This is the second installment of a series of posts in which I will be critically examining a number of arguments made by proponents of the view that the time has come for Canadian securities regulators to “vacate the field” of poison pill regulation, leaving oversight of shareholder rights plans to the courts. Evaluating the soundness of their arguments has become a matter of potentially far-reaching consequence following a proposal to reform poison pill regulation put forth earlier this year by the Canadian securities regulators,[1] in which they effectively propose to adopt — in my view, inappropriately — the recommendation that they “vacate the field” of poison pill regulation. The views expressed in this post, as in all of my posts, are mine alone and should not be taken to represent the views of my partners.

In my last contribution to Timely Disclosure I highlighted the repeated failure by proponents of the “vacate the field” perspective on poison pill regulation to appreciate that Canadian securities regulators have a legitimate basis, firmly rooted in their statutory mandates of investor protection and capital market fairness and efficiency, and quite independent of any basis the courts may have, for regulating poison pills. Their oversight in this regard has spawned a confused belief that, in applying the defensive tactics policy to prevent poison pills from interfering indefinitely with the ability of target company shareholders to respond to an unsolicited takeover bid, Canadian securities regulators have been specifying the contents, and monitoring the observance, of the fiduciary duties of target company directors. Echoes of that confusion reverberate through a number of the arguments made by the “vacate the field” crowd.

How the confusion underpinning the “vacate the field” perspective undermines the argument that poison pill regulation by the Canadian securities regulators is ultra vires

The most straight-forward version of the “vacate the field” argument, and the one that most obviously suffers from the confusion at issue, invites us to conclude, based upon little more than the observation (admittedly correct, so far as it goes) that it is the proper function of courts to interpret and enforce rights and duties that arise under corporate law, that the regulation of poison pills by Canadian securities regulators is, ipso facto, ultra vires and places a “thumb on the scale”[2] of poison pill regulation, generating (perverse) adjudicative outcomes that depart from those one might expect were poison pill regulation left to the courts (as it is in the United States).

That version of the argument, advanced by the Competition Policy Review Panel among others,[3] deserves short shrift. As demonstrated in my last post, the regulation of poison pills by Canadian securities regulators has nothing to do with interpreting and enforcing rights and duties that arise under corporate law. It is directed instead at enforcing rights that shareholders enjoy simply by virtue of their status as investors in the capital markets — in other words, by virtue of their ownership of shares in a company, any company — and not by virtue of their status as constituents of the particular target company. Inasmuch as the Canadian securities regulators’ twin policy mandates of investor protection and capital market fairness and efficiency can readily support poison pill regulation that is so directed, this tells decisively against any claim that their regulation of poison pills is ultra vires.

Why more subtle versions of the “vacate the field” argument fail to escape the damaging effect of its foundational confusion

There are, however, a number of more subtle variations of the “vacate the field” argument that are not so easily dismissed, though they are based upon the same fundamental confusion. Edward Waitzer and Sean Vanderpol put forth several of these more subtle and resilient, but no less flawed, versions of the “vacate the field” argument.[4] For instance, when they imply that poison pill regulation by Canadian securities regulators promotes a “shareholder-centric corporate governance framework”,[5] or when they suggest that interference by securities regulators with target board determinations to adopt and maintain poison pills is “inconsistent with the power (and responsibilities) allocated to a board of directors under Canadian corporate law”,[6] Messrs. Waitzer and Vanderpol are effectively making disguised versions of the claim that Canadian securities regulators are sticking their dirty little fingers in someone else’s pie, arrogating to themselves the right to determine matters that are properly within the purview of the courts. Demonstrating precisely what is wrong with their claims, as we’ll see, requires more than simply showing how they rest upon a misapprehension of the basis upon which Canadian securities regulators are authorized to regulate poison pills. Nevertheless, that is the place to start.

Clearly, the notion that poison pill regulation by Canadian securities regulators reflects a commitment to “shareholder-centric” corporate governance suffers a serious blow to its credibility once we appreciate the source of their jurisdiction. The reality is that their regulation of poison pills is (and ought to be) entirely indifferent to, and reticent in respect of, corporate governance matters; it is (and ought to be) concerned only with matters of investor protection and capital market fairness and efficiency. Only by confusing the “shareholder rights” at stake in poison pill regulation by Canadian securities regulators for rights that shareholders enjoy as corporate constituents, rather than rights they enjoy more generally as participants in the capital markets, does one arrive at the doubtful conclusion that Canadian securities regulators are pursuing corporate governance objectives — “shareholder-centric” or otherwise — by their regulation of poison pills.

Similarly, only if one is labouring under the confusion that poison pill regulation by the Canadian securities regulators is directed at protecting “shareholder rights” that are correlative to fiduciary duties owed by target company directors to shareholders as a matter of corporate law does it really make sense to speak of their approach to poison pill regulation being “inconsistent with the power (and responsibilities) allocated to a board of directors under Canadian corporate law.” To be sure, the regulation of poison pills by Canadian securities regulators likely generates outcomes that are divergent — even wildly divergent — from those one might expect if poison pills were regulated (by courts) from the perspective of enforcing rights and duties that arise under corporate law. Doubtless that is why Messrs. Waitzer and Vanderpol devote so much effort to canvassing the historical experience and approach of Delaware courts in regulating poison pills.[7] Their unspoken premise, which few would dispute, is that Canadian courts (like their US counterparts) would surely allow poison pills to remain in place longer than they have historically been allowed to remain in place by Canadian securities regulators — quite conceivably, poison pills would be permitted to remain in place indefinitely — were poison pill regulation left to the exclusive jurisdiction of the courts.

Note, however, that this falls well shy of establishing that the outcomes resulting from poison pill regulation by Canadian securities regulators are “inconsistent with the power (and responsibilities) allocated to a board of directors under Canadian corporate law.” The latter conclusion implies, after all, that Canadian securities regulators are in fact addressing the powers and responsibilities of target company directors under corporate law in regulating poison pills. Were that true, then any divergence from the outcomes that might be expected to result from court regulation of poison pills would indeed amount to an intolerable inconsistency. For in that case Canadian securities regulators would be balancing the very interests — specifically, the potentially competing interests of corporations and their various constituents — balanced by courts in determining the appropriateness of allowing a poison pill to remain in place. And since adjudicating competing demands among corporations and their various constituents falls within the exclusive competency of the courts, such that courts are rightly viewed as the preeminent — indeed, the sole — authority in respect of such matters, it would be accurate in those circumstances to describe such a divergent outcome as “inconsistent” with the more authoritative outcome a court might produce. We might even go so far in such circumstances as to describe the divergence as a disruptive “thumb on the scale”[8] of poison pill regulation, disturbing the natural balance a court might otherwise strike between the competing interests of the corporation and its constituents.

As we have seen, however, in regulating poison pills Canadian securities regulators are, to adopt the Competition Policy Review Panel’s metaphor, balancing entirely different interests on a completely separate scale. Their concern is not with the proper allocation of rights and duties as between corporate constituents with potentially competing interests but with the proper allocation of rights and duties as between participants in the capital markets with potentially competing interests. Small wonder, then, that their “scale” is striking a different balance than courts might strike in regulating poison pills.

Does that not settle things? No? (Damn. I was hoping to head home early to watch the game.) The supposed residual “problem” that poison pill regulation by the Canadian securities regulators unduly impacts matters of corporate governance

It might anyway be thought that all of this is cause for concern. After all, even accepting that the Canadian securities regulators have legitimate and independent authority for regulating poison pills and that such regulation, focussed as it is on concerns that differ from the concern of courts in regulating poison pills, is apt to generate adjudicative outcomes that correspondingly differ from those one might expect from the courts, don’t we still need to worry about what all of this means for the balance of power among corporate constituents? In particular, doesn’t poison pill regulation by securities regulators result in fact, even if not by design, in “shareholder-centric” corporate governance? Specifically, by establishing the primacy of shareholder choice — the right of shareholders to choose to dispose of their shares as they wish and without undue hindrance from defensive tactics — over the right of directors to respond to an unsolicited takeover bid with defensive action they have determined to be in the best interests of the corporation, doesn’t poison pill regulation by securities regulators effectively (though perhaps not intentionally) tip the balance of corporate power in favour of shareholders? We might be willing to concede that the language of “inconsistency” is somewhat inapposite here, but if Canadian securities regulators are habitually setting aside poison pills that corporate directors have determined to be in the best interests of the corporations they are legally charged with managing, and notwithstanding that as a matter of corporate law those determinations would be accorded substantial deference, don’t we nevertheless have a problem?

Well? Don’t we?

I frankly don’t see the “problem” being identified, though the Canadian securities regulators seem to think that they do. What are they missing?

At the risk of seeming insensitive, I must confess that I don’t see it. In fact, I find it puzzling that the Canadian securities regulators themselves appear to concede that all of this is a problem — one that their proposal to reform poison pill regulation needs to address.[9] If anything, I’m far more inclined to view that as a problem. (Call it a “second-order” problem: the problem with the Canadian securities regulators’ “problem”, if you will.) For reasons that essentially parallel those I went on about at length in a previous post, I have substantial difficulty with the notion that “allow[ing] for greater board empowerment”[10] by providing target company boards of directors with “more discretion…with respect to implementing and maintaining a [poison pill]”[11] is a valid objective of securities regulation. It is difficult to see, in fact, how “board empowerment” is rationally connected to the Canadian securities regulators’ statutorily mandated policy objectives of investor protection and capital market fairness and efficiency. Quite the contrary, in the context of poison pill regulation, “board empowerment” seems likely to be hostile to investor interests — specifically, to the right of investors to dispose of their shares as they wish and without undue hindrance from defensive tactics — since it is likely to result, as the Canadian securities regulators acknowledge, in poison pills being “a more effective take-over bid defence…”[12]

It appears then that the Canadian securities regulators are proposing to subvert their statutorily mandated policy objective of investor protection to a newly assumed objective of “board empowerment” as part of their proposal to reform poison pill regulation. The legitimacy of their doing so would be extremely doubtful even if the need for “board empowerment” in the context of poison pill regulation were convincingly established. What I find puzzling is that they are proposing to embark on this illegitimate course of conduct without any clear need. As I say, I frankly don’t see the “problem” that they are trying to address.

Specifying the “problem”: how consideration of the impact of other regulatory regimes on matters of corporate governance exposes it as a pseudo-problem

Why is poison pill regulation by the Canadian securities regulators any more troublesome from the perspective of “the power (and responsibilities) allocated to a board of directors under Canadian corporate law” than, for example, employment and labour regulation by regional labour relations boards or environmental regulation by environmental agencies? Consider that, in the wake of the BCE decision of the Supreme Court of Canada,[13] shareholder interests are on equal footing with other “ancillary interests”, including those of employees and the environment, in terms of defining the corporate law obligations of directors. Specifically, directors are permitted, though not necessarily required, to consider such “ancillary interests” in coming to a determination of what is in the corporation’s best interests and, where they do take such interests into account, courts will accord “appropriate” deference to their business judgment in doing so:[14]

[i]n considering what is in the best interests of the corporation, directors may look to the interests of, inter alia, shareholders, employees, creditors, consumers, governments and the environment to inform their decisions. Courts should give appropriate deference to the business judgment of directors who take into account these ancillary interests…

Thus, under the corporate governance framework established by the Supreme Court of Canada in BCE, a board might determine, having regard (or not) for the interests of shareholders, that adopting and/or maintaining a poison pill in the face of an unsolicited takeover bid is in the best interests of the corporation. Where the board considers shareholder interests in arriving at this determination, as a matter of corporate law courts will typically defer to the exercise of the directors’ business judgment in this regard. The “problem” under consideration is that, by upholding the interests of shareholders in their capacity of investors in the capital markets, Canadian securities regulators are supposedly substituting their own view of which interests deserve protection for the view formed by directors in the exercise of their business judgment — which judgment would be accorded substantial deference by courts as a matter of corporate law.

But this is no different than the impact of labour or environmental regulation on the exercise by corporate directors of their business judgment. Indeed, a board might, to take but one example, determine in the exercise of its business judgment, having regard (or not) for the interests of employees, that a mass termination without notice is in the best interests of the corporation.[15] As a matter of corporate law, the board’s business judgement, including its assessment of the relative weight that should be given to employee interests in reaching its determination, would be accorded substantial deference. Does it follow that regulatory action by labour and employment authorities — for example, a decision of the Ontario Labour Relations Board — preventing a mass termination without notice is “inconsistent with the power (and responsibilities) allocated to a board of directors under Canadian corporate law”? Are we really forced to conclude that an OLRB decision requiring compliance with minimum notice requirements would promote an “employee-centric” corporate governance framework by overriding the board’s determination of what would serve the best interests of the corporation? Likewise, does environmental regulation preventing a corporation from maximizing profits — surely an objective that a board might reasonably determine in the exercise of its business judgment to be in the best interests of the corporation — without regard for the impact of profit-seeking activity on the environment place a disruptive “thumb on the scale” upon which the respective interests of various corporate stakeholders (including the environment) are balanced by unduly fettering the exercise by boards of their business judgment, thereby promoting an “eco-centric” corporate governance framework?

Of course, few of us would take with any seriousness the notion that labour or environmental regulation is somehow offensive to corporate law because it “inappropriately fetters the discretion of … boards to apply their fiduciary duty to act in the best interests of the corporation in a manner consistent with the BCE decision [of] the Supreme Court of Canada.”[16] As a general rule, most of us recognize that corporate directors, in identifying and pursuing the best interests of the corporation — not unlike the rest of us in identifying and pursuing our own personal best interests — are constrained by various legal and regulatory regimes that set parameters within which those interests may be advanced. Directors might well determine, in discharging their fiduciary duties to the corporation, that the interests protected by these various legal and regulatory regimes are deserving of greater or lesser consideration: at the limit, they might even determine that such interests are to be entirely disregarded and that non-compliance with one or more of such legal and regulatory regimes in any given instance is in the best interests of the corporation. Purely as a matter of corporate law — that is, as a matter of whether the directors have appropriately discharged their fiduciary duties to the corporation — any such determination would likely be accorded substantial deference by the courts, falling as it does within the realm of “business judgment”. It simply does not follow that the authorities responsible for overseeing the various legal and regulatory regimes to which the corporation is subject are under any kind of corresponding obligation to defer to the business judgment of directors.

Why regulators are under no obligation to defer to the business judgment of directors even though courts are prepared to do so as a matter of corporate law

Why should they be? The most that a board of directors can ever claim, in view of the corporate governance framework established by the Supreme Court of Canada in BCE, is that it has duly considered how the “ancillary interests” of various stakeholders of a corporation –for example, employees, the environment or shareholders — inform the corporation’s best interests and that it has come to a careful business judgment of where the corporation’s best interests lie in the light of those considerations, among others. That might be a complete answer to the question of whether the directors have discharged their corporate law obligation to act in the best interests of the corporation — and indeed, when it comes to delicate business judgments regarding where the corporation’s best interests lie, we might be fully prepared to concede that the board’s determination should be given considerable latitude — but it doesn’t begin to justify insulating the corporation from the application of regulation that is directed at protecting interests that are distinct and independent from those of the corporation. Why should a board’s determination that, say, the interests of employees of the corporation (or of the environment, or of shareholders) deserve limited weight from the perspective of identifying the best interests of the corporation be dispositive of the degree of protection those interests deserve from regulatory regimes established for the very purpose of protecting those interests?

The OLRB would surely be within its rights to respond to any suggestion that it “vacate the field” of labour and employment regulation on the basis that the results of such regulation are “inconsistent with the power (and responsibilities) allocated to a board of directors under Canadian corporate law” by pointing out that Canadian corporate law, and in particular the BCE decision, does not displace regulation aimed at protecting the interests of participants in the labour market. It simply authorizes directors to take the interests of a corporation’s employees into account in arriving at a business judgment regarding where the corporation’s interests lie. To suggest that this license “covers the field” of labour and employment regulation, effectively reposing in corporate directors the right to say everything that there is to say about the interests of corporate employees, is to suggest that the interests of participants in the labour market figure in legal discourse only insofar as they inform the best interests of corporations and deserve legal protection only insofar as they coincide with those interests.[17] But of course it is precisely because we recognize that employee interests may not always coincide with employer interests, and because we are concerned with an imbalance of power favouring employers in cases of conflict, that we have a detailed regulatory regime aimed at protecting the rights of participants in the labour market. Far from saying all there is to say about employee interests, the determination by a board of directors that those interests are at odds with the best interests of the corporation is arguably a triggering event for considering whether they require protection by the regulatory regime. In the circumstances, any response more tolerant and accommodating than a polite “no, thank you” to the suggestion that the OLRB “vacate the field” of labour and employment regulation in deference to the powers and responsibilities accorded directors under corporate law would not only be uncalled for: it would arguably amount to an outright dereliction of duty.

So too with the regulation of poison pills by Canadian securities regulators: the claim that the ability of directors, following BCE, to consider the interests of shareholders in coming to an informed business judgment regarding whether the adoption and maintenance of a poison pill is in the best interests of the corporation somehow displaces the right and obligation of the Canadian securities regulators to actively regulate matters touching on the interests of investors in the capital markets rather misses the point of such regulation. In many cases, it is precisely because the interests of investors in the capital markets may diverge from the interests of the corporations in which they invest that regulation aimed at investor protection is necessary. The determination by corporate directors from the perspective of corporate law that the best interests of a corporation call for a given allocation of entitlements and responsibilities among corporate constituents, including shareholders, therefore does not settle whether those shareholders, viewed as distinct loci of legal worth and dignity with interests quite independent of those of the corporations they partly constitute, are deserving of regulatory protection from the entirely separate perspective of their interests as investors in the capital markets.

The upshot: the “vacate the field” crowd can’t identify a real problem with poison pill regulation by the Canadian securities regulators except by establishing that it is, after all, ultra vires

The upshot of these considerations is that proponents of the “vacate the field” view lose the ability to motivate recognition of any sort of real problem with poison pill regulation by the Canadian securities regulators once the source of their jurisdiction, and hence the legitimacy of such regulation, is properly acknowledged. At best, the claim of “inconsistency” between such regulation and the corporate law powers and responsibilities of directors is reduced to an observation that poison pill regulation by securities regulators, in contrast to what might be expected if poison pills were regulated exclusively by the courts, prefers the interests of investors in the capital markets to the best interests of corporations, as determined by corporate directors.

So what? In light of their statutorily mandated policy objective of investor protection, this is both unsurprising and entirely appropriate. Poison pill regulation by the courts, focussed instead on the best interests of the corporation and the proper allocation of entitlements and responsibilities among corporate constituents (matters in respect of which courts are generally prepared to defer to the business judgment of corporate directors), would undoubtedly prefer the interests of the corporation to the interests of shareholders. This too would be unsurprising and entirely appropriate. What we are faced with, then, are two separate regulatory/legal regimes that serve different interests and therefore can be expected to generate different adjudicative outcomes.

This does not begin to constitute a real problem unless the Canadian securities regulators are after all, notwithstanding the apparent legitimacy of their regulatory authority, interfering in matters that aren’t properly within their bailiwick — that is, unless they are speaking to corporate law matters that courts are charged with overseeing. Until that much is established, the claim that poison pill regulation by Canadian securities regulators interferes with the ability of corporate directors to exercise their business judgment regarding the best interests of the corporation is no more compelling than a claim that environmental regulation interferes with my personal ability to determine and pursue my own best interests, having such regard as I feel appropriate for environmental considerations in informing my conception of the good life.[18] Poison pill regulation by the Canadian securities regulators does not impose upon corporations a “shareholder-centric” model of corporate governance any more than environmental regulation imposes upon me an “eco-centric” conception of the good life. It surely constrains the extent to which a corporation is free to pursue its best interests (as rightfully determined by the board), just as environmental regulation constrains the extent to which I am free to pursue my best interests or my conception of the good life (as rightfully determined by me). But that’s just what regulatory regimes do: by their very nature they constrain the pursuit by those regulated of their own best interests in the name of independent interests that the regulatory regime is intended to serve. To complain about this is to assert a corporation’s right to be free of regulation of any kind whatsoever on the basis that it “inappropriately fetters” the otherwise unquestioned right and responsibility of corporate directors to identify and pursue the corporation’s best interests. I won’t linger over such an obviously wrong-headed assertion beyond pointing out that it appears, somewhat ironically, to reflect a “corporate-centric” model of legal governance.

Where do we go from here?

Perhaps sensing these difficulties, Messrs. Waitzer and Vanderpol offer a pair of separate, albeit related, arguments for why the regulation of poison pills by the Canadian securities regulators, notwithstanding its apparent legitimacy, does after all interfere in matters of corporate law. The first argument proposes that it inappropriately interferes with determinations regarding transfers of corporate control that, according to Messrs. Waitzer and Vanderpol, properly fall within the power of corporate directors. The second argument urges that it unduly restricts the ability of directors to develop a long-term business strategy in keeping with their fiduciary duty to pursue the long-term interests of the corporation. For reasons that I will make clear in upcoming contributions to Timely Disclosure, both arguments fail.