements, and failure to make timely disclosure. In some cases, the liability extends to every director and officer who authorized, permitted or acquiesced in the release of the document.
Caution, then, is paramount.
“We recommend that underwriters, agents, other third parties, directors, and officers consult with legal counsel and carefully consider their risk exposure and mitigation strategies beyond the protection of a contractual indemnity,” the Bennett Jones lawyers advise.