West Face files lawsuit against Home Capital
Lender’s public disclosure alleged to be ‘inaccurate, incomplete and misleading’
Alternative asset manager West Face Capital Inc. has formally filed a lawsuit against Home Capital Group Inc. and three former executives, seeking $70 million in damages over claims the mortgage lender’s public disclosure was “inaccurate, incomplete and misleading.”
In a 17-page statement of claim filed in the Ontario Superior Court of Justice’s Commercial List, West Face described taking a large short position in Home Capital in 2013, based on the investment thesis that the lender had “aggressive” growth targets and would have to take on more risk to achieve them.
Between April 30 and Aug. 2, 2013, West Face said it built the short position by borrowing and selling 2,586,800 shares of Home Capital, betting the share price would fall if Home Capital missed its “ambitious” growth targets, or “engaged in increasingly risky lending practices, with an inevitable deterioration in the quality of its loans.” However, public disclosure in subsequent financial statements and on quarterly conference calls showed that Home Capital was achieving growth in its mortgage business, and was engaged in active risk management to prevent deterioration in the quality of the portfolio. At the same time, the document notes, Home Capital’s share price continued to increase.
“In reliance on these repeated public representations and in the absence of any disclosure of heightened risk in the mortgage portfolio or relaxed credit review standards, West Face reduced its position and ultimately abandoned its investment thesis,” the asset manager says in the statement of claim filed on Dec. 7, 2017.
Between October of 2013 and April of 2015, West Face purchased 2,586,800 shares of Home Capital to cover its short position, according to the court document.
West Face alleges that it subsequently learned the public disclosures on which it had relied to buy those shares and close out its short position “were inaccurate, incomplete and misleading.”
In the court document, the asset manager points specifically to “corrective disclosures” issued by the company in July of 2015, and “a confidential report completed by KPMG for the Board of Directors of Home Capital … (that) was leaked on the Internet” in August of 2017. West Face alleges the KPMG report “revealed for the first time that Home Capital and the individual defendants had been misleading the market with respect to Home Capital’s risk management practices since at least 2013.”
The statement of claim says West Face said it “would not have made the same investment decisions had Home Capital’s disclosure been timely, accurate, and complete.”
What’s more, it alleges “the price at which West Face purchased Home Capital’s shares was inflated by virtue of the fact that market participants were unaware of the material information that Home Capital had withheld.”
None of the allegations have been proven in court.
Home Capital disclosed last month that West Face had delivered what was, at the time, an unfiled claim seeking damages. The lender said then that it “believes it has valid defences” against the allegations, and pledged to “fully defend its conduct” if West Face filed its claims in court.
The statement from Home Capital last month also said the lender would “investigate the conduct of various short sellers and the propriety of their actions whether acting alone or in concert with others.”
Home Capital’ s disclosure was the subject of settlements last summer with the Ontario Securities Commission and shareholders who had filed a class-action lawsuit. At issue was the company’s public disclosure after it discovered that some mortgage brokers had submitted falsified income information for borrowers. Those problems, and the remedies undertaken to prevent a recurrence, caused mortgage originations to drop.
The class-action lawsuit was settled in August for $29.5 million. The court document filed last week by West Face says the alternative asset manager opted out of the class-action settlement “on the basis that investors who purchased common shares of Home Capital to close out a short position were excluded from compensation under the settlement terms.”
A West Face spokesperson said the firm is raising its claim directly with Home Capital because it has a fiduciary duty to protect its investors “who were excluded from the class-action proceeds.”