National Post (National Edition)
Ruling bolsters underwriters
Decreed they don’t owe duty of care
Thanks to a recent ruling in Ontario’s Superior Court of Justice, it’s now even more difficult for investors to sue underwriters.
And, as expected, the principle of Caveat Emptor remains the key focus for investors in deciding whether to buy or not.
Those conclusions emerge following a 35-page ruling by Justice Paul Perell, in the matter of LBP Holdings Ltd. (the plaintiff) and the defendants, Hycroft Mining Corp., the company’s two senior executives and two underwriters, Dundee Securities and Cormark Securities.
Justice Perell certified a class action against the Hycroft defendants (a motion Hycroft consented to) but dismissed the certification motion against Cormark Securities and Dundee Securities.
According to a write-up from Cassels Brock, which acted for Hycroft, the ruling is significant because it holds for the “first time that underwriters do not owe a duty of care to potential investors to perform due diligence or price securities in a particular way.”
Another law firm, Torys, which represented the underwriters, also issued a report. It said the court declined to certify the class action brought against the underwriters "on the basis the common law claim of negligence failed to disclose a cause of action and a class proceeding was not the preferable procedure.” (Instead, the preferred procedure, Justice Perell said, was for each of the investors to make individual claims in part because the average investment was almost US$310,000.)
So what’s the effect of this decision, which is in the process of being appealed?
In the view of one lawyer, the breakthrough is not the obligation to perform due diligence under the Securities Act but also under common law. “The Securities Act provides a basis to sue underwriters. The plaintiff wasn’t claiming (the right to sue) under the Securities Act but also under common law,” an avenue that’s rarely, if ever, used because of opportunities under the Securities Act.
‘On the facts of this case, the judge decided that outside of the Securities Act, underwriters don’t owe investors a duty of care. Investment banks will take some comfort from this case,” added the lawyer who noted that recently the plaintiff changed the nature of its claim: it dropped the statutory claim against the underwriter and focused instead on the common law claim. (In the U.S. investors can sue underwriters under Blue Sky law. The plaintiff switched because the time to bring a statutory claim had expired.)
For investors, the verdict means that the protection will, as before the Hycroft decision, come from the Securities Act.
The matter in question started in May 2013, when Hycroft raised US$150 million via the sale of 14 million shares at US$10.75 a share. Cormark and Dundee were the principals. The documentation included in that short-form prospectus contained “representations about Hycroft’s gold production and its ability to finance the gold mine.”
LBP Holdings claims in a July 2014 proposed lawsuit — where it sought US$47 million in damages — that before signing the underwriter’s certificate for the offering, “by the exercise of due diligence, the underwriters ought to have discovered the material facts not disclosed by Hycroft.”
In turns out that LBP (which invested US$210,000 in the offering) was onto something: In August, or less than three months later, Hycroft told the market about operational problems at the mine: over a two-day period the shares fell by 37 per cent to $3.85.
In May 2015, or about two years after the US$150 million financing, Hycroft filed for bankruptcy. In October of 2015, it completed its financial restructuring and emerged from bankruptcy.